Islamic Finance in Africa: A Promising Future

Islamic Finance in Africa: A Promising Future September 2015 Contents Foreword 2 Section 1: Economics and Financial Dynamics of Africa Overview ...
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Islamic Finance in Africa:

A Promising Future

September 2015

Contents Foreword

2

Section 1: Economics and Financial Dynamics of Africa Overview

6

Drivers of Growth

7

Key Investments in Foreign Countries

11

Trade

13

Inflation and Monetary Policy

15

Fiscal and Current Account Balance

16

Challenges

18

Section 2: Islamic Finance Opportunities in Africa Overview

20

Global Islamic Banking Sector

23

Global Sukuk Sector

23

Global Islamic Funds

25

Global Takaful

26

Opportunities for Islamic Banks in Africa

28

Islamic Capital Markets in Africa

30

Islamic Fund Management in Africa

34

Takaful in Africa

34

Islamic Finance Outlook in Africa

35

1

ICD Global Offices Cairo, Egypt Istanbul, Turkey Headquarters Jeddah, Saudi Arabia Tashkent, Uzbekistan Dakar, Senegal

Almaty, Kazakhstan Dhaka, Bangladesh Kuala Lumpur, Malaysia Jakarta, Indonesia

2

Islamic Finance in Africa: A Promising Future September 2015

Foreword

A Promising Future for Islamic Finance in Africa Since its inception nearly four decades ago, the global Islamic finance industry has experienced its most rapid pace of progress to-date. Total Islamic assets worldwide have increased substantially from around USD150.0bln in the 1990s to approximately USD2.1tln today. Moving forward, based on current growth momentum, the industry is forecasted to amass USD6.5tln in assets by the year 2020. At present, Islamic finance is in its transition to the next stage of development with greater international integration. For this reason, collective efforts undertaken by both regulators and Islamic finance institutions to mobilise a higher level of global cooperation will help to further enhance the prospects of the industry moving forward. Positively, Islamic finance is now not only confined to Muslimmajority countries. Beyond its traditional sphere, the industry has found firm footing in new jurisdictions, such as in Europe, the US, the Far East and more recently, in sub-Saharan Africa, serving both sovereign and corporate clients. Throughout this period, Islamic finance institutions have exhibited the aptitude and willingness to innovate its products and service offerings, thus increasing its relevance across many economic sectors with different financing needs and demonstrating its viability as an engine of growth. In light of Africa’s bright economic prospects and rapidly growing population, where currently more than 1 billion people call it home, the continent boasts relatively untapped potential for Islamic finance. While still comparatively underdeveloped, Islamic finance has recently made significant strides into the continent. Several countries in Africa are already planning sukuk debuts for this year, including Tunisia, Egypt, and Kenya. This follows firsttime sovereign sukuk issues by South Africa and Senegal in 2014

and Nigeria in 2013, highlighting the key role of governments in spearheading the development of the industry. On the consumer front, Islamic finance can be utilised as a strategic tool to tap into the unbanked population in Africa, while addressing the issue of financial inclusion in several ways. For example, risk-sharing contracts inherent in Islamic finance complemented with the redistributive instruments such as zakat, sadaqah, qard al-hassan and waqf can create an enabling environment for economic and social development, which bodes well for overall growth. Through our portfolio of activities, ranging from investments in Islamic banks, leasing companies, advisory on sovereign sukuk issuances as well as financing of infrastructure projects in key economic sectors, we at the Islamic Corporation for the Development of the Private Sector (ICD) aim to complement Islamic finance’s role as a facilitator of growth. With our unique presence in over 20 African countries, it is our commitment to further contribute to the maturation of the Islamic finance industry in its bid to enter the mainstream of the global economy. We hope that this report will provide some constructive and valuable insights which will not only be stimulating but also serve as a timely reminder of the growing Islamic finance industry in Africa and its opportunities moving forward.

Faithfully,

Khaled Al - Aboodi Chief Executive Officer Islamic Corporation for the Development of the Private Sector

3

4

Islamic Finance in Africa: A Promising Future September 2015

Section 1

Economics and Financial Dynamics of Africa Overview Drivers of Growth Key Investments in Foreign Countries Trade Inflation and Monetary Policy Fiscal and Current Account Policy Challenges

6 7 11 13 15 16 18

5

Economics and Financial Dynamics of Africa Five years after the financial crisis, the global economic and financial system continue to operate in an environment of heightened volatility. On a positive note, the early-year weakness in some of the advanced economies is paving way to improving performances, and expectations are slowly building that global activity may finally achieve a higher growth trajectory. However, the multitude of challenges that have confronted much of the world in recent years — uneven global activity triggered by one-off events, the austerity and structural forces restraining many economies, the recurring and growth-dampening geopolitical events, and the heightened volatility in financial and currency markets — continue to reinforce the lingering uncertainty surrounding the outlook. After another slow start this year, the US economy appears to be regaining some momentum. Consumers have been progressively increasing their spending. Auto sales are running at their highest level in a decade, and major purchase plans are trending higher. Housing activity is also recovering, with both home sales and construction touching multi-year highs. A gradual easing in lending conditions combined with still reasonable affordability, strengthening household formation and improving job markets should facilitate the recovery in the face of moderately higher borrowing costs going forward. Solid job gains — a record 12.8 million net new private sector jobs have been created since the recovery began about six years ago — have helped push the overall unemployment rate to a seven-year low of 5.3%, and alternative measures of labour market under-utilisation continue to improve. Incomes are on the rise, bolstered by low pump prices, and household sheets are benefiting from both reduced debt and higher asset valuations. With regard to Greece’s latest sovereign debt crisis, there appears to be much stronger financial backstops put in place by the European Central Bank (ECB) and the euro zone to contain the regional fallout associated with a potential ‘Grexit’. Even so, any

adverse consequence could eventually morph into a more systemic problem with global financial and economic consequences if the contagion is allowed to affect other highly indebted nations in both Europe’s periphery and core countries. Meanwhile, emerging economies are facing bouts of destabilising financial flows due to exogenous events such as the US quantitative easing taper plans and geopolitical crises. Much of the uncertainty surrounding the outlook of emerging economies is focused on China. The world’s second largest economy remains a relative outperformer, with recent monetary and fiscal initiatives appearing to have provided some renewed support for the languishing housing sector. However, China continues to transition to a much slower overall growth trajectory, relying more on consumer-led activity and less on government-sponsored investments and credit-sensitive borrowing. The moderating trend in growth and reduced demand for commodity and manufactured inputs has rippled across both regional and global supply chains, affecting the country’s diverse mix of regional and international trading partners. China’s large equity market sell-off adds another layer of uncertainty to an already less buoyant outlook.

Africa: GDP Growth (2001 – 2015F)

Africa Africa excluding Libya World

Growth Rate (%)

7 6 5 4 3 2 1 0 2001

2002

2003

2004

2005

Source: Statistics Department, African Development Bank

6

Islamic Finance in Africa: A Promising Future September 2015

2006

2007

2008

2009

2010

2011

2012

2013

2014

E2015F

Amidst the uncertainty, Africa’s prospects remain promising. According to a joint report recently released by African Development Bank, OECD and the United Nations Development Programme, Africa’s Gross Domestic Product (GDP) growth is expected to strengthen to 4.5% in 2015 and 5.0% in 2016. This follows a subdued expansion in 2013 (3.5%) and 2014 (3.9%), underpinned by a weak global economy, while a few African countries experienced severe domestic problems of various natures. Moving forward, as the world economy improves, albeit at a slow place, it is expected that Africa will soon be closing in on the impressive growth levels seen before the 2008/2009 global economic crisis. GDP per Capita at Purchasing Power Parity (PPP): Top 10 African Countries (2014) World Rank

Country

GDP per capita (USD)

38

Equatorial Guinea

32,557.00

51

Seychelles

24,522.58

60

Gabon

21,619.57

82

Botswana

15,981.61

97

South Africa

12,721.88

109

Namibia

10,764.19

122

Angola

8,185.88

126

Morocco

7,666.36

134

Republic of Congo

6,571.95

Nigeria

6,081.67

137

Top 3 Globally 1

Qatar

144,426.51

2

Luxembourg

92,506.63

3

Singapore

81,345.67

Source: World Bank *World Average: USD17,826.95

Domestic demand remains a key growth driver in many African countries, while external demand has remained tepid as a result of flagging export markets

Drivers of Growth Domestic demand has and will continue to play an important role in propping up growth in many African countries. Meanwhile, external demand has remained largely muted underpinned by flagging export markets, markedly in advanced countries and, to a lesser extent, in emerging economies. Export values of goods were also depressed by lower export prices, although in the near term, African exports are expected to strengthen later in the year and in 2016 as the global economy rebounds. In 2014, domestic demand in most countries were boosted by private consumption and public infrastructure investment, with the latter also increasingly financed by issuing international sovereign bonds. Development of African and World Exports of Goods (2008 – 2014) Africa Exports (right axis) World (le! axis) USD bln

USD bln

5000 4000 3000 2000 1000 0 1Q08

2Q08

1Q09

3Q09

1Q10

3Q10

1Q11

3Q11

1Q12

3Q12

1Q13

3Q13

1Q14

3Q14

Source: IMF 7

On the supply side, many African countries have sought to improve their investment climate and conditions for doing business, which subsequently enhance long-term growth prospects. Notably, Benin, Côte d’Ivoire, the Democratic Republic of the Congo (DRC), Senegal and Togo are even in the top ten countries worldwide with the most reforms implemented to make it easier to do business. According to the Doing Business 2015 survey conducted by the World Bank, sub-Saharan Africa accounted for the largest number of regulatory reforms in 2014, with 39 countries successfully reducing the complexity and cost of regulatory processes and 36 countries strengthening legal institutions.

Global: Doing Business (2015) Share of economies with at least one reform making it easier to do business Europe & Central Asia 85% Sub-Saharan Africa 74% OECD High Income 65% East Asia & Pacific 60%

In 2014, Africa’s supply side growth was mainly driven by agriculture, extractive industries, construction and services, and to a lesser extent, by manufacturing. In any case, sectoral growth should not be seen in isolation, as there are important spillovers between sectors. Furthermore, modernisation and structural transformation, the process by which new, more productive activities arise and resources move from traditional activities to these newer ones, is also happening within some sectors.

Middle East & North Africa 55% La!n America & Carribean 50% South Asia 50% 0%

20%

40%

60%

10%

100%

Source: World Bank Doing Business Survey 2015

Overview: Africa’s Economic Sectors Agriculture • • • •

Africa’s largest economic sector Accounts for 60.0% of employment Accounts for ¼ of GDP Vulnerable to erratic weather and international farm prices

• Important for resource-rich countries • Include oil, copper, diamonds, mining, gold • With expected moderate recovery of the global economy and some increase in international commodity prices, extractive sectors will continue to support growth in most of Africa’s resourcerich countries, even if its GDP share may continue to decline

Construction

Services

• Share in GDP is increasing • In some African countries, the sector is as large or even larger than the manufacturing sector • Booming infrastructure and housing investment provides support

• Principal engine of growth in Africa • ICT is boosting the productivity of the sector, and supporting economic and social inclusion • The share of services in GDP has increased in many African countries

Manufacturing

Tourism

• Remains relatively small, it tends to be smallest in less developed countries and where natural resources are abundant • The sector is hampered by a lack of skilled labour, poor transport infrastructure, and unreliable and expensive energy

• An important industry for Africa, however it has been affected by economic weakness in key markets (Europe), the Ebola outbreak, and security and political problems in some African countries

Source: African Development Bank

8

Extractive Sectors

Islamic Finance in Africa: A Promising Future September 2015

“The end of the commodity super-cycle has provided a window of opportunity to push ahead with the next wave of structural reforms and make Africa’s growth more sustainable”

To date, African economies have been relatively insulated by the strong decline in oil and other commodity prices. Production of commodities have often increased despite the lower prices, and overall growth has also been boosted by other sectors. However, if commodity prices are to remain depressed or decline further, growth in resource-rich countries might slow down as it is necessary for governments to minimise spending. Notably, the

region’s oil exporters will be affected and, with limited buffers, are expected to affect significant fiscal adjustment, with adverse implications for growth. Moving forward, governments will be keeping a close watch on conditions in key markets, especially China and Europe. On the flip side, there are some positive effects, as lower oil prices ease inflation, increase real incomes and strengthen export markets.

