Islamic Finance

Introduction of Islamic banking continues to face barriers in India

Photo: People walk past the Reserve Bank of India (RBI) head office in Mumbai, India, November 9, 2016. The RBI's recommendation for the introduction of Islamic windows was shot down by the minister of state for finance in December, 2016. REUTERS/Danish Siddiqui

India’s path to introducing Islamic banking continues to be strewn with regulatory, political and perception hurdles, with a recent proposal by the country’s central bank, the Reserve Bank of India (RBI), to introduce Islamic windows at conventional banks being given short shrift by the finance ministry. 

Minister of State for Finance Santosh Kumar Gangwar told Parliament in early December 2016 that “even to introduce limited products, various legal changes would be required”, highlighting the challenges of operating multiple different banking systems in a country that already has conventional and cooperative lenders.

The RBI’s recommendation to introduce Islamic windows was based on its findings that ‘some sections of the Indian society have remained financially excluded for religious reasons that preclude them from using banking products with an element of interest’. In its annual report for 2015-16, RBI proposed that ‘the modalities of introducing interest-free banking products in India’ could be explored in consultation with the government.

Gangwar has rebutted that there are “enough means of financial inclusion” already available within existing schemes and therefore, “the objectives of financial inclusion for which Islamic banking was explored by RBI has no relevance” in India. 

Although the government seems to have shut the door on this for now, advocates of Islamic banking in India say they will continue to lobby for its introduction, even as others are using non-mainstream banking avenues to offer Shariah-compliant products and services.

“We have been asking for this for the past 10-15 years. Previously, we didn’t have much hope. But now the RBI’s report is categorical and we will continue to talk to the government about this,” said H. Abdur Raqeeb, General Secretary of the Indian Centre for Islamic Finance (ICIF), a non-governmental organisation prominent in lobbying to introduce the concept of interest-free banking in India.

Keyur Shah, Tax Partner – Financial Services, at Ernst & Young India told Salaam Gateway, “In our analysis, we observe that there are products that can be offered without initiating any changes in the current regulations. Shariah-compliant schemes set up by asset management companies are among these. There are others, however, that will require some change in the RBI Act, Banking Regulation Act and such other legislation.”

Shah is referring to asset management operations by what India calls Non-Bank Financial Companies, or NBFCs, a form of money management performed without a fully fledged banking licence.


India's 'Shariah-compliant' NBFCs and cooperative credit societies held back by lack of Islamic capital


“I think you need to have your systems in place so that both Islamic banking and conventional banking are able to coexist. Right now we have a regulatory structure for regular banking. If you want to bring in Islamic banking, you need to have regulatory oversight,” Madan Sabnavis, Chief Economist at credit rating agency CARE Ratings, told Salaam Gateway.

Shah pointed out that several non-Organisation of Islamic Cooperation (OIC) countries had already added Islamic banking to their conventional streams, including the United Kingdom and Singapore. “A country that provides all forms of financial products needs to have Islamic banking because it is a financial product that is now gaining universal presence,” he said, adding that an institution offering a suite of services to its customers should be able to offer that, too.

Sabnavis stressed the need to look at the size of demand for any service before introducing it. “My own understanding is that even among Islamic countries, although Islamic banking is growing in terms of proportion, a large part of the Muslim [population’s] banking is still going on in the regular banking sector. You need to make sure that you have sufficient mass before you create the regulatory structure,” he added.


One of the other major hurdles that has polarised the country is political in nature. Right-wing politicians argue a secular country like India should not adopt a religion-based banking system. “Some people oppose Islamic banking in India and their main objection is to allowing Islamic clerics dictating terms in the banking sector,” Syed Zahid Ahmad told Salaam Gateway. He runs an economic advisory and financial consultancy centre, Economic Initiatives, at Mumbra, a Muslim-dominated suburb of Mumbai.

Ahmad recommends the country adopt interest-free or ethical banking instead. “We may need to constitute ethical boards instead of Shariah boards to ensure that anti-Islamic elements do not creep into the system. We can engage Shariah scholars, financial and banking experts as well as economists on such ethical boards constituted by RBI and leading banks dealing in such a model.”

Others agree the ‘Islamic’ nomenclature could be a stumbling block. “A lot of people have a problem with anything that is ‘Islamic’. I call it participatory banking, or ethical banking,” said Zafar Sareshwala, a businessman from the western state of Gujarat with interests in the finance and automotive sectors.


Sareshwala argues that the interest, or ‘riba’, element is not the only thing keeping Indian Muslims out of the formal banking sector. Data show that more than 60 percent of India’s 172 million Muslims don’t even have a bank account.

“It is rather because of illiteracy, misinformation and lack of awareness that Muslims don’t bank.  I think the need of the hour is to bring the whole community into the banking system first. Only then can they take advantage of interest-free or participatory banking,” said Sareshwala, who is also the chancellor of Maulana Azad National Urdu University. 

It isn’t only Muslims who are unbanked, however. As high as 47 percent of India’s 1.25 billion people don’t have bank accounts, regardless of religion, according to the World Bank’s Global Findex study in 2014.

The recently announced national financial inclusion scheme Pradhan Mantri Jan Dhan Yojana, coupled with an enforced demonetisation of 1,000- and 500-rupee notes, has led to the opening of 260 million additional bank accounts as on December 21, 2016, from all segments of the population. However, according to World Bank figures, as many as 43 percent of all existing accounts in India are classified as ‘dormant’, meaning they have not been operated for up to 12 months.

Ahmad points out that financial inclusion of Muslims doesn’t stop at opening a bank account. “You should also be able to avail credit,” he said, adding that Muslims are unable to access the kind of financing they want through the conventional banking sector.

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Syed Ameen Kader, Media ME