The contenders are in place but which one will receive the accolade of being recognised as the ultimate international financial centre? MUSHTAK PARKER looks at the jostling taking place for the crown
Mirror, mirror on the wall, who is the fairest of them all?” This is a beauty parade with a difference – it’s taking place in the financial sector. And it is not a bevy of investment bankers fired up with a heavy dose of monetised testosterone vying for the latest mega Sukuk mandate, but jurisdictions in the MENA region that fancy themselves as regional and international financial hubs, especially for the growing global Islamic financial industry.
In the past three decades, the rivalry was traditionally between Bahrain and Malaysia, the two hubs that have pioneered the development of the contemporary Islamic finance industry. Over the past decade or so, the emergence of the Dubai International Financial Centre (DIFC) and the Qatar Financial Centre (QFC) have added to this rivalry, with Bahrain, hitherto the main offshore banking hub of the region, the main loser.
Bahrain itself replaced Beirut, the traditional conventional financial centre of the region before the internecine civil war and continuing sectarianism put paid to its ambition of re-inventing itself as a regional financial centre. But Bahrain in the wake of the Arab Spring has itself been dogged with political uncertainty and demonstrations by the majority Shia population demanding greater freedom and democracy.
But to the north, the regional giant, Turkey, straddling between Europe and the MENA region, is lurking and busy putting together the enabling legislation and structures to promote the historic city of Istanbul as an international financial centre.
Jeddah in Saudi Arabia should be a natural contender given that the Kingdom is the largest crude oil exporter in the world and is the most liquid economy in the MENA region, but the country’s ultra-conservative religio-cultural ethos and its nightmare immigration dynamic, makes it a very challenging environment to cope with. This, despite the fact that the current SR35bn Jeddah Rehabilitation Plan, does comprise the construction of a brand new financial district adjacent to the old Jeddah Port.
Qatar, emboldened by the prospect of hosting the second most important sports tournament in the world after the Olympics, the FIFA Football World Cup in 2022, seems to be throwing billions of dinars at pet projects, of which developing the emirate into a global Islamic finance hub is but the latest one.
The Qatar Financial Centre Authority (QFCA), in partnership with the International Tax and Investment Centre, based in Washington DC, even sponsored a study entitled Cross Border Taxation of Islamic Finance in the MENA Region – Phase One, which was written by three “leading tax experts” and published in February 2013.
Never mind conflict of interest, not surprisingly the authors concluded that the Qatar Financial Centre (QFC) and Turkey have “the most Islamic finance friendly tax systems out of the eight reviewed countries in the MENA region”.
The authors, Mohammed Amin, an Islamic finance consultant and former partner in Pricewaterhouse Coopers LLP in the UK; Salah Gueydi, a senior tax adviser in the Qatari Ministry of Economy and Finance; and Hafiz Choudhury, senior advisor to the International Tax and Investment Center, Washington D.C., emphasise that while simpler Islamic finance transactions can be carried out in some countries without prohibitive tax costs, of the countries reviewed only Turkey and the QFC have a tax system that enables Sukuk transactions, for example, to be carried out without excessive tax costs.
The study, in fact, reviewed the tax treatment of four common Islamic finance instruments – Commodity Murabaha, Sukuk, Bai Salam (forward sale in commodities) and Istisna (forward sale in construction) in eight MENA countries, namely, Egypt, Jordan, Kuwait, Libya, Oman, Qatar, Saudi Arabia, Turkey – and the Qatar Financial Centre. The study was, however, restricted to taxes on income payable by companies, individuals and trusts (where applicable; taxes on capital gains; and taxes on the transfer of assets, such as real estate transfer tax, where such taxes are not recoverable by the purchaser).
It also examined two alternative approaches a country can take to update its tax system to support Islamic finance transactions. These are the UK model and the Malaysian model.
“The Malaysian approach is based upon the regulatory authorities putting in place a process for advance determination of whether a transaction does or does not constitute Islamic finance. For those transactions which are certified as being Islamic finance, tax law can be modified relatively easily to give them the same taxation outcome as the equivalent conventional transactions. Where intermediate transactions are necessary to effect the Islamic finance structure, the intermediate transactions can be readily disregarded for tax purposes,” say the authors.