IMF Commodity Price Index (2005 – July 2015) Index (2005=100)

300.00 250.00

IMF Commodity Price Index Non-fuel Price Index Fuel (Energy) Index

200.00 150.00 100.00 50.00 0.00 Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul Jan Jul 04 04 05 05 06 06 07 07 08 08 09 09 10 10 11 11 12 12 13 13 14 14 15 15 Source: IMF

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Regional Breakdown While Africa’s collective long-term prospects are strong, the growth trajectories of its individual countries will differ, underpinned by various factors namely: • • • •

Differences in income levels Availability of natural resources Macroeconomic policies Political and social stability

Regional economic breakdown shows that growth remains the highest in East, West and Central Africa, and the lowest in North and Southern Africa. The ultimate challenge in all regions is to diversify and make growth more inclusive. In 2014, Central Africa’s growth increased to 5.6% from 4.1% in 2013. Economic conditions are, however, markedly different between countries. The Central African Republic is affected by a political and security crisis. GDP will remain much lower than before the conflict broke out at the end of 2012 despite some moderate growth. Meanwhile, in Equatorial Guinea, GDP continues to fall on the back of lower oil production. Moving forward, all other countries in the region should remain on a relatively high growth path. Despite the negative impact from lower commodity prices, the mining sector and related investment will remain as the main engines of growth in the region. However, in some of the countries, such as in Cameroon, the Democratic Republic of the Congo, Gabon, and Sao Tome and Principe, growth is broader-based. Meanwhile, East Africa’s growth fast-tracked in 2014 to more than 7.0%, from below 5.0% in 2013. Countries such as Ethiopia, Kenya, Rwanda, the United Republic of Tanzania and Uganda have successfully maintained their relatively high growth. As these countries have small mining sectors and their manufacturing is also not very large, or has declined as a percentage of GDP, their growth is more driven by services and construction. However, countries are achieving growth with different degrees of sectoral transformation. In Ethiopia, structural changes are most pronounced with the share of agriculture in GDP shrinking (although remaining higher than in the other countries) and services expanding more than in the other countries. In Sudan, growth remains weaker as the economy is still coping with the shock of South Sudan’s secession in 2011 and the loss of oil revenues. Africa: Growth by Region (2013 – 2016F) Region

2013

2014E

2015E

2016F

Africa

3.5

3.9

4.5

5.0

Central Africa

4.1

5.6

5.5

5.8

East Africa

4.7

7.1

5.6

6.7

North Africa

1.6

1.7

4.5

4.4

Southern Africa

3.6

2.7

3.1

3.5

West Africa

5.7

6.0

5.0

6.1

Source: Statistics Department, African Development Bank

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Islamic Finance in Africa: A Promising Future September 2015

Moving forward, East Africa’s growth is projected to decelerate to 5.6% in 2015 and accelerate again to 6.7% in 2016. East Africa will then again become the continent’s fastest growing region. Positively, East Africa recorded the highest increase in foreign direct investment in 2014. Fluctuations in East African average growth are due to volatile development in South Sudan, where armed conflict cut oil production and GDP in 2013. It recovered in 2014 but is projected to decline again in 2015, although forecasts for this country are highly uncertain and depend on the evolution of the peace process. West Africa achieved relatively high growth of 6.0% in 2014 despite its battle with the Ebola virus. The virus significantly impacted growth in the most affected countries, Guinea, Liberia and Sierra Leone. In Nigeria, Africa’s largest country and oil exporter, growth accelerated to 6.3%, from 5.4% in 2013. It was again driven by the non-oil sector, notably services, manufacturing and agriculture, which shows that Nigeria’s economy is diversifying. Its oil and gas sector has declined to around 11.0% of GDP and is now a similar size to manufacturing at around 10.0% of the total. On the back of the sharp decline in oil prices and with limited buffers, the authorities are cutting capital spending and have adjusted monetary and exchange rate policies to relieve pressures on the public finances and the currency. Benin, Côte d’Ivoire, Niger and Togo also remained on a relatively high growth path. However, growth slowed in Ghana and Gambia’s economy shrank slightly. Moving forward, West Africa’s growth is projected to become more moderate in 2015 and to strengthen again in 2016, driven mainly by Nigeria. Growth in North Africa remains patchy as the outcome of the uprisings of 2011 is still dampening growth prospects. Libya continues to be volatile with power struggles between various groups and a collapse of political and economic governance. Its oil production declined again in the first half of 2014. Despite some recovery in the second half, growth dipped into the negative territory again in 2014 and prospects are highly uncertain. By contrast, greater political and economic stability is helping to improve business confidence in Egypt and Tunisia. In Egypt, the successful outcome of the March Egypt Economic Development Conference secured over USD60bln worth of investments, loan agreements and grants and reinforced the government’s commitment to continue the structural reforms and promote inclusive growth. Meanwhile, in Tunisia, four years of political transition ended in 2014 with elections held and a new constitution approved, which helped to reassure investors. Moving forward, the gradual recovery of export markets and improved security should support overall growth in both these countries, especially in tourism, although in Tunisia terrorist attacks in March 2015 and late June 2015 have created new concerns. Southern Africa’s growth was lackluster at 3.0% in 2014, and only a moderate recovery is projected for 2015 and 2016. The subdued performance is due to the relatively poor growth in South Africa. The key economy’s growth fell to 1.5% in 2014 from 2.2% the previous year. It suffered from weakened demand in trading partners and lower prices for its raw materials, while labour unrest and problems in the electricity sector disrupted economic activity. South Africa’s growth is projected to recover gradually on the back of more buoyant export markets and improved competitiveness as result of the large depreciation of the rand.

Key Investments in Foreign Countries In 2014, total external flows to Africa were estimated at USD181.0bln, 6.0% lower in nominal terms than in 2013. This decline stemmed from a sharp drop in portfolio flows and a slight decline in foreign direct investment (FDI) flows, indicating subdued global demand and weaker commodity prices, especially for metal. This decrease offset the slight increase in remittances (2.1%) and official development assistance (ODA) (1.1%). Overall, estimates for total external flows averaged 7.3% of GDP in 2014, compared to 8.2% in 2013. External Financial Flows to Africa (2000-2015F) 250.0

USD bln

% y-o-y

14.0% 12.0%

200.0

10.0%

150.0

8.0%

100.0

6.0%

50.0

4.0%

0.0

2.0%

-50.0

0.0% 2000

2001

Remirancest

2002

2003

2004

2005

2006

Official development assistance

2007

2008

2009

2010

Por"olio investment

2011

2012

2013 2014E 2015F

Foreign direct investments

% GDP

Source: African Development Bank

In the past 10 years, external financial flows have majorly contributed to the financing of Africa’s development. Private external flows in the form of investment and remittances, have growth in importance and are driving growth in external finance. Africa has attracted increasing foreign investment, notably from other emerging economies and within the continent. According to recent surveys, the attractiveness of Africa as an investment destination highlight the increasing confidence and optimism of African investors towards investment opportunities on the continent. A survey by Ernst & Young (2014) highlighted that this growing optimism has translated into a surge in intra-African investment. In terms of FDI, Africa’s share of global FDI projects reached its highest level in a decade in 2013, at 5.7%. FDI inflows rose to USD54.2 billion, up 9.0% from 2012, underpinned by regional and international investment

FDI is diversifying away from mineral sources into consumer goods and services and is increasingly targeting urban centers in response to the needs of a rising middle class

in the extractive sector, infrastructure and consumer-oriented industries. Latest 2014 estimates show a slight decline to USD49.4 billion, however 2015’s inflows are estimated to reach USD55.0 billion, together with the continuous growth in the emerging middle class which will further boost FDI in consumer-oriented sectors.

Africa: Top Foreign Direct Investment Destinations by Value of Investment (2014) Country

Value (USD bln)

Main Sectors

Ghana

5.7

ICT, retail

Morocco

4.7

Manufacturing, real estate, food processing

Mozambique

4.1

Infrastructure, gas

Congo

3.6

Oil

Egypt

3.5

Oil, gas, automotive

South Africa

1.6

Infrastructure

Source: African Development Bank

estimated 42.0% share of FDI, compared to 2008’s 19% figure. In 2014, the FDI-to-GDP ratio for non-resource-rich countries stood at 4.0%, double the 2002 level. On the flip side, the ratio for resource-rich countries shrunk from 4.0% to 1.5% over the same period. This highlights the attractiveness of consumer-oriented sectors for FDI.

Traditionally, foreign investments centered on resource-rich countries, although there is a growing trend for non-resourcerich countries accounting for an increasing share of FDI. According to the IMF, in 2014, non-resource-rich countries received an

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FDI in Resource-Rich Countries vs. Non-resource-rich Countries (2000 – 2015F) Resource-rich countries (le! axis) Non-resource-rich countries (le! axis)

Resource-rich countries (right axis) Non-resource-rich countries (right axis)

USD billion

% GDP

60

6%

40

4%

20

2%

0

0% 2000

2001

2002 2003

2004 2005

2006

2007

2008

2009

2010

2011

2012 2013

2014

2015

Source: African Development Bank

The outlook for FDI flows to Africa is promising. FDI flows to Africa are expected to grow by 12.0% in 2015, reaching USD55.0bln. According to the IMF, the largest recipients of FDI are projected to remain almost the same as 2014, namely Egypt (USD6.5bln), Morocco (USD5.2bln), Mozambique (USD5.0bln), South Africa (USD4.2bln) and Congo (USD2.8bln). However, investor enthusiasm may diminish as a result of recent external and domestic risks such as declining commodity prices, the slowdown in emerging economies especially China, and spillover effects from the Ebola outbreak and political instability.

FDI should rise in 2015, but slowing commodity prices, domestic political risks and the Ebola outbreak may undermine investor confidence

Sources of Greenfield Investments in Africa (By Number of Projects) Rest of the world 21.0%

Africa 11.0%

Rest of the world 18.0%

Africa 19.0%

China 2.0% India 4.0% China 3.0% India 6.0% North America 18.0%

Europe 44.0%

Europe 44.0%

North America 13.0%

2003 – 2008

2009 – 2014

Source: UNCTAD

Source: UNCTAD

Migrant remittances continue to grow and represent the single largest source of international financial flows to African countries, accounting for about 33.0% of total external financial inflows since 2010. Official remittances have increased six- fold since 2000 and are projected to reach USD 64.6bln in 2015 with Egypt and Nigeria receiving the bulk of flows. While private capital flows are volatile, remittances constitute a more stable source of foreign exchange and are therefore more suitable for longer-term purposes such as financial sector development.

Traditional perceptions of remittances link them to spending on consumption rather than productive investment. However, evidence from Burkina Faso, Kenya, Nigeria, Senegal and Uganda shows that African households receiving international remittances from OECD countries have invested in buying agricultural equipment, building houses, starting businesses, purchasing land and improving farms.

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Islamic Finance in Africa: A Promising Future September 2015

15 Largest Recipient Countries in Africa (Ranked by % of GDP, 2014) Country

% GDP

USD per capita

Current USD billion

Lesotho

22.2

285.6

0.55

Gambia

21.1

100.3

0.19

Liberia

18.6

92.0

0.39

Senegal

10.5

114.3

1.66

Cabo Verde

10.0

381.0

0.20

Comoros

9.7

97.1

0.07

Togo

7.2

49.7

0.35

Mali

6.8

46.9

0.81

Sao Tome and Principe

6.6

121.6

0.02

Egypt

6.3

210.8

18.00

Source: World Bank

Overall, private flows will continue to play an increasingly important role. Total external flows to Africa are estimated to reach USD193.0bln in 2015, mainly due to a surge in portfolio inflows and a slight increase in remittances and FDI. In this respect, governments will need to develop policies and incentives that better match investor preferences with investment needs, so as to ensure that long-term sustainable development needs. Meanwhile, countries with a large population of migrants possess an opportunity to harness the potential of remittance flows, using them as a catalyst to develop the financial sector and spur investment and growth.

Remittances have a huge unexploited potential to spur investment in Africa. Remittances continued to grow in 2014, with Egypt and Nigeria receiving the bulk of flows

Trade The mid-1990s brought in two decades of robust growth in the region, underpinned by sound macroeconomic policies by governments and favourable external conditions. Indeed, trade has been a powerful engine for growth, but far less for labour productivity gains. However, with the global environment turning less accommodating, it will be key for the region to foster the growing trade ties of the past 20 years. According to UNCTAD, regional trade in Africa remains low in spite of efforts by African governments to fast track the establishment of a continental free-trade area and boost intraregional trade. In the last 10 years, only about 12.0% of Africa’s total trade took place within the continent. This could point at a lack of development of regional value chains and low levels of trade in intermediates between African countries. Positively, recent trends in African total trade flows — exports and imports — highlight a shift in trade dynamics and increasing competition from China for the African market. Although Europe remains Africa’s largest trading partner, Africa’s trade with Asia rose by 22.0% between 2012 and 2013, while trade with Europe grew by just 15.0%, reflecting new partnerships with emerging markets.

Substantial opportunities for further regional and global trade integration still remain untapped. The region needs to better integrate into global value chains — a process that has been associated elsewhere in the world with higher level of activity and income growth over time — such as what happened in Southeast Asia or Eastern Europe. However, while oil-exporting countries are clearly trailing behind, many other countries, both commodity and non-commodity exporters, are showing progress, even if from very low starting points, with the East African Community (EAC) and the Southern African Customs Union (SACU) particularly bright spots. In countries that have made the largest strides into global value chains, such as Ethiopia, Kenya, Seychelles, South Africa, or Tanzania, manufacturing, agriculture and agro-business, and to a lesser extent, transport, tourism, and textiles, have benefited the most from deeper integration. These results highlight the potential sectors where the region could build on its comparative advantages, provided the business environment is sufficiently conducive.

