Journal of Indonesian Economy and Business

Volume 30, Number 3, 2015, 288 – 291

Book Review:

PRODUCT DEVELOPMENT IN ISLAMIC BANKS

Adjengdia Bunga Bangsa

Faculty of Economics and Business
Universitas Gadjah Mada
([email protected])

BOOK CONTENT catering to the social needs of the society. More

Since its establishment in the 1970s, Islamic specifically, since the goal of an Islamic eco-
finance has achieved considerable growth and nomic system is to realise the objectives of
gained significance in the global financial in- Shariah (maqasid al-Shariah), Islamic finance is
dustry. Compared to Islamic insurance (takaful) expected to contribute to achieving the economic
and Islamic equity and debt capital markets, growth, justice, and equity (Ahmed, 2011).
which have also successfully taken off and These legal and foundational elements constitute
developed well, the Islamic banking sector still the points of difference between conventional
holds the largest chunk of the global Islamic finance and Islamic finance. At the same time,
finance industry (IFSB, 2015). It can be seen they have increased the complexity of the Is-
that, despite the prevailing economic and politi- lamic financial instruments.
cal situations in some major countries, Islamic Indeed, the Islamic banking industry has
banking assets were able to grow strongly by numerous challenges to overcome in order to
16% in 2014, to which the highest contribution secure its future growth, especially with con-
was achieved by Gulf Cooperation Council sumers from various segments becoming more
(GCC) (EY, 2015). demanding as they seek new and innovative
Looking forward, the performance of the products that could satisfy their needs. In that
Islamic banking industry is still projected to regard, the full understanding of product devel-
have a positive trend, driven by the potential opment in Islamic banks is becoming more cru-
unmet demand (IFSB, 2015). Islamic banking cial. Unfortunately, there is a lack of studies on
products are even getting more attention from this subject and it is insufficiently addressed in
non-Muslim customers as they find the schemes most Islamic finance books. Hence, this book,
particularly attractive or ethical. On the other entitled ‘Product Development in Islamic Banks’
hand, concerns also arise since the industry has by Habib Ahmed, attempts to fill the gap in the
not yet able to capture the interest of most Mus- literature.
lim customers – the supposed captive market for This book is part of the ‘Edinburgh Guides
Islamic finance (Alim, 2014). In dealing with to Islamic Finance’ series. It is the first book that
Islamic banks, Muslim customers involve reli- is able to provide an in-depth explanation of the
gious motivations in varying degrees. In this nature and issues surrounding the practice of
case, the authenticity and the extent to which the product innovation and development in Islamic
contracts, products and the banking practices banks. At the beginning of the book, Ahmed
adhere to the Shariah (Islamic law) rules and criticizes Islamic finance for its failure to fulfil
principles are considered to be very critical. the Shariah (social and legal) requirements (p.
Additionally, as part of an Islamic economic 2). As briefly mentioned above, Islamic products
system, it is expected for Islamic financial prod- should satisfy both the form (the contractual
ucts and practices to fulfil the social role by construct and legal requirements) and the sub-
2015 Bangsa 289