“The United Kingdom approach,” on the other hand, “requires much more complex drafting of tax law, since no reference can be made to external Islamic finance sources although the UK’s secular approach does have the merit of keeping religion out of tax law.”
The above paragraph perhaps unwittingly betrays the ideological bias and fundamental shortcoming of the approach of the authors, who are looking at tax treatment purely from a secular conventional finance and fiscal regime perspective. How else can one best analyse the tax regime of a faith-based system of financial intermediation but from the very principles of that faith, instead from a potentially purely diametrically-opposed secular vista, which the authors seem to be bent on promoting?
In that respect, the Study would have been more complete and, perhaps, more conducive, if it had one or two experienced Shariah scholars in Fiqh Al-Muamalat with additional expertise in Islamic fiscal law as part of the team to advise on the Shariah oversight on the tax treatment for and the specificities of the relevant Islamic contracts.
In another respect, the authors conclusion “that the Malaysian system is quicker and simpler to implement for Muslim majority countries,” could be perceived as a disguised insult to the Malaysian model, especially at a time when Malaysia is imminently awaiting the Royal Assent for the adoption of the all-encompassing Islamic Financial Services Act (IFSA) 2013, which is the most comprehensive enabling legal framework covering retail banking, investment banking, asset management, trade finance, insurance (Takaful), wealth management and non-banking financial institutions in the world, and complete with Shariah and corporate governance frameworks and tax treatments.
Nevertheless, Ian Anderson, chief finance and tax officer at the QFC Authority, has welcomed “the findings and recommendations of this pioneering study into the tax treatment of cross-border Islamic finance transactions within the MENA region. Islamic finance is of growing importance within the MENA region, but the taxation systems of almost all MENA countries were developed in an environment of conventional finance.
“This too often means that Islamic finance suffers an additional and, therefore, unfair tax burden not borne by conventional finance. This report points out the best way forward to help level the playing field in the MENA region and potentially beyond.”
A powerful rival to the QFC, which has had a headstart on the Qataris by some several years and which boasts the authorisation of the very first Islamic commercial bank in the world way back in 1975, is Dubai.
In recent months UAE Vice President, Prime Minister and Ruler of Dubai Sheikh Mohammed bin Rashid al Maktoum has been trumpeting his vision of transforming the emirate into “the global capital of the Islamic economy”, which he emphasised “will help the local economy to grow and bring prosperity to the various vital sectors as well as create new job opportunities.”
The first manifestation of this vision materialised in February 2013, when Sheikh Mohammed started the first of a series of planned initiatives – the launch of Dubai as a “Global Centre for the Islamic Capital Market” (especially Sukuk).
Sheikh Mohammed is not coy about promoting his vision, mobilising even the social media and tweeting away to convince any detractors and sceptics that he and his emirate really mean business.
Dubai, whose stated policy is also to establish the emirate as “the Global Capital of Islamic Finance” and as a premier financial centre for Dubai corporate entities to raise longer-term financing, was one of the Gulf Cooperation Council (GCC) countries that was adversely affected by the fallout of the global financial crisis in 2008, especially its knock-on impact on the local real estate market.
However, over the last few years Dubai has successfully been trying to re-establish its reputation and market confidence among regional and international investors. The above vision and initiatives suggest that Sheikh Mohammed has reigned in the more eccentric or exaggerated ambitions of yesteryear, and is focusing on a much more achievable, realistic and pragmatic approach in a sector that can indeed contribute more naturally and readily to the real economy in Dubai and the UAE. After all, what could be a more telling headline strap than Dubai – the Home of the First Islamic Commercial Bank in the World.
“Transforming Dubai into a global centre for Islamic Sukuk is intended to cement confidence in our economy among international financial circles, stressing that positive acts are the driving force of the human being to remain optimistic and to work actively and in a serious way,” explained Sheikh Mohammed at the launch of Dubai as a “Global Centre for the Islamic Capital Market.”