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Moving forward, higher trade openness would support job creation to absorb the growing working age population, and allow Africa to benefit from technology transfers and integration into global value chains. Expanding intra-regional trade and expanding regional markets could boost incentives for domestic production, especially in labour-intensive manufacturing sectors, and attract higher investment. To leverage the region’s trade potential, it is important to make progress in filling the infrastructure gap, lowering tariff and non-tariff barriers, and improving the business climate and access to credit.

Africa: Exports by Destination (2013) Intra-Africa 13.2% EU27 37.2%

United States 7.4%

In 2009, China overtook the United States as Africa’s largest single trading partner Brazil, India, Korea, Russia and Turkey 13.4%

China 18.4%

Source: UNCTAD

Africa: Trade Balance (2013 – 2016F)

Africa: Current Account (% of GDP) 0

-1

-2

-3

-4

-5

-6

-7

2016F

2016F

2015E

2015E

2014

2014

2013

2013

USD mln 20000 10000

0

-10000 -20000 -30000 -40000 -50000 -60000

-50000

0 USD mln

Source: UNCTAD

-100000

-150000 USD mln

Source: African Development Bank

Africa: Total Trade Flows with Selected Global and Intra-African Partners (2000 – 2013) USD bln

450 400 350 300 250 200 150 100 50 0 2000

2001

EU27

2002 China

2003

2004

2006

2007

Brazil, India, Korea, Russia and Turkey

Source: African Development Bank, UN Statistics 14

2005

Islamic Finance in Africa: A Promising Future September 2015

2008

2009

United States

2010

2011

Intra-Africa

2012

2013

-200000 % of GDP

Inflation and Monetary Policy In 2014, Africa’s monetary and exchange rate policies continued to be focused on maintaining or achieving price stability. In countries where inflationary pressures have eased and exchange rates have remained relatively stable, policy interest rates have been reduced to stimulate growth. This has been attempted by Botswana, the Central African Economic and Monetary Community (CEMAC), Mozambique and Rwanda. Other monetary authorities, such as the West African Economic and Monetary Union (WAEMU), Kenya, Mauritius and Tanzania, did not ease, or only marginally eased policies. In Ethiopia, tight monetary conditions helped push inflation from a peak of almost 40.0% in November 2011 to around 7.0% in December 2014. Monetary policy has been tightened in some countries, notably oil exporters whose currencies have come under pressure due to declining oil prices. This was the case in Nigeria, although inflationary pressures have been effectively contained at singledigit levels for more than two years due to lower fuel and food prices. To date, the naira has fallen around 15.0% over the last year, despite the central bank introducing a number of policies in an attempt to defend the Nigerian currency. In Ghana, inflation increased due to expansionary money supply growth and the depreciation of the currency as a result of the country’s structural twin deficits. The central bank adopted a more restrictive policy stance, which should ease inflation in 2015 and 2016, respectively. Currently, the inflation rate stands at 17.9% in July 2015 from 17.1% recorded in June 2015. While most African countries have seen their exchange rates depreciate against the dollar since August 2014, this is broadly consistent with the experience of other emerging market and developing countries. In any case, risks remain if exchange rate pressures continue and fiscal deficits remain high.

In the short term, monetary policies will fluctuate across African countries, as policymakers strike a delicate balance between managing inflation and boosting economic growth. On one hand, countries with high inflation and limited fiscal space may witness higher interest rates. Conversely, in countries where inflationary pressures are contained, there will be space for central banks to reduce interest rates further. By region, most central banks in West Africa, North Africa and Southern Africa are not under significant pressure to increase interest rates, given relatively moderate inflation rates. However, an exception to this norm is Malawi, where its current annual inflation rate stand at 26.6% in July 2015. Similarly, in East Africa, Sudan and Eritrea are expected to have less accommodative monetary policies, following very high inflation rates, although there are signs of moderation as of late. Positively, Sudan recently announced that its inflation rate has dropped to 14.1% in July from 18.3% a month earlier. Sudan has been struggling with double-digit inflation since secession of the oil-rich south in 2011, but it has succeeded in bringing it down from a high of 46.8% in July 2014 to 25.6% in November of the same year.

Sudan and Malawi faced particularly high inflation in 2014, around 38.0% in Sudan and around 24.0% in Malawi. Their central banks have tightened policies and aim to stabilise their exchange rates and boost foreign exchange reserves. Overall, the average inflation rate in Africa eased to about 4.4% in 2014 (2013: 5.0%), and moving forward, it is expected to grow 4.2% and 4.4% in 2015 and 2016 respectively, reflecting the pickup in inflation in the two largest oil exporters as the impact of the exchange rate depreciation (Angola and Nigeria) and of cuts in fuel subsidies (Angola) feeds through. However, in other oil-exporting countries, minimal change is expected. Among oil importers, the impact of the decline in oil and commodity prices is expected to drive down inflation marginally. In any case, as deposit interest rates are lower than inflation, real interest rates are negative and provide little incentive to save.

15

Africa: Inflation Growth Trend (2002 – 2016E) % y-o-y

12.0

10.5

10.0 8.0

6.4

5.6

6.0

6.1

4.2

3.4

4.0

7.1

6.9 5.7

6.2 5.0

4.2

4.4

4.2

4.4

2.0 0.0 2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013 2014E 2015E 2016F

Source: African Development Bank

Fiscal and Current Account Balance Falling commodity prices remain the biggest contributor to the decline of government budgets in resource-rich countries. More solid public finances in recent years have helped many African countries to improve macroeconomic stability and make them more resilient to external shocks. Nevertheless, the commodity price decline has again shown how vulnerable budgets are in some countries to those shocks.

Africa: Current Account in Oil-Exporting and Oil-Importing Countries (2000 – 2016F) % of GDP

5000

Current Account of Oil-Expor!ng Countries (% of GDP) Current Account of Oil-Impor!ng Countries (% of GDP)

5000 5000 5000 5000 5000 5000 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014E 2015F 2016F Source: African Development Bank

16

Islamic Finance in Africa: A Promising Future September 2015

“In many African countries, activity will continue to benefit from the sustained demand boost from infrastructure projects, the expansion of productive capacities, and buoyant services sectors, although several risks remain”

Due to this reason, deficits are starting to increase again to an average of above 4.0% and are envisaged to rise to the levels of the global recession. To date, lower oil prices have caused a sharp fall in government revenues of African oil-exporting countries. Despite efforts to limit spending and improve revenue collection, several oil exporters, notably Algeria, Angola, Congo, Equatorial Guinea and Gabon, are expected to face relatively high fiscal deficits between 7.0% and 13.0% of GDP in 2015. In Libya, the deficit could even reach 30.0% of GDP.

On the current account front, the fall in oil prices has also adversely impacted the balance. Most oil-exporting countries will therefore record current account deficits in 2015 following years of surpluses. Oil-importing countries will on average register current account deficits of 7.0% – 8.0% of GDP, even after taking into account lower international oil and food prices. Lower export prices and export volumes outweigh the effect of lower import prices on the current account. Through currency depreciation, some countries will experience higher food import prices.

Given the increased budgetary pressures, keeping debt at sustainable levels remains a priority in many countries. According to a debt sustainability analysis by the World Bank and the IMF, two-thirds of countries assessed since 2012 are at a low or moderate risk of debt distress and around a third are a low risk. Spending pressures are also a problem, especially when there is a dire need to reduce the large bottlenecks in economic and social infrastructure. Subsequently, it is vital to focus on targeted spending, aimed at boosting growth and human development.

17

Challenges Overall, the outlook for Africa remains favourable and the continent will play an increasingly important role in the global economy. By 2040, it will be home to one in five of the world’s young people, and the size of its labour force will top China’s. Africa has almost 60.0% of the world’s uncultivated land and a large share of natural resources. Its consumer-facing sectors are growing 2 – 3 times faster than those in the OECD countries. GDP growth is expected to strengthen to 4.5% in 2015 and 5.0% in 2016 after subdued expansion in 2013 (3.5%) and 2014 (3.9%). In many African countries, activity will continue to benefit from the sustained demand boost from infrastructure projects, the expansion of productive capacities, and buoyant services sectors. This positive momentum will continue even as oil-related activities provide less support in a context of subdued global demand. Nevertheless, growth may be severely impacted based on these downside risks: • Ebola outbreak. In Guinea, Liberia and Sierra Leone, the Ebola outbreak is exacting a heavy human and economic toll. The outbreak could have much larger regional spillovers, especially if it is more protracted or spreads to other countries – with trade, tourism, and investment confidence severely affected. In addition, the security situation continues to be difficult in Central African Republic and South Sudan, and remains precarious in Northern Mali, Northern Nigeria, and the coast of Kenya.

• Security-related risks. Important security-related risks have recently come to the forefront in a number of countries, in particular associated with Boko Haram’s increased activities in Cameroon, Chad, Niger, and Nigeria, but also with other instances of violence in the Central African Republic, Mali, and South Sudan. Such developments not only pose serious fiscal risks, but also, if exacerbated, would surely impact growth, especially in agriculture, cloud the political climate, and deter domestic and foreign investors.

• Domestic policies. In a few countries, activity is facing headwinds from domestic policies, including in South Africa, where growth is held back by electricity bottlenecks, difficult labour relations, and low business confidence; and in Ghana and, until recently, Zambia, where large macroeconomic imbalances have led to pressures on the exchange rate and inflation. Meanwhile, elections in 2015, including in Burkina Faso, the Central African Republic, Côte d’Ivoire, Ethiopia, Guinea, Nigeria, Tanzania, and Togo, will also complicate the implementation of politically difficult policies.

• External risks. Amidst a return in global risk appetite, African countries have benefited from renewed investors’ interest. However, a marked slowdown in emerging markets would weaken demand for commodity exports from the region, with immediate negative effects on external and fiscal positions. The ensuing decline in activity prospects may lead to reduced appetite for investment, with more long-term implications on the growth momentum. Relatedly, a faster-than-expected tightening of global financial conditions could trigger a new bout of volatility. Risk aversion from foreign investors may lead to a reversal of sentiment towards the region and capital outflows, putting pressure on countries with large external financing needs, and forcing abrupt macroeconomic adjustments.

For most countries in the region, sustaining high growth remains the key challenge. As policymakers carry out development objectives, it will be important to be mindful of macroeconomic constraints. For the most part, policies should continue to stress on growth-enhancing measures by enhancing fiscal revenue mobilisation, targeting public spending toward infrastructure investment and other development spending, safeguarding social safety nets to ensure inclusive growth, and improving the business climate. At the same time, overreliance on volatile capital flows and widening of macroeconomic imbalances of a permanent nature need to be avoided. Monetary policies should continue to focus on consolidating the gains achieved in recent years in reducing inflation by tightening in countries with rapid growth and persistent high inflation. Macroeconomic imbalances is a source of concern for a few countries in Africa, as evidenced by large fiscal deficits and sharply rising recurrent spending. Budgets have become over-extended, financing constraints have emerged and exchange rates have come under pressure. Fiscal consolidation thus becomes necessary, but adverse consequences on the poor and vulnerable groups must be taken into consideration.

18

Islamic Finance in Africa: A Promising Future September 2015

Section 2

Islamic Finance Opportunities in Africa Global Islamic Banking Sector Global Sukuk Sector Global Islamic Funds Global Takaful Opportunities for Islamic Banks in Africa Islamic Capital Markets in Africa Islamic Fund Management in Africa Takaful in Africa Islamic Finance Outlook in Africa

23 23 25 26 28 30 34 34 35

19

Islamic Finance Opportunities In Africa Over the past few decades, the Islamic financial industry succeeded in nurturing itself and currently, it remains as one of the fastest growing sectors of the international financial system. The robust growth of assets to approximately USD2.1tln at end-2014, with assets having grown at an estimated compounded annual growth rate (CAGR) of 17.3% between 2009 and 2014 is testimony to the industry’s resilient performance as it edges towards the mainstream. By comparison, the industry’s asset base was a modest USD150.0bln in the 1990s, with approximately 144 financial institutions offering Islamic financial services. Modern day Islamic finance emerged in the 1960s with the establishment of the first Islamic bank in Egypt by Ahmad El Najjar and the set-up of the Hajj Pilgrims Fund Board or Tabung Haji (TH) in Malaysia. In the early stages of development in the 1980s and 1990s, the industry was mainly present in the Middle East and South-East Asia, generally in predominantly Muslimbased countries and focusing more on the retail market. The industry has now grown to develop other segments of financial markets including sukuk (Islamic bonds), asset management, and takaful (Islamic insurance), fulfilling the diverse needs of retail and corporate customers. Islamic finance has also evolved in sophistication beyond its traditional boundaries, spanning across 75 countries in regions including Asia, Middle East, Europe and more recently sub-Saharan Africa. To date, more than 600 financial institutions offer some type of Shariah-compliant financial products. The preference for Shariah-compliant financial solutions gained traction following the aftermath of the global financial crisis of 2008 – 2009, which had a relatively less severe impact on the Islamic finance industry as compared to the conventional one. The traditional banking segment was estimated by the International Monetary Fund (IMF) to have experienced losses in the tune of USD3.0tln to USD4.0tln as a direct consequence of this crisis. In contrast, no Islamic bank required government bail-outs at a magnitude which was witnessed in the case of some of the world’s largest banking institutions in the advanced economies. The Islamic financial system mandates returns to be derived from ethical investments which abstain from highly risky and speculative investments that are considered to be underlying causes of financial upheavals. Currently, the expansion of institutions offering Islamic financial services is not restricted to new full-fledged Islamic finance entities, as major players of the global conventional finance industry have also ventured into Islamic finance either through new subsidiary entities or window operations within their existing infrastructural frameworks.

