Ethics, Practice, and Future of Islamic Banking and Finance

Over the past thirty years, investment funds constructed to reflect the social, ethical, and environmental (SEE) concerns of modern-day investors have become considerable forces in financial markets. In the United States alone, socially responsible investing (SRI) is the fastest growing segment of financial markets and in 2007 represented over 11 percent of all assets under professional management. 1 Such trends are not limited to the U.S.A. and can be identified across the world in countries such as Australia and the United Kingdom. 2 These funds attempt to produce competitive financial returns while investing in ventures that resonate with the SEE interests of their investors. In general, there is not a sizeable tradeoff between the financial returns of SRI investments in comparison to conventional funds; some studies show better than average SRI returns whereas others show slightly lower yields. 3 One such SRI phenomena is the emergence of Islamic banking and finance (IBF) in the Middle East and elsewhere. From its humble beginnings in Egypt with the founding of Mit Ghamr Savings Bank in 1963, IBF has become the most rapidly developing segment of international financial markets over the last four decades by offering permissible (ḥalāl) investments to predominantly Muslim customers and shari'ah-compliant businesses. 4 During the past forty years, IBF saw its greatest expansions during the early 1970s and 2000s with a lag period from 1980 to the late 1990s. These periods of rapid growth were due in large part to the heavy influx of petrodollars to the Middle East which encouraged Islamic investment; conversely, the 1980-1990s were marked by economic downturns and bubble bursting. 5 Wide variance in rates of growth have become characteristic of IBF as an industry. But even so, some contemporary estimates place IBF at nearly $2.3 trillion in total assets for 2009 with an annual growth rate of fifteen to twenty percent. 6 From an economics standpoint, this dichotomous performance is troublesome because it seems to place IBF at the mercy of macroeconomic trends such as the balance of trade and petrodollar infusions which are not directly related to IBF activities. Even though some Islamic banks maintain investments in gas and petroleum companies, these investments make up only a small fraction of total IBF assets. 7 The historical dependence of IBF on outside industries and economic cycles could lead to the conclusion that Islamic banking is simply another economic bubble that will hyper-inflate and soon …