Perhaps more importantly, his vision and Sovereign Dubai received a much-needed vote of confidence from regional and international investors in January when they oversubscribed by 12 times to the dual tranche $1.25bn offering by the Government of Dubai, acting through the Department of Finance, comprising a 10-year $750m Sukuk Al-Ijarah and a 30-year $500m conventional unrated S Reg bond. The Sukuk was the first sovereign issuance in the market in 2013, which bankers emphasise augurs well for the global Sukuk market. All the indications are that 2013 will emulate the previous year which saw a record $138bn of Sukuk originations.
The aggregate order book for the above two issuances was over 12 times oversubscribed, thanks also to a swift intra-day execution that resulted in quick book-building exercise comprising a large and high-quality order book especially for the Sukuk.
Sheikh Mohammed on his personal website assured that the Islamic finance sector in the UAE is based on an infrastructure of sound laws and legal framework, which has served to attract several financial institutions to operate in the DIFC.
“Today, Dubai possesses all the potential and privileges that qualify it to achieve its goal of becoming a global centre for Islamic Sukuk. We will work on completing the necessary organisational framework and mobilise efforts and energies, national cadres and experts to give this sector the anticipated momentum,” he added.
One MENA jurisdiction that is on a fast learning curve both in terms of pushing its Islamic finance credentials and business case, and its aspiration of becoming an international financial centre, is Turkey.
Turkish Deputy Prime Minister Ali Babacan in a speech in Kuala Lumpur recently confirmed that “we are repositioning İstanbul as an international financial center. We have made many laws and arrangements for that and it is already gaining ground”.
His cabinet colleague, Dr Cevdet Yilmaz, Turkish Minister of Development, similarly addressing the Ninth Summit of the Islamic Financial Services Board (IFSB), which was hosted by the Central Bank of Turkey in Istanbul in 2012, was even more bullish about the Turkish government plans to make Istanbul a regional and global financial centre, which he emphasised would also work robustly towards the development of Islamic finance.
“A financial system that is divorced from the real sector will prove to be more vulnerable to systemic shocks. Islamic finance has inbuilt strengths (in its proscription of interest and its financing backed by real assets thus impacting directly on the real economy). Islamic financial products are not meant for addressing the needs of Muslim-majority nations only, but have the potential to address the financial needs of all communities,” he stressed.
Both ministers emphasised that international agencies and corporates are already targeting Istanbul as their regional hub not only for the MENA region, but also for eastern europe and as a “Gateway to Central Asia”.
The International Finance Corporation (IFC), the private sector funding arm of the World Bank Group, and the European Bank for Reconstruction and Development (EBRD) have already opened their regional hubs out of Istanbul. Several international banks are now following suit through opening subsidiaries or branches in Turkey, not just for Turkish market, but for the whole region.
On the corporate side, too, Istanbul is now being chosen more and more as a regional hub for multinational companies. Already Microsoft has chosen Istanbul as a regional hub for 79 countries, and Coca-Cola’s Istanbul office covers 93 markets, including India.
Bahrain in the meantime is putting on a brave face, continuing its active regular domestic short-term Sukuk Salam and Sukuk Al-Ijarah issuance programmes and continuing reforms in the legal framework in vital areas, the latest relating to the Takaful industry. But its reputation as an emirate and ultimately as an offshore financial centre will remain beholden to the test of political stability. Any whiff of potential political dissent resurfacing will send international banks and capital scurrying for the exit doors at Manama International Airport, wholeheartedly living up to their reputation as fair-weather friends – just as they did when President Saddam Hussein’s forces invaded Kuwait more than two decades ago.
So mirror, mirror on the wall, who indeed is the fairest MENA Islamic financial centre of them all of them all? The answer depends on who you speak to and the individual and corporate experience of the professional.
To Farmida Bi, partner at City-based international law firm Norton Rose, which has a strong Islamic finance practice with offices in Bahrain and Dubai, it is Dubai that is making its mark as an international Islamic finance hub.
