Islamic banking has expanded to over 70 countries since the mid-1970s and prohibits interest-based earnings and investments in activities deemed sinful by Sharia law like alcohol, tobacco, and gambling. India's current banking laws prohibit Islamic banking practices like profit-loss financing and buying/selling goods. However, experts argue that Islamic banking could mobilize large amounts of capital from devout Muslims and foreign investors in Middle Eastern and Southeast Asian countries, and new financial products from Islamic banking have the potential to be safer than existing ones. While regulating both Islamic and conventional banking poses challenges, Islamic banking could promote financial inclusion for India's large Muslim population and foreign investment from Islamic nations.

1. Why Islamic Banking in India is a Good Idea?
Since the mid 70s Islamic banking and finance has expanded to about 70 countries
encompassing most of the Muslim world; about 55 developing and emerging market
countries and 13 other locations around the world, including Australia, Bahamas,
Canada, Cayman Islands, UK and Switzerland.
In 1974, the Organization of Islamic Countries (OIC) had established the first Islamic
bank called the Islamic Development Bank or IDB. The basic business model of this
bank was to provide financial assistance and support on profit sharing. By the end of
1970, several Islamic banking systems had been established throughout the Muslim
world, including the first private commercial bank in Dubai(1975), the Bahrain Islamic
bank(1979) and the Faisal Islamic bank of Sudan (1977).
The most pivotal fact on which Islamic banking rests upon is the prohibition of
interest based earnings or “Riba”. Muslims believe that profit should be based on
efforts ; while moneylenders make money with negligible efforts by using the tools of
Interest. Their earnings increase while they sit idle.
Islamic banking also prohibits investment on activities considered haram or sinful,
according to sharia. Thus, projects involving alcohol, tobacco, pork products and
pornography are all forbidden. The system also condemns gambling and speculative
activities. It should also be mentioned that Islamic banks keep their doors open to all
irrespective of religious differences.
India's current laws obstruct the establishment of Islamic banking – The Banking
Regulation Act (1949) prohibits the operation of banks on a profit-loss basis (5b), and
thus forbids “murabaha” & the buying, selling, or barter of goods (8), impedes ijara,
or bars the holding of immovable property for a period greater than seven years (9),
and requires the payment of interest (21). However, there is no reason for these
regulations not to be amended. The purpose of regulations is to ensure smooth and
standardised operations, not vet business models; the market will be the best judge
of the efficiency and pitfalls of Islamic banking.
Experts argue that Islamic banking will mobilise enormous capital held by devout
Muslims who sparingly participate in the conventional market. The Raghuram Rajan
Committee on Financial Sector Reform (2008) also considered interest-free banking,
and by 2013, the global market for sharia-compliant assets has risen to $1.6 trillion.
Specifically for India, this means institutional money from the Middle East and
Southeast Asia, as well as private wealth held by Indian Muslims in and out of the
country. Given the number of Indian expatriates in these regions, Islamic banking
holds an enticing opportunity for fuller market capitalisation. Sharia-compliant
schemes have already shown promise in India - Tata Core Sector Equity Fund,
launched in 1996, was tailored to assuage Muslim inhibitions on riba. Furthermore, it
would be an added bonus if Islamic banking reduces dead-end investments in gold
and jewellery.

2. “Thenon-availability of interest-free banking products results in some Indians,
including those in economically disadvantaged strata of society, not being able
to access banking products and services due to reasons of faith.”
- Raghuram Rajan
Islamic Banking has the potential to create new financial products which can be safer
than the existing products. One probable product could be debentures with modified
or no coupon rates. Many orthodox Muslim businessmen are still self-financing their
businesses; Islamic banking can help in including all these people in the nation’s
growth by expanding their horizon of businesses. The current population of Muslims
in India is 177 million, which is 13% of the total population of India; countries like
Pakistan and Indonesia have population of 173 million and 246 million as per 2012
census. Though the percentage figure seems low in India, countries which have
implemented Islamic Banking serve as a lesson for targeting the correct segment of
population to reap the benefits. This would also promote the entry of foreign currency
and investments into India from the Islamic countries across world.
On the flip side, devising a regulatory framework satisfying both Islamic and
conventional banking systems would be a challenging task for RBI. Educating the
people about the new banking system would be tough, given the low awareness
levels of conventional banking system. Another challenge is the common perception
among the people of other communities in India against Islamic Banking. There is a
serious dearth of Islamic banking experts in India who can manage the banks in the
current competitive environment. Nevertheless, the interest-free solutions of Islamic
Banking could restore equilibrium in Indian society by providing succour to debt
ridden farmers, labourers and other marginalized groups. Hence, Islamic Banking is
a potential tool for financial inclusion.
Aftab Anjum
MBA IIyr
Centre for Management Studies
Jamia Millia Islamia