Minority commission backs Islamic banking

Mumbai: The long-standing debate on whether India should allow Islamic banking has taken a twist with the National Commission for Minorities, or NCM, stepping into the picture and strongly supporting the model in Asia's third-largest economy.

Following a proposal from NCM to permit interest-free banking-a variant of Islamic banking-the finance ministry has asked the Reserve Bank of India (RBI) to take a fresh look at the matter.

Seeing benefits: National Commission for Minorities chairperson Wajahat Habibullah says the interest-free model will help the country to channelize more funds from the Muslim business community abroad.

Until now, the central bank has maintained Islamic banking is not feasible in India as existing regulations do not permit interest-free transactions.

The minority commission, a constitutional body headed by the former chief information commissioner of India, Wajahat Habibullah, has sought an amendment to the banking regulations to open the doors for interest-free banking in the country.

This is the first time the commission has got itself directly involved in the matter. The commission recently met top finance ministry officials including Sunil Soni, additional secretary, financial services, and Alok Nigam, joint secretary, on the matter.

Since Islamic banking is not allowed in India under current norms, "there should, therefore, be a possibility of permitting interest-free banking by amending the regulations," Habibullah said, according to a recorded note of the meeting, reviewed by Mint.

According to the note, the finance ministry is open to the possibility of allowing some nationalized banks and non-banking financial companies (NBFCs) to open accounts that will offer interest-free products. "Interest-free banking should not be associated with the religion. It is not in violations of any rules, though the current regulations have to be amended to make this model available in India," Habibullah said. "The conventional form of banking is not stable as is evident from the collapse of the banking systems across the world. Implementation of interest-free model will provide that stability. This will also help the country to channelize more funds from the Muslim business community abroad," he said.

Islamic banking is prevalent in countries such as Hong Kong, the UK, the US, Malaysia, Singapore, Bangladesh and Pakistan.

Under Islamic, or Sharia, law any payment or acceptance of interest is prohibited in banking transactions. Islamic banking operates on the theory that the return on investment is a compensation for the risk taken by the investor by providing a fund for commercial activity. As per this, the money can be lent on a profit-sharing or a fee-based model.

In 2007, an RBI-appointed working group under the then executive director, Anand Sinha, which was examining the financial instruments used in Islamic banking, said that under existing regulations, it was not feasible for banks in India to undertake Islamic banking or to allow their branches to carry out Islamic banking operations abroad.

The finance ministry has now referred the NCM proposal to Anand Sinha, currently a deputy governor of RBI, to re-look the matter.

Though there have been several attempts by private groups to introduce Islamic banking in india, none of those succeeded due to regulatory constraints and opposition from some of political factions.

In 2009, Janata Party leader Subramanian Swamy filed a public interest litigation in the Kerala high court against the inception of a financial institution that was to run on the principles of Islamic banking, backed by the state government-owned Kerala State Industrial Development Corporation.

In September 2010, the Indian Centre for Islamic Finance, a non-profit organization spearheading the call for Islamic banking in India, approached RBI to allow a few banks in Mumbai to open interest-free windows on a pilot basis without amending any of the regulations.

It is yet to receive any response from RBI, according to H. Abdur Raqeeb, convenor, National Committee on Islamic Banking, and general secretary, Indian Centre for Islamic Finance.

In 2008, the Raghuram Rajan committee of financial sector reforms suggested implementing interest-free banking in the country. "The committee recommends that measures be taken to permit the delivery of interest-free finance on a larger scale, including through the banking system... it would be possible, through appropriate measures, to create a framework for such products without any adverse systemic risk impact," the report said.

According to the report, since certain faiths prohibit financial instruments that pay interest, a section of Indians are unable to access banking products and services. "This non-availability also denies India access to substantial sources of savings from other countries in the region," the report said.

In May, a Kerala-based NBFC that operates in accordance with Sharia principles moved a petition in the Bombay high court against an RBI order cancelling its licence. The firm, Alternative Investments and Credits Ltd, sought legal recourse after RBI took action against it, charging the company with not complying with its fair practice code for NBFCs, which stipulates that NBFCs should declare the rate of interest at which they lend to borrowers. The court is likely to hear the petition on 11 June.

dinesh.n@livemint.com

Source: livemint.com