“Dubai has really consolidated its position over the last two years since the Arab Spring started. The Arab Spring has meant that cash has come into the GCC region, and so has expertise, talent and businesses migrated to the GCC. Dubai now seems to be the place to base, from which to serve not only the UAE but the wider region as a whole,” she explained.
From her perspective, the main criteria of a good international financial hub are ease of doing business; ease of life for those professionals who are based there; the proximity to experts; and access to your clients. In this respect, Dubai is in pole position compared with Bahrain, Qatar and Turkey. While other criteria such as cost, regulatory and legal frameworks are important, for an international firm such as Norton Rose most of the deals it structures will be done under English law, including Islamic finance transactions.
Asked if Sheikh Mohammed’s vision of developing Dubai as an Islamic finance hub and Islamic economy capital is achievable, Ms Bi replied that “Sheikh Mohammed has often said things in the past that seemed improbable. But if there is one man that can make things happen then it is Sheikh Mohammed.”
She notes that Bahrain is not as prominent as before but the development of Dubai in particular has been at the expense of Bahrain as a financial centre, although this has happened over a number of years.
She agreed that the market is excited about Qatar and there is a high level of expectations especially as to opportunities relating to the preparation of the 2012 FIFA World Cup in Qatar 2022. “Many of the projects have not taken off yet. But when they do it looks like it will be mostly a domestic market rather than an international market, which is what Dubai is. The potential is primarily based on its liquidity,” she added.
Similarly, there are a lot of deals coming out of Turkey, which has the added advantage of a large population and domestic market. “Everybody is excited about Turkey, but again Turkey will be for Turkey rather than the wider region. There is excitement about Turkey, Saudi Arabia and Egypt. And in some ways they are all domestic markets. But if we looking at an international hub, then that hub is very much Dubai,” she added.
In contrast, the centre that potentially delights Badlisyah Abdul Ghani, CEO of CIMB Islamic Bank, which has a subsidiary in Bahrain, is the Turkish commercial capital of Istanbul.
“Any jurisdiction that wants to position itself as an international Islamic financial centre must have the legislative, legal and Shariah governance frameworks in place. Without that I don’t think there is any point a country putting itself forward as an Islamic financial centre. It took Malaysia almost 30 years to put in place effectively almost everything that is needed for the industry,” he maintained.
In those areas of legal framework and Shariah governance what is required by bankers such as Mr Abdul Ghani, is certainty of doing business when he goes into that market. “If I have a particular Shariah-based financial product, I need the certainty that the jurisdiction allows me to do it in a manner that I do not run the risk of losing my money.
“Because people might say my product is not Shariah compliant. It does not have to be a situation where you have standardisation; it must be a situation where you have harmonisation. It means that the system you establish must allow for the Shariah governance to be determined, that there is a process behind it, and it is therefore recognised, that any Shariah product that is approved and has gone through that process will not be questioned. That process will be best delivered through an Apex Shariah Advisory Council that is based at the central bank,” he added.
Another important factor is the court process and recourse to the courts and the law if something goes wrong in a transaction. “There must be clarity and comfort that when I go to court my dispute will be heard and enforced, not on the basis of whether it is Shari’ah-compliant but on the basis of the governing law itself,” he continued.
While all of the above four MENA jurisdictions have the opportunity to become international Islamic financial hubs, the question is whether they are willing to do the things that are required to be a global centre for Islamic finance.
“If have to rank them according to the criteria I mentioned earlier,” he ventured, “the closest will probably be Turkey. Many of us do not realise that Turkey still has many remnants of Ottoman laws in place that are very conducive to Islamic finance. Sometimes I wonder why people are asking for new laws when the very legal basis is already there, and all that is needed is for these laws to be modernised and updated. In this respect, Turkey can run away with Islamic finance.”
At the end of the day, he advised, if a country wants to be an international financial hub, it has to provide the offerings that are available at other global financial centres, or even better ones, because the global financial system is one massive supermarket.
But, above all, nothing happens if the government of the day does not facilitate an Islamic finance policy, which is extremely crucial and has to be a substantive committed policy, he added. n