stance (by satisfying the objectives of Shariah at ‘necessity’ could turn an originally unlawful
the contract level) of Islamic law from the legal ruling into a lawful one (p. 47). Furthermore,
perspective, and also fulfil the social needs of from contractual perspectives, adopting and
the society (p. 165). However, he argues that in adapting conventional financial products by
current practices, Shariah requirements are removing the unlawful components or creating a
‘being diluted’ (p. 2). In most situations, only the new product by combining multiple traditional
technical forms are often met, while the sub- contracts seem to be the most common method
stance and spirit are not. As a result, many avail- (p.49). The former approach is what Iqbal and
able products are considered too similar to the Mirakhor (2007) mentioned as ‘reverse engi-
conventional ones. It means that the products are neering’ in Islamic finance.
often developed by replicating the interest-based In the next chapter, Ahmed starts to focus on
financial products and instruments currently Islamic banks and underlines the holistic envi-
available in conventional finance, thus, the ronment and influence surrounding their product
essence of Islamic finance is overshadowed as development process. In the institutional envi-
the products move further away from using risk- ronment, he identifies four major forces, namely
sharing modes and equity-based instruments. legal regimes and laws, regulatory and supervi-
Indeed, the Islamic banking products are not sory regimes, the Shariah governance system,
created in isolation. Therefore, in this regard, and dispute settlement institutions. These factors
this book aims to ‘explain the circumstances are often forgotten by Shariah experts and crit-
under which products are developed and ascer- ics, although they exert powerful forces in
tain why Islamic banks are unable to use prod- shaping the industry. The laws and regulations
ucts that satisfy the legal and social Shariah determine what type of financial institutions
requirements’ (p. 6). could be established and what type of activities
The first chapter of this book further pro- could be carried out. As a consequence, various
vides an overview of the practices in Islamic Islamic banking models exist across different
banking industry and the surrounding debates. It laws and regulations in different countries. In
also explains the foundational concepts of inno- many countries, Islamic banking laws do not
vation and product development, particularly exist, hence creating impediments in the devel-
concerning financial products. opment and operation of Islamic banks. Most
In chapter two, Ahmed introduces the basic conventional banking laws that already exist also
principles and concepts of Islamic law related to may not approve the typical activities in Islamic
economics and finance, including the overview banks, such as trading (murabaha) and investing
of the sources and methodology of Islamic law. in equities (mudarabah and musharakah). Under
As a foundation to help understanding of the these circumstances, Islamic banks are forced to
book’s subsequent content, he also explains use the organisational format and products that
about contracts, including major types of nomi- have the same substance with the conventional
nate contracts as a fundamental component in financial system adopted in the country.
financial transactions. Furthermore, he also dis- Following that, the book also describes the
cusses riba and gharar – the major prohibitions evolution of Islamic banking models over time
in Islamic law – beyond their common forms, and how different banking models have had an
namely interest and gambling or speculation. impact on the balance sheet structure and the
Overall, this chapter is very helpful for those products offered. It gives an insight into how the
who have limited or no prior knowledge of model has evolved from the preferred ‘two-tier
Islamic finance. The interesting part of this mudarabah model’ (p. 73), where profit and loss
chapter is, however, the explanations on the sharing modes are used on both asset and liabil-
development of approaches to Islamic law used ity sides, to ‘one-tier mudarabah model’ (p.74),
in developing Islamic financial products. From where debt-based modes of financing are used
methodological perspectives, a concept such as on the asset side, and finally to the controversial
290 Journal of Indonesian Economy and Business September

tawarruq-based model (p. 75). Additionally, in Then, the book introduces the set of viable
contrast to other Islamic finance books around, products that Islamic banks could use under
this book also provides a thorough discussion on institutional and organizational constraints. In
the various risks in Islamic banking, even down some cases, Shariah compliance could be forced
to the financial risks involved at different stages to be forgone considering limited products avail-
of the transactions (p. 87-93). able due to the constraints. However, in some
In chapter four, Ahmed starts to touch deeper cases, banks choose to opt for pseudo-Islamic
on the product development system. He analyzes products despite the availability of Shariah-
various available theories on innovation and compliant products, a situation which is not rec-
product development process and elaborates ommended for Islamic banks but often some-
them for Islamic financial products. He identifies thing that could possibly happen. Indeed, some
three phases of product development cycle for conflicts might arise when Islamic banks are
Islamic banks (p. 108): ‘idea generation and faced with the ‘trade-offs between economic
acceptance’, ‘converting concept to product’, factors and Shariah requirements’ (p. 187).
and ‘commercialisation’, and then discusses Thus, this chapter demonstrates the reality of the
each of their strengths and weaknesses. interrelationships between the influences and
forces that determine which legal and Shariah
Following the demonstration of the product
requirements to meet in Islamic banks.
development process in chapter four, this book
presents empirical results on the product devel- Further, in the next chapter, Ahmed provides
opment practices in Islamic banks which are several suggestions about what should be carried
collected by conducting two comprehensive sur- out to move a step forward towards a Shariah-
veys involving 20 Islamic banks in 12 countries. based Islamic financial system. Various meas-
The results cover the assessment of the strategic ures should be made at different levels. Among
approach, resource availability, and features of those recommendations are: strengthening the
product development cycle in those Islamic institutional framework and infrastructure; util-
banks. Above all, this empirical analysis is the ising a more appropriate organisational formats;
most impressive part of this book, distinguishing investing more in the research and development
it from others on similar topics. to develop new products through a new approach
to innovation; and last but not least, making
Drawing on the foundational concepts
some improvements in the methodological
explained in the previous chapters, in chapter
approaches in deriving Shariah rulings and on
six, Ahmed attempts to discuss the types of
the Shariah governance process.
Islamic financial products developed by Islamic
banks and their surrounding issues and contro- Throughout the book, he emphasizes many
versies. He created an original classification of times the way the real practice of Islamic bank-
Islamic financial products into three categories ing has diverged from the normative aspirations
(p. 167-168): ‘Shariah-based products’ (the most of Islamic finance. In his view, the increasing
ideal types of product as they adhere to both the adoption of pseudo-Islamic products that ignores
social and legal requirements, and meet the the substance and spirit of Islamic law have
social goals); ‘Shariah-compliant products’ raised serious concerns for the future of Islamic
(compliant with the form and substance of finance since they defeat its purpose (p. 224).
Islamic law, but fail to meet the social goals); According to him, a lot of changes should be
and ‘pseudo-Islamic products’ (only conforming made beyond the product level to serve better
to the legal form of Islamic law). Furthermore, the social needs of the society in order to mani-
this chapter also discusses the potential product fest the Shariah-based Islamic finance. In this
space (including all the possible modes for a regard, he suggests that Islamic finance should
product) and touches some less common prod- move away from the currently established
ucts, such as overdraft facility (p. 174) and banking model and that it needs to be re-posi-
Islamic synthetic forward (p. 176). tioned by implementing other innovative organ-
2015 Bangsa 291