20

Islamic Finance in Africa: A Promising Future September 2015

As Islamic finance continues to reach new heights, recent trends suggest that the industry is evolving into a deeper and more sustainable ecosystem. Currently, many new jurisdictions are working on measures to enable the introduction of Islamic finance in their financial territories. Positively, rigorous efforts have been made to harmonise Islamic financial practices, ranging from the creation of accounting standards for Islamic financial products (through the Accounting and Auditing Organisation for Islamic Financial Institutions, AAOIFI), to integration of those standards with global corporate and risk management standards (such as Basel Accords I, II and III) through the Islamic Financial Services Board (IFSB). Islamic finance also falls within the scope of the IMF and of the World Bank. The remarkable growth rates of the Islamic finance industry are driven by a number of factors namely: • A growing Muslim population standing at around 1.6 billion globally, making up over 23% of the world population • An increase in affluence which has led to growing economic participation of the Muslim population • The search for ethical investments, coupled with greater awareness and increased preference for Shariah-compliant financial solutions by Muslim and non-Muslim investors • Regulatory advancement and adaptation spearheading the momentum in the Islamic finance sector, as a rising number of jurisdictions is keen to boost their position as international financial centers and attract further Islamic business • A growing number of Islamic and conventional financial institutions entering the space • Higher sukuk issuance, especially by investment grade issuers or countries, has increased the size and depth of the investment universe and is the catalyst for further development and issuance of Sharia-compliant instruments in the public and corporate sectors • A rise in sophistication through greater fundamentals in the contracts allowed under Shariah law and their appropriate utilisation in the development of modern financial instruments

“The Islamic finance industry has

grown in sophistication with its geographical dispersion spanning across 75 countries with more than 600 financial institutions offering some type of Shariah-compliant financial product”

Factors Contributing to the Robust Growth of Global Islamic Financial Assets Value propositions

The breadth of contractual modes in Islamic finance are able to cater for the wide spectrum of risk profiles, ranging from the low risk sales and lease-based modes to the higher risk equity-based modes of financing.

Increasing demand

Growing demand from Muslim population for Shariah-compliant financial solutions amid increasing acceptance by nonMuslims due to ethical reasons and availability of a wide range of products.

Regulatory support

Governments and regulatory bodies have taken steps to ensure that the regulatory framework is supportive. Incentives are also introduced to jumpstart the growth of the Islamic finance industry.

FInancing gap

Islamic financial instruments can act as potential tools to reduce the financing gaps and act as alternative fund raising mechanisms to boost economic activity.

Tap wider wealth base

Abundant liquidity flows from the recycling of petrodollars generated by high oil prices over the years.

Source: MIFC

21

Islamic Finance Innovations and Developments

2000s • Introduction of Islamic banks offering basic deposit and financing services including wealth management, trade financing structured products, investment banking, hedging instruments and corporate financial solutions • A full-array of Islamic capital market instruments in place including equities, Islamic bonds and asset management • Takaful sector increasingly becoming focus of regulators to spur growth and innovation in the segment

1970/1980s • Introduction of Islamic banks offering basic deposit and financing services

1960s

2010s • Islamic finance as an ethical financial system bridging the gap with the real sector and potentially contributing towards global financial stability • Islamic finance new growth opportunities in: - Environment-Friendly Projects - Shariah-Compliant Risk Management - Addressing liquidity and capitalisation of IFIs - Infrastructure Projects

1990s • Improvements in banking services to expand into newer retail and corporate banking segments • Introduction of Islamic capital markets with listing of lslamic equity indices, introduction of Islamic funds and the issuance of first corporate sukuk in Malaysia by Shell

• The establishment of the first Islamic bank in Egypt by Ahmad El Najjar • The set-up of the Hajj Pilgrims Fund Board or Tabung Haji (TH) in Malaysia in 1963

Source: “Innovations Drive Expansion of Global Islamic Finance Industry” by MIFC

The future outlook of the industry is encouraging. Global Islamic finance assets are projected to increase to USD2.4bln in 2015 and to expand further to above USD4.0bln by 2020. The industry should continue to register positive growth in 2015 for all sectors, underpinned by the following factors: • Governments’ aggressive spending on infrastructure/ developmental projects across the globe. This poses as an opportunity for Islamic banks to provide financing support to meet the needs of these countries • Growing interest in Islamic finance & supply-side dynamics by financial institutions. Increasing investor awareness and education will continue to drive significant demand for ethical and socially responsible investment products, and Shariah-compliant investments can provide investors with a product which satisfies their responsible investing needs while not sacrificing returns

22

Islamic Finance in Africa: A Promising Future September 2015

• The Muslim population is one of the fastest growing and coming up the curve in terms of rising disposable income. Over time, increased savings and investments will need to be met by Shariah funds • Growing competition will compel the industry to pursue continuous innovation in product design to include improvement in processes, better technologies and such, which will support the sustainability of Islamic finance • Active role played government and regulatory agencies; multilateral bodies and industry players to promote the development of Islamic financial markets in their respective countries and globally • The increase of global trade flows in MENA and OIC countries will hold a large business potential for providers of Islamic trade facilities

Global Islamic Banking Sector The Islamic banking industry is the biggest segment of the global portfolio of Islamic financial assets, having recorded a CAGR of 14.1% between 2009 and 2014, standing at roughly USD1.7tln as at end-2014, and is likely to represent a share of 86.0% of the industry’s USD2.5tln market in 2015. The largest Islamic banking markets are in the Middle East and North Africa (MENA) excluding the GCC; this region accounted for 45.0% of total Islamic banking assets worldwide. The GCC accounted for a 37.0% share, while Asian jurisdictions cumulatively made up of a 12.0% share. Africa’s Islamic banking assets, while comprising just 1.0% of total, have grown faster than the other regions. Advanced Islamic banking markets in the GCC and Asian regions are projected to evolve in greater sophistication in terms of products offerings, as well as from the aspect of regulatory advancement by the financial regulators. On the demand side, Shariah-compliant investments and financing products have been dominantly fuelled by a promising economic outlook in the GCC and abundant liquidity flows. As for other regions particularly Asia and Africa, there are tremendous opportunities for the Islamic finance industry in order to support the fast growing economies. Islamic finance is able to support many strategic areas namely financial inclusion, infrastructure investment needs, as well as to attract greater inflow of funds into the region. Key regions driving the Islamic banking segment are MENA (including the GCC) and Asia. Countries with significant presence are Saudi Arabia, Malaysia, United Arab Emirates, Kuwait, Qatar and Turkey. On the African continent, the banking industry can be divided into the main regional markets, namely Kenya in the East, Nigeria in the West, Egypt in the North and South Africa in Southern Africa. In addition, there are small but fast growing markets in Senegal, Mauritania, Sudan and Tunisia. Overall, of the more than 600 Islamic financial institutions operating globally, Africa is estimated to have only 45, with sub-Saharan African countries rapidly catching up with their northern counterparts.

Notably, the volume and range of products and services offered by Islamic banking institutions has increased significantly in the last few years. Product offerings have become increasingly sophisticated, in tandem with the overall development of the industry: from financing, savings and investment products to trade finance, treasury services, commercial real estate and more. Retail and corporate clients alike stand to benefit from the innovative spirit of the budding Islamic banking industry. General trends in the banking industry worldwide, from leveraging on mobile technology to tighter capital adequacy and liquidity rules, will affect Islamic banking institutions progressively more with the passage of time. Cross-border, the Islamic banking sector is becoming more integrated and more standardised. The efforts of the Islamic finance industry’s own multilateral organisations such as the Islamic Financial Services Board (which mostly recently released a draft guidance on liquidity risk management and a new standard for regulatory supervision of Islamic banks), the International Islamic Financial Market (which mostly recently released a standard documentation for a collateralised Murabahah agreement) and the Accounting and Auditing Organisation for Islamic Financial Institutions (which mostly recently issued a standard for down payments and another on conditional termination of contracts) are amongst key initiatives that will facilitate the advancement of the industry at global level.

Global Sukuk Sector In 1Q15, Malaysia, the UAE, and Indonesia led sukuk issuances for the quarter. Issuances from Malaysia accounted for a significant 42.3% of total issuances, while the UAE and Indonesia accounted for 18.2% and 14.1% share, respectively. Meanwhile, underpinned by several large, long-term sukuk issued by the Central Bank of Bahrain (CBB), Bahrain witnessed an increase in sukuk issuances at USD2.6bln for the quarter (full-year 2014: USD2.4bln). These sukuk were buoyed by robust demand and were oversubscribed. Sukuk Issuances by Country (1Q15) Brunei 0.8%

Bangladesh 0.1%

Bahrain 14.2%

Sukuk Issuances by Issuer Type (1Q15) Gambia 0.1% Turkey 5.0% Saudi Arabia 5.3% Indonesia 14.1%

Government-related en!!es 12.5%

Suprana!onal 15.2%

Corporate 19.3%

United Arab Emirates 18.2%

Sovereign 53.0%

Malaysia 42.3% Source: ISRA, IFIS, Zawya, Bloomberg

Source: ISRA, IFIS, Zawya, Bloomberg

23

Meanwhile, in January 2015, the sukuk market welcomed a new player – Bangladesh’s central bank launched a weekly Islamic bond issuance programme, providing local lenders with a new short- term liquidity management tool and boosting the prospects of Islamic finance in the majority-Muslim country. The central bank has had a sukuk programme since 2004 which has sold sixmonth paper, but more frequent issuance and a wider range of tenors are increasingly needed for an industry which has doubled in size in the past four years. Overall, in 1Q15, sovereign issuers conquered the market, accounting for more than half of total issuances, while supranational bodies such as the Islamic Development Bank (IDB) and the Islamic Liquidity Management Corporation (IILM)

also led the market with a few large issuances (15.2% share). Corporate issuers were mainly from the financial sectors of Turkey and Malaysia. Two financial institutions from Turkey issued MYRdenominated sukuk in Malaysia, and announced plans for more similar cross-border issuances in the future. From a sovereign perspective, sukuk can give governments the access to a new investor base by diversifying their sources of fiscal funding. Sukuk issued to foreign investors can also help to cover external financing needs and support reserve building. This is important for countries with sizable external funding needs, such as those in North Africa. For investors looking to buy Islamic bonds outside of traditional markets like the GCC region and Asia, Africa may soon offer a fresh alternative. New global sukuk issuance is forecasted to remain fairly robust despite the challenging environment for Malaysia and the GCC countries amidst the steep decline in global oil prices since last year

Size of the Global Sukuk Market (as of 5 August 2015)

Source: Zawya

In Africa’s context, the use of Islamic finance could help the continent pay for multibillion dollars’ worth of infrastructure projects a year and help fund countries’ fiscal deficits. African nations are also looking to diversify their funding sources and gain access to a pool of wealthy investors from the Middle East – investors who can only invest in Shariah-compliant products. In 2012, for instance, Sudan sold USD160.0mln worth of sukuk while Gambia has been issuing short-term sukuk over the past few years.

24

Islamic Finance in Africa: A Promising Future September 2015

In August 2014, Senegal became the first full sovereign to issue a CFA100.0bln (USD200.0mln) leasing sukuk. Following suit, South Africa successfully concluded its debut USD500.0mln sukuk, which was more than four times oversubscribed, clearing the path for the continent’s biggest economies to follow with debut sukuk. South Africa’s debut sukuk is currently the largest sukuk issuance from sub-Saharan Africa. The country’s decision to issue a sukuk is underpinned by a drive to broaden the investor base and to set a benchmark for state-owned companies seeking diversified sources of funding for infrastructure development.

