Malaysia’s capital Kuala Lumpur is a global Islamic finance hub. Photo credit: iStock/Alexpunker.
The subregion is well positioned to cater to the growing global appetite for Shari’ah-compliant financing.
The BIMP-EAGA subregion stands to gain from the rapid expansion of the Islamic finance industry, which has nearly tripled in assets size since 2012. Opportunities include not just serving large Muslim populations in the subregion but also developing international finance hubs that cater to the growing interest in Shari’ah-compliant financing and investments. Brunei Darussalam and Malaysia’s Federal Territory of Labuan are among those vying to become a global center for Islamic finance.
The latest report of the London Stock Exchange Group (LSEG) says the industry grew by 11% to $4.5 trillion in 2022 with Islamic banking holding 72 % of total assets. It is expected to grow to $6.7 trillion by 2027. As of 2022, Southeast Asia accounted for $829 billion or about 18% of the industry’s total assets.
Next to banking, the two largest contributors in terms of assets are sukuk or Islamic debt securities and takaful insurance.
The group puts Malaysia at the top of the Islamic finance development index this year once again, followed by Saudi Arabia and Indonesia. Every year, it measures the overall development of the Islamic finance industry and ranks 136 countries according to financial performance, governance, sustainability, knowledge, and awareness. Both Indonesia and Malaysia are member countries of BIMP-EAGA.
Increased ESG financing
The report notes rising interest in sukuk, Islamic debt securities, even among non-Muslims who are seeking investments that align with environmental, social, and governance (ESG) principles. Green and sustainability sukuk was a key theme at COP28 in Dubai. It is widely recognized that climate action aligns with Islamic finance’s ethical and faith-based principles.
Global ESG sukuk issuance totaled $8.4 billion in 2022, up almost 38% from $6.1 billion in 2021. By the end of 2022, Islamic ESG funds amounted to $6.6 billion in value outstanding, down 14% from their peak of $7.6 billion in 2021.
A study by the Asian Development Bank (ADB) and Islamic Development Bank (IsDB) sees bright prospects for Islamic climate finance given the uptrend in ESG investing. It notes that the “high demand for Shari’ah-compliant consumer banking across unbanked populations of common member countries [of ADB and IsDB]” has a high potential for developing sustainable Islamic finance and Islamic climate finance in Asia. It cites that zakat or charity programs and awqaf or Islamic microfinance can play an important role in addressing the disproportionate impacts of climate disasters on disadvantaged groups.
Malaysia and Indonesia are leaders in sukuk, which they have leveraged to finance social and green projects. The LSEG report says Malaysia issued 41% of total sukuk in 2022, while Indonesia accounted for 11%.
A UNDP report however points out that the two BIMP-EAGA countries are taking different development tracks for Islamic finance. Malaysia is focusing more on investment banking and Islamic financial products. It is looking at financial technology (fintech) to further drive the development of its Islamic capital market and innovative products. On the other hand, Indonesia is developing retail banking more and has the largest financial service institutions and customers in a single jurisdiction as well as Islamic microfinance.
Global ambitions
An article from Investment Monitor identifies Malaysia’s capital Kuala Lumpur as a global Islamic finance hub along with Dubai, London, Manama, and Riyadh, while Indonesia’s capital Jakarta is an emerging hub together with Doha in Qatar, Istanbul in Turkey and Islamabad in Pakistan.
In the BIMP-EAGA subregion, Brunei Darussalam is developing and strengthening its Islamic finance ecosystem. The private sector, including fintech and telecommunications companies, is also contributing to advancing its development. One of the initiatives is to create a Shari’ah-compliant Digital Finance and Economic Zone through a public–private partnership with NASDAQ-listed Greenpro Capital Corp. The project was announced in 2021, and it is supported by the Brunei Darussalam BIMP-EAGA Business Council. This is expected to promote Islamic fintech and create a digital asset exchange for the subregion, which can later include other ASEAN countries.
Labuan also aspires to become a digital gateway with Islamic finance capabilities for different types of global investors and players, including those looking for ESG investments. In 2022, the Labuan Financial Services Authority (Labuan FSA) launched an Islamic Digital Asset Center that will use technology-driven solutions, such as virtual listing using blockchain technology and smart contract, to meet the rising demand for sustainable finance. According to the LSEG report, digitalizing Islamic social finance, such as Waqf and Zakat, is one of the enabling initiatives.
In the same year, the Labuan International Business and Financial Centre (Labuan IBFC) launched its first Shari’ah-compliant ESG-based digital exchange with Greenpro Capital as operator. It focuses on tokenization of securities, including digital sukuk, enabling the immediate buying and selling of securities.
The Islamic finance industry faces some challenges that could hinder its development, including global headwinds, which affected the performance of Islamic funds in 2022. Overall, however, the future of the industry looks promising as Shari’ah governance and market transparency are improved further in established markets while the number of new or emerging markets for Islamic finance continue to grow.