Islamic Banking and Its Potential Impact: Article

    
This is a little different from other case studies being presented at this conference. Since
the representatives of the Shariah Bureau of Bank Indonesia responsible for the
supervision and development of Islamic finance will focus on the experience and
progress of Islamic banking in Indonesia, I will focus on some questions about the
impacts of that banking, particularly in rural areas, and aspects that the Bank Indonesia
representatives will not focus on.
    Islamic banking is a worldwide phenomenon involving a variety of institutions and
instruments, not one “project” or institution. In the past few decades, Islamic institutions
and instruments have developed in many countries, including the United States. In certain
countries—Iran, Sudan, and Pakistan—all or most financial intermediation conforms to
Islamic shariah (religious law) as defined by local authorities. All three of these countries
also have banking authorities that govern the general level of charges and returns in the
system and these are not usually market-governed systems.
    In most other countries, including Indonesia, Islamic transactions and institutions
make up a small part of the total and must compete with conventional financial
institutions. There is even considerable Islamic banking in the United States.1 If the terms
and conditions of Islamic transactions differ too much from those of conventional
institutions they become hard to sustain. The terms and conditions of Islamic institutions
therefore tend to converge with conventional ones. 2
    Islamic instruments are simply a narrow group of familiar financing instruments. Any
transaction, with any distribution of proceeds, can be conducted as a lease, a sale, a
partnership, a fee-generating transaction, or a loan. Islamic instruments generally avoid
loans. Though the scheduled distribution of proceeds may be the same as for a
conventional loan, the legal risk in case of default is often different in the different forms
of financing.

By Thomas A. Timberg
(Nathan Associates, Inc.)