Global Islamic Funds The Islamic fund management industry is still at its early stages and is slowly gaining acceptance. In 2014, the overall trend for the industry remained positive with Assets under Management (AuM) of total global Islamic funds growing 5.3% from the previous year to USD60.0bln and the number of funds jumping by 11.0%. Additionally, the year saw the lowest number of liquidated funds since 2008 at USD127.0mln compared to USD315.0mln in 2013, while the total size of new funds launched increased to USD2.27bln in 2014 (2013: USD1.52bln), representing a 49.0% rise. Mutual funds dominated with USD53.17bln, making up 88.0% of total global Islamic funds mostly driven by diversification and liquidity. In 2014, 12 funds, each with AuM in excess of USD1.0bln, made up 43.0% of total AuM while 50.0% of total AuM was held in funds smaller than USD10.0mln each. Moving forward, AuM gathered by Islamic funds are forecasted to surpass USD100.0bln by 2018 (2020F: USD113bln). Global Islamic Funds Outstanding: Breakdown by Domicile (2014) Assets under Management (right axis) Number of Funds (le! axis) Number of funds

USD bln

400

300

22.99

30.00

309 22.50 18.59

200

15.00

165

169

100

83

6.27 38

3.6

Saudi Arabia

Malaysia

Jersey

2.3

6

0 US

40 1.51

Luxembourg

25 1.08

South Africa

Kuwait

68

1.04

1

Pakistan

Others

7.50

0.00

Source: Thomson Reuters

The industry is heavily concentrated in core markets. In 2014, 84.0% of total Islamic AuM was held in eight countries, with Saudi Arabia and Malaysia accounting for 69.0% of Shariah-compliant AuM. The demand for Islamic funds is expected to remain strong, and the growth of more structured and regulated Islamic capital markets will pave way for further development of the Islamic funds industry. Recognising the growing importance of the Muslim community in financial markets, private banks and institutional investors are increasingly interested in Shariah-compliant funds. In the near term, market leaders, Malaysia and Saudi Arabia, will continue to maintain their position. According to MIFC, Malaysia continues to develop comprehensively, enhancing its Islamic finance-related regulation and leading in terms of market innovation.

in August 2014, aiming to satisfy the demand from both local and foreign Islamic investors. In the same month, the Dubai Financial Services Authority announced that it was establishing a new class of funds targeting qualified investors with less stringent regulation and thus lowers costs.

Outside of Saudi Arabia and Malaysia, with its pre-dominantly Muslim population showing increasing interest in Islamic finance products, countries such as Indonesia, Pakistan, the UAE and Turkey is set to change the sector landscape. Pakistan’s Al Meezan Investment Management, for example, will launch its first Islamic gold fund this year. Turkey launched two new participation indexes

The performance of Islamic funds will always hinge on overall conditions in global financial markets as well as idiosyncratic risks in focus countries. Slightly lower and more divergent returns by asset class may emerge as new trends, while uncertainty lingers over the medium-term investment outlook for some asset categories (such as fixed income and commodities).

There are other growth pockets on the horizon for Islamic funds. European jurisdictions, including offshore destinations, will remain significant, as they attract Islamic fund managers with regulatory clarity and passporting schemes. International financial centers in Asia (e.g. Singapore and Hong Kong) and the GCC (e.g. Dubai and Qatar) may hold a larger proportion of Islamic fund assets, as they rush to improve their offerings to Islamic investors.

25

Global Islamic Funds Assets Trend

Global Islamic Fund Assets: Growth Trend USD bln 90

USD bln 10000

80

2012

2013

2014

8000

70 60

6000

50

4000

40

2000

30

2010 2011 2012 2013 2014 2015F

Source: Zawya, Bloomberg

Levant

South Asia

Africa

Middle East (Non Arab)

2008 2009

Southeast Asia (ex-Malaysia)

0

GCC(ex-Saudi)

10

Malaysia

Saudi Arabia

0

20

Source: Various

Global Takaful The evolution of growth in takaful continues into 2014 with positive contributions from key markets such as Saudi Arabia, Malaysia, and the UAE. Overall, global gross takaful contribution is estimated to reach USD14.0bln in 2014 from an estimated USD12.3bln in 2013. The global takaful market exhibited double digit growth, although it moderated from a high CAGR of 22.0% (2007-2011) to a still healthy estimated growth rate of 14.0% over 2012 – 2014. Nonetheless, the size of the industry still remain fragmented and significantly small compared to global Islamic financial assets. ASEAN countries (Malaysia, Indonesia, Brunei, Singapore and Thailand), driven by strong economic dynamics and young demographics, continue to achieve buoyant takaful growth at 22.0% CAGR. Meanwhile, the GCC countries (excluding Saudi Arabia) registered growth of about 12.0%. Saudi Arabia and Malaysia are the largest takaful markets by gross contributions. Saudi Arabia generated an estimated USD6.8bln in gross takaful contributions in 2014, while Malaysia gathered about USD3.0bln. Developments in takaful are likely to accelerate in key domiciles such as the key GCC countries and Malaysia. The industry is wellpoised to expand beyond its home markets into highly populated Muslim countries where takaful is gaining popularity, such as Indonesia and Pakistan. Meanwhile, new entrants to the takaful market are likely to originate from African countries (Tanzania, Kenya, South Africa, Morocco, Nigeria) and Asia (Afghanistan, Kazakhstan, Thailand, Sri Lanka); these countries are currently either at exploration stage or have a handful of takaful players in Share of ASEAN Gross Takaful Contributions (2014F) Kuwait 2%

the market. Significant untapped business potential also exists in Europe (UK, France, and Germany). Around the world, particularly in rapid-growth markets, takaful can serve as a Shariah-compliant and ethical-based alternative to conventional insurance. Moving forward, a key challenge is that the industry faces stiff competition from larger and well-established conventional insurance companies that, in a large part, outweigh their Islamic counterparts in balance sheet strength and business mix, enabling them to underwrite bigger risks. This presents a dilemma for takaful operators that require a diversified and large pool of contributions to achieve optimal efficiency in business operations. Additionally, strengthening the regulatory frameworks of the takaful industry requires focused effort and the support of all industry stakeholders. National regulators as well as industry standard-setting bodies need to co-operate and take bold initiatives to improve takaful practices and policy-making processes. Share of ASEAN Gross Takaful Contributions by Country (2014F) Others 6%

Qatar 4%

Bahrain 2% Indonesia 23%

UAE 15%

Saudi Arabia 77%

Source: World Islamic Insurance Directory 2014, Middle East Insurance Review. Others include Brunei, Singapore and Thailand 26

Islamic Finance in Africa: A Promising Future September 2015

Malaysia 71%

Snapshot of Islamic Finance Development in Africa Region

East Africa

Developments • Islamic banking commenced in Kenya in 2008 when the • In May 2010, the Central Bank of Kenya amended government allowed Kenya Commercial Bank to operate its Banking Act in May 2010 to allow Islamic finance its Amana Islamic suite, the country’s first full-fledged institutions to set up and prosper. Islamic bank. • Elsewhere in Uganda, the central bank is amending its • With the establishment of Gulf African Bank, Kenya now banking regulations to allow for the establishment of has two full-fledged Islamic banks, which contribute Islamic banks in the country. around 1.0% of the banking sector’s net assets. • Five other conventional banks have also introduced Islamic banking products in Kenya to provide Shariahcompliant products to an increasing customer base. • The development of the Islamic banking industry can be • Senegal-based Tamweel Africa Holding SA, owned by witnessed in Nigeria. Provisions of the Banks and Other the Islamic Corporation for the Development of the Financial Act (BOFIA) 1991, provided for the establishment Private Sector (ICD), a subsidiary of Islamic Development of Islamic banking in Nigeria. Bank (IDB), was acquired by Bank Asya (Turkey’s leading participation bank; a 40% stake) in October 2009. • Following this, Habib Bank was given approval in 1992

to operate an Islamic banking window which is still • Bank Asya, the IDB and the ICD will operate in the operational with Bank PHB. interest-free banking sector together throughout Africa, especially in the western part of the continent. • In June 2011, the Central Bank of Nigeria (CBN) issued the latest new guideline for non-interest banking and • In August 2014, Senegal became the first full sovereign approved a banking licence for Jaiz International Bank to to issue a CFA100.0bln (USD200.0mln) leasing sukuk. launch the country’s first full-fledged Islamic bank. • Gambia is an example of an African country that has West Africa

• A national Shariah advisory board has been established by the CBN to ensure all Islamic financial activities is consistent with Shariah principles.

successfully tapped into the sukuk market through regular issuance of short-term sukuk. In 2008, Gambia’s central bank started issuing the short-dated Sukuk AlSalam, which operates in broadly similar terms and conditions as the conventional Treasury Bills.

• The central bank aims to further develop its Islamic banking sector in the country to attract foreign investment to develop infrastructure in Nigeria, to enhance financial • In April, Ivory Coast announced that it would conduct inclusion for more Nigerians, as well as to meet the a 300 billion CFA franc (USD504mln) Islamic bond demand for non-interest or profit-sharing form of banking programme in two phases between 2015 and 2020. and finance, irrespective of religious affiliation. ICD, as the lead manager, would structure the sukuk program, appoint and coordinate with other consultants, • In 2013, Nigeria witnessed its inaugural sukuk issuance, liaise with government officials and oversee the entire where the state of Osun issued an Ijarah sukuk for process of the sukuk offering. financing amounting to NGN10.0bln (USD62.0mln).

• A large and still untapped market of 190 million people • With the encouragement of regulators, the country’s or 91% Muslims. However, Islamic banking is still a niche first Islamic lender Banque Zitouna, plans to open 100 market in North Africa. branches over the next five years and El Wifack Leasing aims to become the country’s third full-fledged Islamic • The industry will gradually evolve moving forward, given bank by August. new regulations and various facilitative efforts to develop North Africa

Islamic finance industry in various parts of the region. • The Tunisian arm of Bahrain’s Al Baraka Banking Group is expanding operations after it became a resident bank at • For example, the Morocco’s central bank decided in 2007 the end of 2013. The Islamic lender is adding wholesale to authorise certain types of Islamic financial products, banking and investment products, which could include called alternative financial products, in response to sukuk. consumers’ demand, before adopting, in March 2015, a law regarding the establishment of Islamic banks in • Since 2014, Al Baraka’s Tunisian arm has launched six Morocco and the products they can market. Shariah-compliant products such as vehicle financing, and introduced pilgrimage savings schemes to the • Meanwhile, in Tunisia, firms are preparing to issue Islamic Tunisian market. It plans to launch Shariah-compliant bonds as the government finalises rules covering the student loans this year. sector, creating a new funding option for companies.

• South African banks have long dominated the African • Total Islamic banking assets currently account for 1.0% banking industry in terms of size and progress. – 2.0% of total banking assets in South Africa. South Africa

• There are currently three Islamic banking institutions (one full-fledged Islamic bank and two Islamic banking windows).

• In September 2014, South Africa successfully concluded its debut USD500mln sukuk, representing the largest sukuk issuance from sub-Saharan Africa.

• Al Baraka Bank (registered in South Africa in 1989) is the first Islamic bank in the country.

27

Opportunities for Islamic Banks in Africa •

Shariah-compliant retail products. The main beneficiary of Africa’s growing middle-class will be consumer banking, namely retail products such as housing and car financing. These basic banking products will continue to grow, particularly as an increasing share of the population will be of working age, between 15 to 64 years old.



SME development. Small and medium enterprises (SMEs) are now widely recognised as engines of economic growth and key contributors to sustainable GDP. Despite their importance to economic output, market conditions and regulatory environments are not always supportive of the growth of SMEs and they still have inadequate access to finance and other banking services. Therefore, another potential role of Islamic finance is to complement the conventional banking sector in the SME development in the region. According to AfDB, the emergence of the African middle class has been driven by a robust private sector led by local entrepreneurs, mainly in agribusiness. Most of the financing for agribusiness in Africa is undertaken in the form of debt financing from banks and other financial institutions. In particular, asset-based financing (factoring, inventory financing, export finance and leasing) is a fairly popular financing, amidst the increasing awareness of Shariah-compliant products on offer. Indeed, there is a significant funding potential opportunity in view of the increasing emergence of SMEs across Africa.



Microfinance. In light of relatively low income levels, a large informal sector and prevalence of small businesses in Africa, microfinance may be a growth area worth looking into. The Abu Dhabi Islamic Bank of Egypt’s microfinance program was evaluated by The World Bank and United Nations Development Programme and has been rated as a “Best Practice Model” in the Egyptian market. The microfinance business operates operating through 44 microfinance branches across the country, offering soft financing terms and without requirements of traditional conventional banking collaterals. Products include financing, savings and insurance, through Murabahah and Musharakah programs. Islamic microfinance has the ability to play a major role in inclusive growth in Africa. By and large, economies which are resource-based faces greater risks of income inequality and Dutch disease, where a rise in resource-based income reduces investment in other sectors. Therefore, a thriving Islamic microfinance sector may serve as a means for policymakers to support the more vulnerable groups in the population.

“Islamic finance is a growing

phenomenon in Africa, which is home to over a quarter of the global Muslim population”

28

Islamic Finance in Africa: A Promising Future September 2015

Islamic Banking Opportunities in Africa Islamic banking opportunities in Africa

Shariah-compliant retail banking products

Islamic microfinance as a potential to fight poverty

SME Finance

Account Penetration by Region (% Share of Adults with Bank Account, 2014) 100%

94%

90% 80% 69%

70% 60%

46%

50% 40%

34%

30% 20%

14%

10% 0% High Income

East Asia & Pacific

South Asia

Sub-Saharan Africa

Middle East

Source: Global Findex database

Notwithstanding its presence in a number of countries, Islamic finance is still at a nascent stage of development in Africa. The share of Islamic banks is still small, and Islamic capital markets still constitute a very small niche (there were small sukuk issuances in Sudan, Gambia, Maldives, Mauritius, South Africa and Nigeria). At the same time, the demand for Islamic finance products is projected to increase in the coming years. In the context of account penetration, which is seen as a marker of financial inclusion as it provides an entry point into the formal financial system, only 34.0% of sub-Saharan Africa is banked,

which show that vast opportunities remain. The challenge lies in the design of appropriate financial products that meets the needs of the unbanked and make using an account at least as easy, convenient and affordable as the alternatives. Positively, it is also expected that many countries will introduce Islamic finance activities side-by-side conventional banking. The continent’s growing middle class, combined with its young population is an opportunity for Islamic finance to expand its services.