isational forms and practices. He also stresses that an updated version is released. In recent
the important role of a Shariah governance years, a call has been made to move away from
framework and the quality of Shariah supervi- the label of ‘Islamic’ to capture a wider market
sion in guiding the future direction of Islamic (Alim, 2014). Instead of using the term Islamic
financial industry to conform to the Shariah banks, currently, practitioners have been using
requirements. the term ‘participation banks’. It serves as a
Overall, this book has utilized a holistic starting point in differentiating the Shariah-
approach in looking at the realities and issues based products and pursues more authentically
concerning the development of Islamic banking Islamic financial products. Therefore, it would
despite the financial success. It challenges read- be great to see the progress of product develop-
ers to learn the complexities of the development ment issues under the new label.
of Islamic financial products. It enhances the
awareness that Islamic products do not exist in a REFERENCE
vacuum. A lot of factors and forces are influ- Ahmed, H., 2011. Product Development in
encing how Islamic products are developed, Islamic Banks. Edinburgh: Edinburgh Uni-
starting from the Shariah requirements, infra- versity Press.
structures, stakeholders, and financial dimen- Alim, E. A., 2014. Global Leaders in Islamic
sions. Finance: Industry Milestones and Reflec-
This book is recommended as a piece of tions. Singapore: John Wiley and Sons.
primary literature for students, researchers, EY, 2015. “World Islamic Banking Competi-
practitioners, and regulators to learn about the tiveness Report 2016”, EYGM Limited.
basic concepts and the practical reality of Available at:
Islamic banking. The earlier chapters reviewed http://www.ey.com/Publication/vwLUAsset
s/ey-world-islamic-banking-
the fundamental principles of Islamic laws used
competitiveness-report-2016/$FILE/ey-
and examined well the features of Islamic finan- world-islamic-banking-competitiveness-
cial products, providing a foundation for those report-2016.pdf, accessed on March 1st,
with no prior knowledge of Islamic banking and 2016.
finance. Each of the explanations is also com- IFSB (Islamic Financial Services Board), 2015.
pleted with examples to make it easier to relate Islamic Financial Services Industry Stability
them to the current state of Islamic financial Report 2015. Kuala Lumpur, Malaysia:
industry. This book also has a glossary of the Islamic Financial Services Board.
Arabic terms used, thus, making it easier to Iqbal, Z. and A. Mirakhor, 2007. An Introduc-
understand. tion to Islamic Finance: Theory and Prac-
Although not much long time has passed tice. Singapore: John Wiley and Sons.
since this book was written, it is recommended
292 Journal of Indonesian Economy and Business September