Islamic FinTech: More Virtual Than Reality?

I was invited recently to be part of a panel on global payments at the “1^st Islamic FinTech Summit”, held at an international law firm in the City of London. Alongside me on the panel were the CEOs of two FinTech companies that provide technology to companies who want to set up their own banks.

FinTech is the shortened version of the phrase ‘Financial Technology’, which is now used to describe businesses that offer financial services using software and modern technology. One of the questions asked to the panellists was: “Is FinTech the solution to global inequality”?

Evolution or Revolution?

The answer to this is fairly complex, but with the right application FinTech has the potential to empower individuals financially and offer new routes into financial inclusion. Globally, 1.7 billion people still do not have access to a bank account, ^[1] however, mobile penetration is increasing at a phenomenal rate and the provision of banking services through mobile phones will give the developing world even more access to financial services, and thus, a return to the providers.

Can the integration of Islamic Financial Principles into FinTech help provide a solution? I am to some degree sceptical about this, given that Islamic Finance had a prime opportunity to challenge the conventional banking system in the recent global recession, yet did not. The reason for this, is that in the wrong hands, Islamic Finance can become another tool for purely making money. It can be structured in an apparently Sharīʿah compliant manner, failing to provide the outcomes that the Sharīʿah intends to provide. The underlying maqāṣid (objectives) of Islamic Finance is the fair and equitable distribution of resources, which protects rights and ensures obligations are fulfilled in a transparent manner, irrespective of economic power. However, if it is the same players who are providing the same products, albeit more quickly and more efficiently, then FinTech will merely support the status quo, failing to achieve its full potential as a tool to increase access to financial services.

That said, FinTech has already shown promise in offering both investors, and those in need of funding, an alternative. A prime example of this is the growth of crowdfunding, a sector with a global annual growth rate of 167%. In 2014, the worldwide crowdfunding volume reached $16.2bn and it is still accelerating. Whilst much of this growth has been driven by lending-based platforms, which usually fall short of the Islamic Ethical principles, what we are seeing now is an ethical investing revolution, favouring equity-based platforms. This equity-based method has Sharīʿah–compliant applications, boasting a staggering growth rate of 182%, outperforming the sector as a whole, whilst still fulfilling personal religious or ethical obligations.

A very simple approach to understanding Islamic Finance is to consider it being made up of two parts. The first consideration is the item or service being invested in: investing in industries that profit from interest, alcohol, gambling, or pornography are quite easy to filter out and are commonly known to be non-Sharīʿah compliant. The second consideration, and perhaps more complicated one, is the way in which the transaction takes place. There are clear boundaries that determine a transaction impermissible – e.g. sale is not under duress; there is no fraudulent activity; the buyer and seller both know what they are buying and what they are selling respectively; there is real ownership; and so on. Unfortunately, even these are open to abuse. I emphasise this point of outcomes that the Sharīʿah provides consistently, because it goes beyond simple structures and looks holistically at the different parties involved and can deem that even though a particular product may be ‘Sharīʿah- compliant’, it may not be in the benefit of a party.

An example of this is known as the murābaḥah structure, defined by the Accounting and Auditing Organisation for Islamic Finance Institutions (AAOFI) as “the sale of goods at cost plus an agreed profit mark-up.” ^[2] In its simplest form the “mark-up” is for deferred payments in instalments. The seller has the right to charge what they want for the item they are selling and if both parties agree, then this transaction is acceptable under the Sharīʿah: it meets the letter of the law.

An equivalent to a murābaḥah transaction can be found in the UK, under the rent-to-own schemes offered by some retailers. Rent-to-own schemes offer people the chance to buy items they need for their home – such as TVs or washing machines – through smaller, regular payments, instead of paying for the goods in one go.

In response to individuals taking advantage of rent-to-own schemes, from 1 April 2019, the Financial Conduct Authority (FCA) in the UK introduced a price cap on rent-to-own schemes. ^[3] The FCA found that once (interest/mark-up) charges have been added, some rent-to-own consumers have ended up paying more than four times the retail price they would have paid in normal shops. ^[4] Thus, it can be argued that whilst such transactions might technically meet the letter of the (Islamic) law, they have failed to provide a good outcome for one of the parties, and therefore violate the maqāṣid of the Sharīʿah.

The Way Forward for Islamic Finance and FinTech

The digital age provides an opportunity for confusion as well as clarity. In the global markets, products can change digital hands multiple times and ownership can be transferred within seconds, so it can be difficult to determine exactly what the buyer and seller are transacting in. As a result, it can be difficult to determine who has genuine ownership at the point of sale.

That said, technological infrastructure offers numerous tools to help transact a deal securely and quickly, such as digital security, unique referencing, and instantaneous transfer. Financial transactions under the Sharīʿah are highly regulated, requiring what is known as a ‘spot transfer’. Historically, these types of transfers have been difficult to execute; standard settlement terms tend to take two or three days. Being able to enter into a monetary exchange without time-delay is proving revolutionary to the Islamic Finance industry, increasing the both the availability and scalability of Islamic financial markets.