29

Islamic Capital Markets in Africa Islamic capital markets can be divided into the sukuk market and Islamic funds market. To date, Africa has made notable progress – recent developments in the sector in Africa have been more focused on the regulatory side, with the government’s efforts in providing a more enabling environment for capital market developments including Islamic capital markets (particularly sukuk). Africa’s first corporate sukuk was issued by a Sudanese company called Berber Cement Company in 2007, to finance the construction of a new cement plant. After a USD70.0mln equity contribution by Berber Cement Company’s shareholders, the company needed to raise USD130.0mln via debt, given the projected cost of USD200mln. The company’s advisor, Alpen Capital, had proposed a Shariah-compliant debt structure to improve the company’s chances of borrowing from investors who

preferred Shariah-compliant instruments. The sukuk was issued in two tranches – one in Sudan and another for GCC investors. The issue was fully subscribed for by major regional institutions such as Emirates Islamic Bank, Bahrain Islamic Bank, Sukuk Exchange Centre (Tadawul) and Liquidity Management Centre, Boubyan Bank, Sharjah Islamic Bank, Khaleeji Commercial Bank, Masraf Al Rayyan and BLOM Development Bank.

Sudan: Corporate Sukuk by Berber Cement Company (2007)

Equities

Financing for new plant USD200.0mln

GCC investors (60%)

Debt (sukuk) USD130.0mln

Sudanese investors (40%) Source: News

In the same year, the Sudanese government issued an Investment Sukuk worth USD1.6mln with a maturity of two years. Government Investment Sukuk (GIS) are fixed face value papers with the objective of raising funds for the finance of government projects through Ijarah, Murabahah or Istisna’ modes of finance. The sukuk are traded on the Khartoum Stock Exchange while the Sudan Financial Services Company manages these on behalf of the Ministry of Finance.

Since 2001, Gambia is an example of an African country that has successfully tapped into the sukuk market through regular issuance of short-term sukuk. Gambia’s central bank issues the short-dated Sukuk Al-Salam which operates in broadly similar terms and conditions as the conventional Treasury bills. Other key issuers of Sukuk Al-Salam are the central banks of Bahrain and Yemen, for the purpose of short-term liquidity management.

Landmark Sovereign Sukuk Issuances from Africa in 2014 Issuer

Structure

Currency

Issue Date

Issue size (USD mln)

Tenor (years)

Government of Senegal

Ijarah

XOF

18 July

200.5

4

Government of South Africa

Ijarah

USD

24 September

500

5.75

Source: Bloomberg, IFIS, Zawya

Apart from Gambia and Sudan, the global sukuk market has witnessed issuances by Nigeria, South Africa and Senegal. Amongst the sovereign issuers, Nigeria was the first African state to issue sukuk in October 2013. The state of Osun issued NGN10bln (USD62mln) Ijarah sukuk, where the net proceeds of the issuance will go towards funding the construction of schools in Osun. This further demonstrates the potential for sukuk to be

30

Islamic Finance in Africa: A Promising Future September 2015

a viable finance option for sub-Saharan government institutions to fund infrastructure and social projects at the state and national level. The Osun Sukuk has been assigned an ‘A’ rating by Agusto & Co., a local credit rating agency, and is listed on the Nigerian Stock Exchange.

Snapshot of Nigeria’s Inaugural Sukuk Issuance by the State of Osun Name

Osun Sukuk Limited

Type Sector Structure Currency Yield Issue Amount Tenure Issue Date Purpose of Issuance

Sovereign Infrastructure / Education Ijarah Nigerian Naira 14.75% NGN11.4bln (USD70.62mln) 7 years 8th October 2013 The proceeds will be used for the construction of new roads and elementary and middle schools

Meanwhile, the governments of Senegal and South Africa issued their debut sukuk in 3Q14. The Senegalese government issued a XOF100bln (USD200.5mln) sukuk in July 2014, to finance its budgeted spending for the year, where Islamic Corporation for the Development of the Private Sector (ICD) and Citigroup acted as Joint Lead Managers and Lead Brokers. FCTC Senegal Sovereign Sukuk Name

FCTC Senegal Sovereign Sukuk

Type

Sovereign

Sector Structure Currency Issue Amount Tenure Issue Date Purpose of Issuance

Infrastructure / Education Ijarah XOF XOF100,000,000,000 (USD208.0mln) 48 Months 23 June 2014 The proceeds will be used to finance projects of economic and social development to the State

Source: Zawya, IFIS, KFHR

Overview of the Senegal Sovereign Sukuk Subscription by Country of Residence Burkina Faso 4% Cote D’Ivoire 6%

Subscription by Sector

Others 5%

Private Companies 4% Mutual Funds 5% Pension Funds 7%

Mali 10% Senegal 40%

Benin 12%

Insurance 13%

Individual 3%

Banks 68%

Saudi Arabia 23% Source: Zawya

The Ijarah sukuk utilised three government buildings as underlying assets. The issuance was over-subscribed and attracted investors from different geographical areas such as Saudi Arabia, France, Luxembourg and Tunisia.

The government of South Africa also issued an Ijarah sukuk valued at USD500mln, which was oversubscribed by more than four times and had benefitted from strong demand especially from Middle Eastern and Asian investors.

31

South Africa Sukuk: Investors by Region

Middle East & Asia 59%

Europe 25%

US 8% Others 8%

Source: National Treasury of the Republic of South Africa

The issuance of the sukuk is the sovereign’s first foray into Islamic markets for debt financing, and South Africa is the third non-Muslim country to issue Shariah-compliant bonds, following Hong Kong and the UK. State-owned enterprises including Eskom and Transnet, which operate telecoms and ports and railways respectively, have said they may follow suit. The country first expressed an interest in issuing Shariah-compliant debt in 2011. Since then, implementing the appropriate regulatory framework and identifying an appropriate asset to underwrite the issuance have taken four years to put in place. Elsewhere, Kenya, Morocco and Tunisia are laying the legal groundwork to be able to issue their own sukuk instruments. It is important to take note that corporate sukuk remain as a relatively untapped instrument in Africa, thus reflecting a wider global trend where sovereign and government-related entities dominate the sukuk market, due to their bigger funding needs. That said, sovereign issues will not only help the industry to mature, but also pave the way for the private sector and for the development of capital markets in countries where they are still nascent. It is likely that the favourable economic prospects amidst the recent launches of benchmark sovereign sukuk in Africa will create more opportunities for corporate issuers. Key Islamic Finance Propositions for Africa

Benefit and Costs of Sovereign Sukuk Issuance Benefits • Growing institutional geographical diversity

Infrastructure financing Investment in key economic sectors

Cost and

• Shariah compliant • Enhances resource mobilisation due to inclusion of Islamic investors • Broader investor base • Asset backed structure

Access to financial services

• Ability to address broader policy issues

• Administrative costs may be high • Limits fiscal flexibility • Currently limited secondary market implies higher cost of issuance • Legal risks associated with bankruptcy laws and Shariahcompliance • Currency risks associated with foreign issuance

Source: Islamic Research and Training Institute (IRTI)

One of the key challenges to overcome for some of the smaller African nations is the gain of a sovereign credit rating, which, once granted, could open the door to external sources of funding in addition to the inflow of private investments from wealthier nations. At present, there are 24 out of the 55 African countries with a sovereign credit rating from at least one of the three largest ratings agencies. The gaining of sovereign credit ratings can demonstrate several things. Firstly, African governments, through sovereign credit ratings, can highlight their readiness to participate in the global economy by opening their books to public scrutiny, maintaining

32

Islamic Finance in Africa: A Promising Future September 2015

transparency, and adhering to liberalisation policies and reform efforts. Sovereign credit ratings also play a significant role in the marketing of fixed–income instruments, with most investors requiring that their fixed-income holdings have a credit rating. Additionally, credit ratings foster transparency in the collection and dissemination of information. Moreover, they help to promote realistic monetary and fiscal policies throughout the region, even in the face of political opposition, as countries feel the pressure to keep up with neighbours who receive sovereign credit ratings. Therefore, the dialogue between rating agencies and government officials can strengthen a government’s commitment to marketoriented growth strategies and improve its credibility, thus earning the trust of international market players.

Africa: Sovereign Ratings for Selected Countries Country

Moody’s

S&P

Fitch

Burkina Faso

-

B-

-

Democratic Republic of Congo

-

B-

-

Republic of Congo

-

B

B+

Ivory Coast

-

-

B

Cameroon

-

B

B

Ethiopia

-

-

B

Gabon

-

B+

B+

Ghana

-

B-

B

Gambia

-

-

CCC

Kenya

-

B+

B+

Morocco

Ba1

BBB-

BBB-

Namibia

Baa3

-

BBB-

Nigeria

-

B+

BB-

Uganda

-

B

B+

Senegal

B1

B+

-

South Africa

Baa2

BBB-

BBB

Zambia

-

B

B

Source: Reuters

The rating process, as well as the rating itself, can play an important role as a powerful force for good governance, positive market-oriented growth, and the enforcement of the rule of law. From a business standpoint, sovereign credit ratings serve as a reference for evaluating the economic environment of investment possibilities and as a benchmark for investors to make a distinction among markets, which provides valuable information and a baseline for evaluating risk.

In any case, as mentioned previously, despite this challenge, the sukuk market is likely to thrive in Africa, as sukuk can give African governments’ access to a new investor base by broadening their sources of fiscal funding. Sukuk issued to foreign investors can also help to support external financing needs and assist in reserve building, which is crucial for countries with sizable external funding needs. For investors looking to buy sukuk outside of traditional markets like Asia and the GCC region, Africa offers a fresh alternative.

“Sukuk can give African

governments’ access to a new investor base by broadening their sources of fiscal funding”

33

Islamic Fund Management in Africa In contrast to sukuk, Islamic fund management is a nascent industry in Africa. As of end-2013, Islamic funds in Africa totaled USD2.0bln, and originated mainly from four countries – Egypt, Mauritius, Morocco and South Africa. The relatively low income, coupled with the lack of high net worth individuals (HNWIs) in the continent currently, may limit the growth of the industry in the short term. On a positive note, despite having a small share of HNWI investable wealth, Africa has the fastest growing HNWI market globally, increasing by 145% over the past 14 years, compared to worldwide HNWI growth of 73.0% over the same period. The number of new millionaires in Africa is steadily growing, with more than 160,000 individuals holding around USD660.0bln in personal wealth at end-2014, where South Africa takes the top spot with the highest number of wealthy individuals, followed by Egypt, Nigeria and Kenya. In the longer-run, this signifies a promising new growth area for Africa. Share of HNWI Investable Wealth by Region (USD trillion) USD bln 60

1.3

50 1.2

1.0

40

Growth of HNWI Wealth and Population by Region (2013)

Country

1.3 1.1

0.8 30 20 10

HNWI Wealth

HNWI Population

Africa

7.3%

3.7%

Middle East

16.7%

16.0%

Latin America

2.1%

3.5%

Europe

13.7%

12.5%

Asia Pacific

18.2%

17.3%

North America

17.1%

15.9%

0 2008

2009

2010

2011

2012

North America

Asia Pacific

Europe

La!n America

Middle East

Africa

2013

Source: Capgemini

Takaful in Africa The takaful industry made its first debut in Africa in the early 2000s, when South Africa (a country with less than 2.0% share of Muslim population), established a takaful company on 2003. Takafol South Africa Ltd. now brings in an estimated USD460mln in annual premiums. The company found its niche in being South Africa’s only insurance firm providing short-term takaful cover for businesses, vehicles and households. Meanwhile, Egypt’s first takaful company was also formed in 2003, when the Saudi-Egyptian Insurance House started operations. It was later joined by seven other takaful companies, established in 2008, reflecting the strong growth in demand for Shariah compliant insurance products in predominantly-Muslim Egypt. The continued potential for growth is apparent in international takaful operators’ confidence in the Egyptian market. In Nigeria, the National Insurance Commission (NAICOM) in 2013 announced the release of its takaful insurance guidelines and registration requirements to the insurance industry and other stakeholders in order to increase insurance penetration in Nigeria. The regulator has also devised a minimum deposit requirement and risk-based capital requirements along with the provision of the establishment of an Advisory Council of Experts (ACE) for Takaful operators. In 2008, NAICOM approved three insurers for Takaful products.

