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Stagnation of Islamic finance and banking in Lebanon

Islamic finance and banking in Lebanon - a review and a preview

2018 – a review

In 2004, Law No.575 introduced Islamic banking in Lebanon in the context of a sound banking environment, which has since continued to show resilience to financial and political crisis. By providing a legal framework for Islamic banking, the Lebanese legislator allowed banks to cater for an array of domestic and foreign demands for services that complied with certain religious standards or that offered investment and financing tools driven by a logic that was different from the dynamic that had, on numerous occasions, undermined the conventional financial sector.

Islamic banking appears — at least in theory — to have reached a fairly advanced stage in terms of its penetration of the Lebanese market. There are indeed a number of full-fledged Islamic banks licensed by the Central Bank (BdL) which operate in Lebanon. Islamic banking has yet failed to witness an actual booming: there are today only a handful of licensed Islamic banks and their share of the market does not exceed 1%, according to Jamil Hammoud’s ‘The challenges and opportunities of Islamic banking in Lebanon’ 2017.

The reason for the limited development of this segment of the banking and financial industry is not related to the non-religious nature of the Lebanese legal system: the UK or South Africa have indeed become hubs for Islamic finance despite their not being Muslim states governed by the Shariah. Moreover, scholars have underlined the fact that the idea that Islamic finance is not open to non-Muslims is a misconception — refer to Usman Hayat and Adeel Malik’s ‘Islamic finance: ethics, concepts, finance’, CFA Research Institute Foundation 2014. The reasons that explain such failure to grow do not lie in the global decline of Islamic finance either, as the pace of development of this industry has reached the thread of 10-12% growth in the past decade, according to Abayomi Alawode’s ‘Islamic finance brief’, World Bank Group 2015.

Stagnation of Islamic finance in Lebanon is partly due to the absence of a genuine willingness to boost its development. For instance, although there exists a legal and regulatory framework that includes an asset securitization law (Law No 705/2005), as well as regulations relating notably to Ijarah and Musharakah as per BdL’s Basic Decisions No.9042/2005 and No.8954/2005, which often support the remuneration of Sukuk holders, Lebanon has not issued sovereign Sukuk, which could have opened an avenue for Islamic banks to invest short term excess liquidity — refer to Juan Solé’s ‘Introducing Islamic Banks into Conventional Banking Systems’ IMF 2007.

Many obstacles continue to hinder any initiatives, including the absence of a secondary market. Islamic bankers also acknowledge that they have not succeeded in educating the general public in Lebanon on the specifics of their products. Despite the many calls for a strategic education campaign that could foster awareness of their products, Islamic banks have not federated their efforts to promote their approach to the banking and financial industry — see e.g. Ghassan Chammas’ interview, ‘Why Islamic finance is failing in Lebanon’, Albawada 2014.

2019 – a preview

Although Law No. 575/2004 sets the basis for Islamic banking and while the BdL issued subsequent to the enactment of this law a significant batch of regulations in an effort to facilitate its implementation, the current legal and regulatory framework is not sufficient to allow the full-steam development of Islamic finance in Lebanon in the immediate future.

In the past decade, Islamic finance has not ranked high on the BdL’s agenda, which was already taken up by many challenging issues relating notably to exchanging tax information, fighting criminal offenses in the financial sector ( cybercrime, terrorism and money-laundering), electronic transactions and data protection. As for the Capital Markets Authority, it has mainly taken up the existing BdL regulations, which is only natural knowing that it is chaired by the governor of the BdL.

The recent changes the regulatory framework made via a number of regulations — Intermediate Decisions No.12497/2017 (practice of Islamic banking), 12498/2017 (Murabahah) and 12499/2017 (Mudarabah), which respectively amended Basic Decisions No.94/2004, 96/2004 and 100/2005 — amount to mere adjustments.

Supporting the growth of Islamic finance requires more than the intervention of the banking and financial markets’ regulators as the main hindrances to the development of Islamic finance can only be lifted by Parliament.

Currently, the legislator’s failure to take into account the mechanics of Islamic finance does not place conventional and Islamic banks on an equal footing. The prohibition of Riba makes it notably difficult to offer competitive solutions to customers in a legal environment that builds many banking services on and around the payment of interest. Scholars have drawn attention to double taxation, which applies to many Islamic transactions that purport to meet the same financing needs that conventional banks also cater for via interest-based loans. For instance, stamp duty (which was recently increased to 4/1000) applies twice to the transfer of real property pursuant to an Ijarah Muntahia Bittamleek and VAT (which was recently increased to 11%) — see Law No.66/2017 — applies also twice to the transfer of real property in the context of a Murabahah.

Where the BdL has supported the financing of individuals and businesses in many sectors, such as agriculture and tourism, by subsidizing interest payments on loans extended by Lebanese banks, no equivalent facilities have been provided to Islamic banks, whose financing instruments do not make room for the concept of interest. It is also the prohibition of Riba that prevents Islamic banks which, like conventional banks, are required to constitute a reserve with the BdL, from receiving and incorporating interest on such money in their profits — see Ghassan Chammas, ‘Islamic finance industry in Lebanon: horizons, enhancements and projections’, ESA 2006.

While the country is still trying to establish a new cabinet and meet the challenge of launching large-scale infrastructure and energy projects that could fuel economic growth, Islamic banking could contribute to such efforts if proper state-of-the-art legal and regulatory frameworks would allow it to develop. It is however difficult to anticipate the future of this industry in the few coming years as neither the banking and financial markets’ regulators nor Parliament have announced any major reforms for the foreseeable future.

Elias R Chedid and Georgette Salamé