As of 2014, the market for Islamic financial assets was estimated to be worth $1,814 billion and is projected to increase to a valuation of $3,247 billion by next year. ^[5] The combination of a young tech-savvy population who want products aligned to their faith provides an opportunity for FinTech as an enabler, to provide products that not only meet the letter of the law when it come to the Sharīʿah, but also the spirit of the law in a manner that reflects their lifestyles and tastes.  Regarding performance, Islamic financial products have a solid track record. Research from the International Monetary Fund (IMF) shows that “Islamic banks, on average, showed stronger resilience during the global financial crisis”. ^[6] Thus, it is clear that the opportunities associated with this growing market are not to be underestimated.

The number of platforms that allow investment directly from an app or web browser has exploded in recent years, and so has the opportunity for similar Sharīʿah-compliant services. Recent government regulatory activity in the UK, US, and EU permit the marketing of investment products to accredited and non-accredited investors alike, spurring a wave of innovation in the marketing and availability of Islamic financial investment opportunities.

An example of some of the companies in this new wave of Islamic Finance opportunities found in the UK are:

1. Yielders[7]

Yielders is a property crowdfunding platform that is Sharīʿah-compliant and FCA authorised. They have successfully taken a simple model and enhanced it for the digital age. Again, they have a low starting investment amount, but also cater for the more sophisticated investor too.  Their equity-based model forgoes involvement with debt, interest, banks, or mortgages, whilst still being competitive and investing in tangible physical assets that everyone understands.

2. Wahed Invest[8]

No doubt you would have seen some form of advertising from Wahed Invest over the last few months. Wahed Invest is an online Sharīʿah-compliant investment platform that allows you to invest in one of a number of pre-set investment portfolios that vary based on risk appetite. They have a low investment amount for entry and can cater for larger investors too. It allows people to invest in Sharīʿah-compliant funds without having to individually check each fund. Wahed Invest is FCA registered.

Sign up to Wahed Invest here and support Islam21c at the same time

https://halal.wahedinvest.com/Islam21c

3. Primary-Finance[9]

Primary-Finance is an ethical start-up and a FinTech enabler. Primary-Finance came about from a desire to provide a genuinely Sharīʿah-compliant Home Purchase Plan, that was competitive and did not subject the purchaser to the same terms that conventional mortgages gave, as well as existing players in the Sharīʿah-compliant Mortgage space. Their aim is to provide a better home purchasing finance product, and by better they mean ḥalāl and quicker. Primary-Finance is currently going through FCA approval.

In the charity space, we also have Muslim Giving,[10] and Jumah Pay,[11] which further exemplifies that there is not a lack of talent in this space.

I sincerely believe that FinTech presents an opportunity to redress global inequality if it is managed the right way, and with the right players at the helm. It is already opening opportunities for banking services without bricks and mortar, as well as giving individuals access to markets that were previously only for big players, such as hedge funds and asset managers. FinTech needs to be a tool for solving real-world problems and democratising financial power, rather than monetising old-world greed.  How do we do this? There is no easy answer, but the regulators have a role to play. They need to engender a market in which FinTech companies do not need to be snapped up by the large banks to be viable or devote their innovation to service the banks’ needs. The regulators also need to be clear on the application of rules to FinTech organisations, particularly the balance between being a financial institution and a technology company.

FinTech offers a key solution to the predominant challenge for existing Islamic Finance Institutions, being that they had to operate within an existing banking framework, making it difficult to implement a comprehensive application of Sharīʿah, thereby limiting their freedom to be creative. This is why the Islamic Finance industry is filled with a dearth of Sharīʿah-compliant products as opposed to Sharīʿah-based products. FinTech, itself being disruptive, is an opportunity for the market to innovate and produce Sharīʿah-based products that democratise opportunities for enterprise.

In retrospect, it appears that the more developed economies are set to benefit from the opportunities for financial inclusion and liberalisation that FinTech technology is offering. However, for Islamic Fintech to be a real solution to financial exclusion and global inequality worldwide, there is a real need for innovation of better products from a Sharīʿah perspective that are delivered in a more people-centric manner. 

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Source: www.islam21c.com

Notes:

[1] http://www.worldbank.org/en/news/immersive-story/2018/05/18/gains-in-financial-inclusion-gains-for-a-sustainable-world?cid=ECR_TT_worldbank_EN_EXT

[2] (Financial Accounting Standard No. 2: Murabaha and Murabaha to the Purchase Orderer, Appendix B, Item 1/1)

[3] https://www.fca.org.uk/news/press-releases/fca-confirms-introduction-rent-own-price-cap

[4] https://www.bbc.co.uk/news/business-47452571

[5] State of the Global Islamic Economy Report 2015/2016, p.40.

[6] https://www.imf.org/en/News/Articles/2015/09/28/04/53/sores100410a

[7] https://yielders.co.uk/

[8] https://halal.wahedinvest.com/Islam21c

[9] https://primary-finance.com/

[10] https://www.muslimgiving.org/

[11] https://www.jumahpay.com/