34

Islamic Finance in Africa: A Promising Future September 2015

Global Gross Takaful Contributions by Region (2011 – 2014F) USD mln

16000 14000 12000 10000 8000 6000 4000 2000 0

2011 Saudi Arabia

2012 ASEAN

GCC

2013E Africa

South Asia

2014F Levant

Share of Global Gross Takaful Contribution by Region (2014F) South Asia 2% Africa 3%

Levant 2%

GCC 15%

Saudi Arabia 48% ASEAN 30%

Source: World Islamic Insurance Directory 2014, Middle East Insurance Review *GCC countries include Bahrain, Kuwait, Qatar, and UAE, excluding Saudi Arabia

There are a number of takaful operators in Kenya offering Shariahcompliant takaful products from basic motor vehicle products to complex pension schemes, such as the Takaful Umbrella Fund. Kenya’s first full-fledged takaful firm was launched in 2011, named Takaful Insurance of Africa. Islamic lender First Community Bank also operates a takaful scheme while Kenya Reinsurance Corp has developed a Shariah-compliant reinsurance product of its own. In May 2015, Kenya’s Insurance Regulatory Authority has introduced new takaful rules which will allow the entry of conventional players into the sector, part of efforts to boost capital markets in East Africa’s biggest economy. The rules came into effect in June 2015 with firms required to adhere to the requirements by December. This would see Kenya join the countries such as Pakistan and Indonesia in allowing takaful windows, which enable firms to offer Shariah-compliant and conventional products side by side. Meanwhile, takaful has been available in Tunisia since 1982. This was followed by the establishment of a re-takaful operator despite the absence of a specific regulatory framework. More companies were established, offering a wide range of takaful and re-takaful products since 2011. In July 2014, the Tunisian National Constituent Assembly (NCA) inserted separate chapters in the insurance code for the establishment of a legislative framework to rule takaful insurance. Through this law, takaful has become a regulated framework in the system, with regulations made for takaful insurance, and financial management of takaful insurance companies. There are presently three takaful operators in the country.

Islamic Finance Outlook in Africa Home to just over a quarter of the global Muslim population, Africa features a potentially strong demand for Islamic financial services and products, presenting significant opportunities to deepen and broaden financial intermediation. Today, Africa accounts for more than 2.0% of global Islamic banking assets (1H14) and 0.5% of sukuk outstanding (2014). In the banking industry, Africa has attracted investments from International Islamic banks due to its strong potential in retail banking. Meanwhile, recent debut sukuk issuances by African governments were part of a funding diversification strategy. Projected Annual Growth Rate of Country Populations (2010 – 2050)

≤ - 0.51%

0.00 to 0.99

- 0.50 to - 0.01

1.00 to 1.99

≥ 2.00

2010 population too small to reliably compute growth rate

Source: The Future of World Religions: Population Growth Projections (2010 – 2050), Pew Research Center 35

While still comparatively underdeveloped, Islamic finance is expanding in many parts of the continent. Islamic financial service providers are now present across most of North Africa and in many countries of East and West Africa (particularly in those with sizable Muslim communities). Despite weaker than expected global growth, Africa offers remarkable growth prospects. In the coming years, Africa is forecast to remain one of the world’s three fastest growing regions and to maintain its impressive 20 years of continuous expansion. Notably, 7 out of the 10 fastest growing economies in the world will be in Africa. Growth drivers are becoming increasingly diverse, with the construction, services and resource-based sectors taking the lead. Of importance, encouraging demographics and closer regional ties will drive growth. The continent is currently home to more than 1 billion people, and the population of young, middleclass Africans is rising while the labour force is expanding. The continent has more than 600 million people of working age. By 2040, their number is projected to exceed 1.1 billion — more than in China or India — lifting GDP growth. Over the last 20 years, three-quarters of the continent’s increase in GDP per capita came from an expanding workforce, while the rest derived from higher labor productivity. If Africa can provide its young people with the education and skills they need, this large workforce could become a significant source of rising global consumption and production. In any case, Africa’s economic pulse has quickened, infusing the continent with a new commercial vibrancy and an abundance of opportunities. By intensifying regional cooperation, African countries will increase intra-regional trade, share resources and build mutually beneficial infrastructure. Additionally, Islamic finance could enable inclusive growth that African governments is persistently trying to achieve. There is now a wealth of evidence from worldwide research that suggests financial inclusion plays a critically important role in poverty reduction, reducing income disparities and increasing economic growth. Financial inclusion, a concept that gained its importance since the early 2000s, has been a shared objective for many governments and central banks in developing countries. The concept initially referred to the delivery of financial services to low-income segments of society, at affordable cost. More recently, the concept of financial inclusion has evolved into four dimensions, namely easy access to finance for all households and enterprises, sound institutions guided by prudential regulation and supervision, financial and institutional sustainability of financial institutions, and competition between service providers to bring alternatives to customers. From an economic growth perspective, there is substantial macroeconomic evidence to show that economies with deeper financial intermediation tend to grow faster and reduce income inequality. On the flip side, financial exclusion can have a negative impact on growth and welfare. The cumulative effect of a large share of a country’s population being effectively excluded from access to formal financial services carries both private and social costs, and ultimately undermines economic growth and development. Given the various benefits, improving financial inclusion is high on most emerging economies’ growth agenda, especially countries in Africa.

36

Islamic Finance in Africa: A Promising Future September 2015

World’s Unbanked Adults by Region (2014)

Other economies 4%

Middle East 4%

Europe & Central Asia 5%

High - income OECD economies 3% East Asia & Pacific 25%

La!n America & Caribbean 10% Sub-Saharan Africa

South Asia 31%

17% Source: Global Findex database

In this regard, the conventional financial system does not sufficiently cater to the low-income or “unbankable” population. To provide services to the low-income individuals, banks usually have to incur higher costs of operations such as credit assessment and monitoring. For example, the breadwinner in a low-income household may not earn a steady paycheck or have the necessary documentation to support his loan application. Furthermore, the lack of collateral amongst lower-income households places more risk on banks’ balance sheets. In turn, banks may have to raise the cost of borrowing, and this makes lending to lower-income households less feasible. Based on statistics, 2 billion adults remain unbanked globally, where South Asia and East Asia and the Pacific together account for more than half the world’s unbanked adults. Currently, subSaharan Africa is home to 17.0% of the world’s unbanked adults. Incidentally, Islamic finance addresses the issue of financial inclusion in several ways. First, the use of risk-sharing contracts provides a viable alternative to conventional debt-based financing. These risk-sharing financing instruments can offer Shariah-compliant microfinance, financing for small and medium enterprises, and micro-insurance to enhance access to finance. Second, through instruments which facilitate the redistribution of the wealth. The Islamic financial system leverage on unique redistributive instruments such as zakat (obligatory charity), sadaqah (voluntary charity), waqf (a Muslim charitable foundation created by an endowed trust fund), and Qard al-Hasan (an interest-free gratuitous loan extended to needy people for a specific period of time, in which the face value of the loan is to be paid off at a stipulated date). These tools complement risk-sharing instruments to target the low-income segment of society to offer a comprehensive approach to eradicating poverty and to support more equitable growth. Therefore, policymakers in countries with substantial Muslim populations may consider the expansion of the Islamic banking sector as part of a national financial inclusion agenda. Similarly, in African countries where the population is predominantly nonMuslim, Islamic finance provides an alternative financial system, which helps to diversify risk and is likely to appeal to those who are

concerned with ethical finance. The segment has shown resilience in the face of one of the worst global financial crisis in history, amid inherent characteristics such as the avoidance of excessive leveraging and speculative activities. Some loss of trust in the conventional banking sector augurs well for the Islamic banking sector, which is seen as having stricter operational guidelines.

Selected Examples of Waqf Utilisation Globally

Healthcare

Meanwhile, developments in niche Islamic finance segments such as Waqf will create more opportunities for Islamic finance to mobilise funds in the region. Waqf refers to a religious endowment eg. a voluntary and irrevocable dedication of one’s wealth or a portion of it – in cash or kind, and its disbursement for Shariahcompliant projects. With proper structuring and administration, it can provide perpetual benefit to the society. From an economic perspective, waqf can be regarded as a type of savings-investment mechanism where funds are diverted from consumption and invested in productive assets that provide revenue. The proceeds can be used to achieve social objectives such as building hospitals, orphanages, universities and such, thus unlocking both its economic potential and philanthropic objectives in the case of the African continent. Case Study: Waqf and Zakah in Africa Poverty in Africa are at worrying levels. A report on Economic and Social Conditions in West Africa by United Nations Economic Commission for Africa stated that “In West Africa, approximately one person in three in the towns, and one out of two in the rural areas, could not afford the expenditure needed to cover their basic necessities.” The situation has reached emergency proportions and calls for urgent action. Various policies and programs to combat the poverty in the region have been implemented by the government of various countries in West Africa, but yet poverty is still widespread. Zakah and Waqf are Islamic institutions that play crucial roles in poverty alleviation. Various countries of West Africa should endeavor to integrate Zakah and Waqf into their poverty alleviation programmes. Zakah can be defined as “to purify” and “to grow”. In Islamic law, Zakah refers to the determined share of wealth prescribed by the Almightly to be distributed among categories of those entitled to receive it. Besides, it is

Education

Poverty Reduction

Waqf Ultilisation

Funding for small business Source: ISRA

a compulsory payment the wealthy to the economically under privileged. Allah SWT has made it compulsory on wealthy and rich people to transfer certain percentage of their wealth to the poor annually. Zakah does not only enhance economic and social development but also promotes unity, solidarity and harmony. Apart from it being an act of charity, it is also a compulsory duty of every wealthy Muslim. In Nigeria, Zakah has been in practice for centuries through the Sokoto Caliphate that existed during 1884 – 1904. The system, however, received a setback during the subsequent colonisation when the introduction of a tax system threatened to replace the zakat system. The system received a new start in 1999, when twelve states within the Federal Republic of Nigeria adopted Shariah penal law codes in addition to their longstanding systems of Shariah personal law. The status of zakah system in the twelve states currently reveals a great diversity and it is in varying stages of development. This is presented in the table below:

The Zakah System in Nigeria’s 11 States State

Institution

Establishment

Remarks

Kano State

Kano Zakah and Hubsi Commision

2003

Started voluntarily in 1987

Zamfara

Zamfara Zakah and Endowment Board

1999

n/a

Sokoto

Sokoto State Zakah and Endowment Committee

2003

Zakah is compulsory

Kebbi

n/a

n/a

n/a

Kaduna

Committee on Zakah and Waqf

2003

(Awaiting to pass a billat house of assembly)

Katina

Katsina State Zakah Committee

2001

n/a

Jigawa

Zakah Collection and Distribution Bill 2000

2000

n/a

Bauchi

Bauchi state Zakah and Endowment fund

2003

Zakah is compulsory

Gombe

n/a

n/a

n/a

Niger

Niger State Zakah and Endowment Board

1999

n/a

Yobe

Yobe State Zakah and Endowment Board

2002

n/a

37

Zakah payment is compulsory only in two states – Sokoto and Bauchi. The Zakah and Hubsi Commission as the apex body for management of zakah and waqf in Kano State was established in 2003. The commission is responsible for regulating all matters relating to Zakah and Waqf, which includes collecting Zakah and Waqf, distributing such collected funds to deserving members of the public and investing in accordance with Islamic injunctions. Beneficiaries of Zakah include Imams, Qur’anic/ Islamiyya school teachers, as well as all categories of needy people. Key challenges to zakat management in Nigeria are as follows: • Lack of national coordination resulting in diverse practices of Zakah • Inexistence of strong legal backing for enforcing the Zakah in some states • Too much emphasis on traditional methods of Zakah collection from farmers and cattle rearers • Lack of expertise in the Zakah institution • Inclination among people who are not from the same area to send back their zakat to relatives • Lack of trust and confidence among the public towards the institutions dues to cases of misappropriation of Zakah Meanwhile, Waqf or Awqaf can be defined as hold, confinement or prohibition. In Islam, Awqaf is perpetual charity that means holding certain property and preserving it for the confined benefit of certain philanthropic purposes. Types of Awqaf: • Religious Awqaf which focuses on maintenance of religious institutions such as mosques and madrasah • Philanthropic Awqaf aims at providing support for the poor such as health services, as well as education • Family Awqaf is a unique kind of awqaf that ensures awqaf proceeds are given to the family and descendants in the first place and then the excess be given to the poor

“Zakah and Waqf can

support the most vulnerable members of the community”

38

Islamic Finance in Africa: A Promising Future September 2015

In South Africa, the earliest implementation of waqf was made by a woman of slave parents in Cape Town in the form of land that was dedicated for the building of the first mosque. This was done approximately 150 years after the arrival of the first Muslims at the Cape of Good Hope. Today, every town, city or village has some form of waqf which in either in form of a mosque, jamaat, khana and madrasah. Some private family waqfs have also emerged. For example, Lockhat, Motala, HS Ebrahim as “Private family trusts” that have supported various religious, educational, and charitable causes. Several schools, madrasah, masjid, and educational scholarships were either built or supported by these trusts. Most common waqfs in South Africa are mosques and madrasahs. Beyond these, there are no significant social development waqfs on a large scale. Up until 2001, there were no serious efforts towards the establishment of a public waqf. Currently, greater awareness has been created about waqfs with the formation of Awqaf SA. The focus of the Awqaf SA is to mobilise waqf funds and fund sustainable community development projects. Several factors may contribute for the slow and unpopular social development waqf. The factors are as follows: • Lack of qualified ulamas • Lack of literature in English • Lack of learning in madrasahs • No public discussion or lectures in mosques or halls • Waqf is not included as a subject or section in universities • Waqf is not promoted as part of the Islamic financial system With new initiatives such as the Awqaf SA, other African countries will hopefully follow suit and realise the immense potential for economic and social reform.

