The Role of Financial Intermediaries in the Economic System - Essay Example

Critical Analysis on Islamic Banking Islamic Banking The role of financial intermediaries in the economic system can never be over d. Banks, perhaps, are the most popular "go between" which balances the supply and demand of funds by facilitating the transfer of funds from investors to sectors which needed financing. Islamic banking has been one of the less popular banking systems in the financial market. It should be noted that even though Moslems accounts for 20% of the total world, the number of Islamic banks in the globe is only a small portion relative to commercial banks. Some recent developments, however, is presenting opportunities for Islamic banks. It should be noted that the Islamic finance market has already matured to $200 billion in assets. Therefore, companies should employ the accurate strategies to capture these markets. The operation of Islamic banks rests on two important tenets: no interest and socially responsible investing (Islamic Banking in UK 2006). These principles practiced by Islamic banks are dictated by the Quran. Usury or the process of lending funds at exorbitant interest rates is strictly prohibited. Also, money or financing acquired from banks can only be used for worthy cause. Financial resources should never be used to fund activities such as illegal drugs, weapons, alcohol, pornography, and terrorism. Analysing this system, we can see that Islamic banks will be more preferred by borrowers than depositors. As these financial institutions do not promise interest on the funds deposited by customers, non-Moslem investors will see it more profitable to utilize the services of conventional commercial banks. This type of product can only be targeted to the adherents of Islam which advocates this type of banking practice. The use of these principles in Islamic banking could have motivated businesses and entrepreneurs to use these financial services. It can be seen that the financing products and services offered by Islamic banks operates on profit and loss sharing (PLS). For example, the Mudarabha is a venture between an entrepreneur and Islamic bank where the firm provides the expertise, management, and labor while the latter provides the capital. In this type of partnership, any loss is fully shouldered by the financial institution (Gafoor 1995). Islamic Mortgage Finance One of the products of Islamic bank which has gained wide acceptance and popularity in the United Kingdom is mortgage finance. As opposed to the conventional mortgage financing, Islamic banks buy and own the commodity for the client. The client then purchases the product from the bank at a markup within a specified period of time. After full payment has been made, the ownership of the property will be transferred from the bank to the client. The success of Islamic banking in the United Kingdom is indicated by t he report of Research and Markets. According to the agency, the market for Islamic banking now reached $164 million. The segment also shows fast paced growth at an average annual rate of 68.1%. This is over and above the industry average of 16.2%. If this trend will continue, the total value of Islamic mortgage banking will be equivalent to over $1billion in 2010 while conventional banking will suffer from intense rivalry. It should also be noted that currently, the profitability of Islamic banking is indicated by the participation of commercial banks like HSBC and Lloyds TSB in the market. It was found out that in 2003, there is only one Islamic lender in UK. Currently, this number has already increased to five. However, it should be recognized that the Islamic banking, specifically Islamic mortgages command only a small portion of the market in UK. One of the hindrance of mortgage finance is the stamp tax duty. Recommendations The success of Islamic banking in the United Kingdom together with the acceptance of the non-Moslem population implies that this type of financial intermediation can be embraced by other clients in the global market. After the above analysis, this report has come up with recommendation on how Islamic banks can compete with popular commercial banks in spite of the stiff competition. Islamic banking as noted above might not be very attractive to depositors because of the no-interest rate policy. However, these financial intermediaries can capitalise on their other products which are appealing to the public like mortgage finance and other financing activities. In doing this, Islamic banks need to specifically look at their marketing strategies and campaigns. It is irrefutable that Islamic banks are not often utilized as financial intermediaries because they and their products are often unpopular. Some clients assume that Islamic banks cater only to adherents of Islam. It should also be noted that people are often unaware of the products offered by Islamic bank as well as their differences with commercial banks. Thus, the market suffers lack of information. In order to address this problem, more aggressive advertising should be used to inform the public of Islamic banks products and services. They should also be informed that these financial intermediaries do not only cater to Moslems but clients from other religions. These advertisements should also be geared in differentiating Islamic banks from commercial banks. In the UK, it is apparent that traditional banks are also offering products provided by Islamic banks. Thus, there is a pressure for Islamic banks to differentiate its offering and image to these commercial banks. At this age of socially responsible marketing, Islamic banks can capitalise on its tenet of socially responsible investing. The Islamic bank can use advertisements which stress its goal of ethics and socially responsible investing. Islamic banks should emphasize on offering mortgage finance. This product can be best offered to all clients who want to own properties without discrimination. It is expected that this will capture market not only in Muslim countries but also in developing nations. This report also recognized the saturation of Middle East with Islamic banks. However, outside of this region, we see only a few numbers of these financial institutions. It is recommended that Islamic banks focus on conquering market niches where Muslims are present. In the UK, migration of people from Muslim countries to participate in the labor market is massive. Islamic banks can help these Muslims acquire homes and properties. It should also be noted that in the US, Islam is the second largest religion after Christianity. Concentrating on this market niche can help Islamic banks grow. Reference Gafoor, A. (1995). Islamic Banking. In Interest-free Commercial Banking. United Kingdom: APPTEC Publications Islamic Banking in the UK. (2006), From Financial Services Authority Website: http://www.liu.edu/CWIS/CWP/library/workshop/citapa.htm Read More