For Africa, a strategy to develop Islamic finance should be carefully tailored to the specific characteristics of the country, including, in particular, the size of the economy and its conventional financial system. At the same time, it becomes critical to strengthen capacity for domestic supervision, liquidity monitoring, and crisis management. The introduction of Islamic finance in African countries is broadly similar to other aspiring countries globally. It entails, among other things, a careful assessment of financial stability and appropriate legal, regulatory, and supervisory frameworks. Legal and prudential framework adjustments should include adequate but not preferential treatment for Islamic banks, and there should not be regulatory arbitrage. The objective is to ensure financial stability and establish a level-playing field for all banks. Currently, on the Islamic capital market front, the continent has some presence in the global arena, in particular sukuk. As mentioned previously, African countries that have issued sukuk include Sudan, Nigeria, Senegal, South Africa and Gambia. Moving forward, several countries such as Tunisia, Egypt and Morocco have expressed keen interest in tapping the sukuk market for infrastructure financing and have finalised or are in the midst of finalising their legal frameworks to promote sukuk issuance. Moreover, several newly-installed governments in North Africa are eager to establish their Islamic credentials and tap into sukuk markets instead of selling conventional bonds. At present, the economic recovery in the US and Europe continues to be Key Global Multilateral Institutions Engaged in Islamic Finance The Islamic Development Bank Group

uneven, amidst household deleveraging and constrained fiscal positions. Thus, Africa’s future funding needs may be supported by attracting and gaining access to a pool of wealthy investors from the Middle East and Asia Pacific, who invest in Shariahcompliant products only. In a nutshell, the African sukuk plans are largely linked to the continent’s needs to fund approximately USD93.0bln worth of infrastructure work a year as mentioned previously and to offset fiscal deficits. Multilateral institutions are forming a second layer of support and development of the sukuk market above that of domestic initiatives. In 2009, the World Bank, major donors and multilateral institutions highlighted that nowhere is lack of infrastructure more crucial and potentially transformational than in subSaharan Africa in order to facilitate goods and labour mobility, increase competitiveness and attract foreign direct investment. A comprehensive regional analysis was undertaken, aimed to establish “a baseline against which future improvements in infrastructure services can be measured” and guide priority investments and policy reforms. The analysis estimated that the region needed approximately USD93.0bln per year to fill the infrastructure gap. In the five years since the study, the response in tackling the infrastructure gap has been unprecedented, especially in terms of increased financing. Moreover, the Islamic Development Bank and the African Development Bank, in tandem with their goals to encourage sustainable economic development and social progress in its regional member countries, has undertaken various measures to support the initiatives to develop Islamic finance in Africa. Both multilateral institutions been actively involved in backing African governments’ plans to diversify funding through Islamic capital markets as well as through equity participation in Islamic banking and financial institutions across many African nations. The Islamic Financial Services Board (IFSB), an international standard-setting organisation, is another multilateral entity which has played its due role in harmonising and converging all prudential standards and guiding principles for the industry under one roof. A number of IFSB’s members hail from Africa from countries such as Nigeria, Egypt, Sudan, Mauritius, Zambia, Senegal, Tunisia and Kenya.

African Development Bank

The World Bank Group

Asian Development Bank Private Participation in Infrastructure (PPI) Commitments by Regions (2013 vs 2012) International Monetary Fund

2013

Islamic Financial Services Board International Islamic Liquidity Management Corporation International Islamic Financial Market Accounting and Auditing Organisation for Islamic Financial Institutions

2012

Percentage of Total

PPI Investment USD bln

Percentage of Total

Increase in 2013 over 2012

69.3

46%

87.0

48%

-20%

28.5

19%

22.5

12%

27%

East Asia and Pacific

19.4

13%

17.2

9%

13%

Sub-Saharan Africa

14.9

10%

12.8

7%

16%

South Asia

13.8

9%

35.1

19%

-61%

MENA

4.5

3%

6.7

4%

-33%

Total

150.4

100%

181.3

100%

-17%

Region

PPI Investment USD bln

Latin America and the Caribbean Europe and Central Asia

Source: World Bank 39

Key Growth Factors of Islamic Capital Markets in Africa Rising Muslim population

Improving regulatory and legislative environment for Islamic Finance

Growth in economic activity

African countries have enormous growth potential and will continue to grow rapidly, presenting singificant opportunities for ICM products as an alternative mode of refinancing government projects

The Muslim population is projected to rise from 52% of the total population in 2010 to 56% in 2030

Limited regulatory improvements have been observed in selected countries, paving the way for the development of an ICM in selected target countries

Selected Africa: % Share of Muslim Population (2014)

Burundi Central African Republic Mozambique Cameroon Benin Uganda Ivory Coast Ghana Chad Ethiopia Sierra Leone Burkina Faso Guinea Gambia Senegal Niger Egypt Djibou! Sudan Comoros Libya Algeria Mauritania 0%

10%

20%

% Share of Muslim Popula!on Source: World Bank

40

Islamic Finance in Africa: A Promising Future September 2015

30%

40%

50%

60%

70%

80%

90%

100%

Aside from the sukuk market, Africa’s Islamic funds markets offer promising prospects in the medium-run. As incomes rise, African consumers will demand more sophisticated financial products. Given the large Muslim population across most parts of the continent and the rising awareness of Islamic and ethical finance, there is room for growth for Shariah-compliant investment funds. The number of HNWI investable funds in Africa is one of the fastest growing in the world.

Overall, most African countries lag compared to the rest of the world in terms of insurance, and have very low penetration ratios. This implies that there is substantial scope for future development, which in turns offers profitable opportunities for takaful operators. The Islamic investment market in Africa is growing with wide opportunities for takaful operators to hold a spread of Shariah-compliant investments and alleviate any concerns a regulator may have.

On the Islamic banking front, the sector has recorded solid growth, underpinned by Africa’s large and under-served Muslim population and increasing awareness of Shariah-compliant products. Markedly, the Islamic banking sector in countries such as Kenya and South Africa have marketed products to non-Muslims as well, increasing the sector’s outreach. As seen in China’s welldocumented economic and population boom, as incomes rise, the demand for cars and houses may increase significantly. Islamic banks in Africa are currently offering a range of financing products such as Murabahah and Ijarah. The continued rise in demand for these products creates an opportunity for these banks, as well as a challenge to offer more sophisticated products at more competitive financing rates.

Demand for takaful products in Africa are likely to increase as incomes increase (studies have shown that there is a direct link between GDP per capita and insurance penetration) in addition to rising awareness of risk management and its benefits. The areas of highest potential are in long-term health and illness cover, as private healthcare is likely to become more widespread as a result of public health facilities becoming more crowded and less efficient. Similarly, the demand for private education may increase at least for the upper middle-class populations. This forms an opportunity for takaful providers to increase offerings of medical coverage and education savings takaful plans. On the commercial side, increased business activity by SMEs will support the growth of products which protect against losses from any calamities for business owners, such as fire and theft incidents and natural disasters, in addition to group life and medical packages. On another note, GCC takaful providers should leverage their proximity to rising opportunities in Africa.

Demographics

Economic Growth Stronger growth supported by improving fundamentals, domestic demand and stronger regional integration

A continent of 1 billion people, Africa’s middle-class population is expected to increase and this will boost demand for retail banking, takaful and Islamic funds

Islamic Finance in Africa: Growth Drivers Infrastructure Funding Gaps

Financial Inclusion

Significant investment needed in the medium-run, with the funding gap estimated at USD31bln a year, mostly in the power sector

Improving financial literarcy across the continent, including on Shariah-compliant products amidst policymakers’ renewed interest in the sector as a means of supporting financial inclusion

41

The global Islamic finance industry faces several multidimensional challenges in its bid to unlock its huge potential, and it is no exception in Africa’s case. These include challenges on the regulatory front such as regulatory inconsistency, as well as the shortage of qualified human capital, the lack of awareness and financial literacy, and a generally business-friendly environment.

Shariah governance framework is expected to be included in the legal and regulatory framework in order to ensure that the entire operations of financial institutions engaging in Islamic finance remain Shariah-compliant. This is important as observing the principles of Shariah embodies the foundation of the industry and its hallmark of confidence and credibility.

For the potential to be realised and to allow the Islamic finance industry to develop and thrive in a safe and sound manner in Africa, it will be important, among other measures, that African governments adapt their regulatory and supervisory framework to support the development of the industry. The regulators in African countries will have to produce general and specific rules and guidelines in order for this to take place. An approach that can be adopted by African regulators would be to retain the existing conventional financial framework in their respective countries and take incremental steps to accommodate the specificities of Islamic finance, which leads to gradual extension and differentiation of the legal and regulatory system over time. Likewise, a proper

For the most part, some African countries have made significant efforts to improve the framework to embrace Islamic finance, including implementing laws and regulations which enables the issuance of sukuk, amending tax laws to create an equitable and level playing field for Islamic finance, and forming Shariah boards which carry the responsibility of ensuring that all products and services offered are fully compliant with the principles of Shariah law, thus serving both supervisory and consultative functions. More African countries is expected to follow suit as their economies stand to benefit from more financial inflows via sukuk and borrowing, while consumers gain from a wider range of financial products.

Meanwhile, the Islamic finance industry cannot develop without the professional human capital for Islamic finance. Currently, there are shortages in skills and capabilities in the Islamic finance business, including among regulatory authorities. Often referred to as the industry’s gatekeepers, the lack of qualified scholars is squeezing further growth in the industry. However, institutions such as International Center for Education in Islamic Finance (INCEIF) and Bahrain Institute of Banking and Finance (BIBF) are trying to correct the problem with a variety of new courses and degrees. To move forward, it is necessary for Africa to create large pools of experts and highly qualified professionals with in-depth expertise in Shariah and conventional financial practices to bridge the gap. African governments can introduce professional degree programs, Islamic finance talent development programs and courses for Islamic finance in collaborations with Islamic finance thought leaders such as Malaysia.

Additionally, there is a lack of awareness and relatively low levels of financial literacy in Africa, and the byproduct is the marginal understanding of Islamic finance. This issue can be resolved through quality education and training for professionals in the industry, as well as general consumers. Against this backdrop, it is desirable to define and tackle the root of the problem and improve the level of financial literacy among the most vulnerable parts of the African population. Low financial literacy is an important demand-side barrier to more effective financial inclusion, and only financial education initiatives can empower vulnerable individuals economically, in order for them to better manage household resources and develop income-generating activities. As a result, this bodes well for the continued development of Islamic finance in Africa.

42

Islamic Finance in Africa: A Promising Future September 2015

Indeed, in recent years, several governments and financial regulators engaged in the development of financial education programs in Africa. Notable examples of advanced programs by public authorities and of national strategies have been found in Ghana, Namibia, South Africa and Uganda. Several other programs have been implemented by a range of stakeholders, including non-governmental organisations and financial institutions.

As of late, many businesses form associations to work collectively with governments and non-governmental organisations, thus playing their role in promoting Africa as a significant investment destination. As well as applying collective pressure to governments, these business associations, such as Business Action for Africa (BAA), intend to promote good business practices and a more balanced view of Africa to lure investors.

Finally and perhaps the most crucial point, there is room for improvement in conditions to support business activity, which will support the growth of Islamic finance. Africa still has a fragmented business landscape as well as domestic problems of various natures that may hinder foreign investors. Excessive and ineffective bureaucracy can often stifle and inhibit good business practice. In a region in which the state remains a major economic actor, investors must deal with governments and nascent regulators, which can be challenging at times.

A growing number of players have started addressing these challenges systematically and to varying degrees of success. In fact, some of the recent economic success in Africa has been attributed to these measures. Together, if all the above challenges are met and appropriate measures are undertaken, the Islamic finance industry will reach a new dimension in Africa.

In the last decade, African policy makers have been active in improving business conditions in their respective countries. Several business reforms have taken place – entry barriers to new businesses have been reduced, trade policies have been liberalised, many state-owned enterprises have been privatised, and critical infrastructure gaps are continuously being plugged. This is crucial as day-to-day business across the continent is so often thwarted by practical struggles with transport, logistics, energy and technology. The vast scale of investment now taking place in Africa would not have been possible without the implementation of such policies. Key Islamic Finance Challenges Moving Forward

Favourable regulatory and legal conditions Skilled human capital Consumer awareness and education Business-friendly environment

43

44

Islamic Finance in Africa: A Promising Future September 2015

Islamic Corporation for the Development of the Private Sector P.O. Box 54069, Jeddah 21514 Kingdom of Saudi Arabia Tel : +966 12 636 1400 Fax : +966 12 644 4427 E-mail : [email protected] Website : www.icd-idb.org