The Iranian Association of Islamic Finance held an international webinar on “The Role of Islamic Finance in Developing Infrastructure” on June 7, 2023 at 2:00 PM Iran time.

Speakers:

1. Dr. Alija Avdukic,

Associate professor in Islamic moral/political economy and finance, deputy director of PhD and MSc programmers in Islamic finance at University of Dundee Business School.

2. Muhammad Zeeshan Farrukh

Team Leader - Training & Development Unit, Shariah Compliance Department, National Bank of Pakistan.

The Role of Islamic Finance in Developing Infrastructure
Muhammad Zeeshan Farrukh
Team Leader – Training & Development Unit, Shariah Compliance Department, National Bank of Pakistan
His lecture is as follows:
• The development of infrastructure for the well-being and welfare of the people has the significant value for any country or nation. This process is the continuous process as the process of development cannot be stopped.
• The whole world has crucial need for infrastructure development especially in low-income economies. It is a fact that nearly 800 million people in the world have lack of access to electricity and pure drinking water yet. There is a large population of around 1.8 billion people do not have sanitation services. These are the small examples of the lack of basic needs. Apart from that, the development of railways, roads, bridges, hospitals, parks, educational institutions etc. are also crucial for the development of the public and the country.
• It is estimated that the global infrastructure financing gap may be around $15 trillion by 2040.

• As far as Muslim world is concerned, there is a dire need for the investment for infrastructure development.
• The total investment needs per OIC member country per year are estimated at around USD 22.1 billion (2016 -2040) and the investment gap per member country per year is estimated at USD 4.9 billion.
• Contribution & Role of Islamic in Infrastructure Development in Muslim Countries
Need of International Collaboration
• The role of Organization of Islamic Conference (OIC) will be crucial in this respect. The proper strategy must be devised for infrastructure development in Muslim countries. The need for infrastructure development for each country and the economic conditions must be analyzed in this respect for making the collective policy for the development of Muslim Ummah.
• Through Islamic Finance, the Muslim countries may individually and collectively do the best in this respect but it would be more effective in the collective manner.
• In infrastructure development, the parties may involve as governments of Muslim countries (either as investor or investment seeker) and financial institutions i.e. Islamic banks, conventional banks having Islamic banking sections, Islamic Development Bank etc.
Suitable Modes of Financing
• Infrastructure development has variety of costs and procedures i.e. labor cost, plant and machinery cost and material cost etc. Therefore, the suitable modes are Ijarah and Musharaka and out of these two modes, Musharaka is the best suitable mode as Ijarah may only be used in Sale and lease back procedure.
Sale & Lease Back Option
• Generally the financing, either based on Ijarah or Musharaka, is not direct investment on the particular project or infrastructure development and the sale and lease back procedures are followed.
• The government sells certain asset, infrastructure or property to the financiers. The modes of Ijarah and Musharaka are applied in the certain assets of the government as the financiers gives the assets back to the government for use. The financing is utilized for the certain infrastructure development.
• In Ijarah Sukuk, the property is given to the government for use for the specified time and after the completion of the Sukuk period, the property may either be sold to the government or gifted to the government.
• In case of Musharaka Sukuk, the Sukuk will be issued for the certain period on the basis of Shirkat ul Milk, for example 80% share of financiers and 20% share of the government. The pre agreed rent will be given by the government to the financiers according to the certain share of the financiers. The share (the principal amount) of the financiers (i.e. 80%) will be divided on the remaining duration of Sukuk as units and units will be purchased by the government in the certain tenor of Sukuk. Therefore, in the remaining tenor, the government will purchase the units and give rent against usage.
• Reason for Sale & Lease Back Option
The reason for not going directly in certain project or infrastructure development is the receipt of smooth cash flow which cannot be possible in certain infrastructure development as the cash flows will not be received until the infrastructure will not be operational in a certain manner. The infrastructure development usually takes long time to complete and become operational.
Direct Investment in Infrastructure Development
• In case of direct investment in the certain infrastructure development, the Musharaka i.e. Shirkat ul Milk will be created.
• Until the functional operation of infrastructure, no earning will go to the financiers. After functional operation of infrastructure, the pre agreed rent will be given by the government to the financiers according to the certain share of the financiers. The share (the principal amount) of the financiers (i.e. 80%) will be divided on the remaining duration of Sukuk as units and units will be purchased by the government in the certain tenor of Sukuk. Therefore, in the remaining tenor, the government will purchase the units and give rent against usage.
• The duration in which infrastructure development is made, the advanced rent may be taken as for the development phase, the financiers will not be eligible for any earning.
• The financiers will calculate the rent or profit for the whole period of Sukuk irrelevant of development phase and completion phase.
• According to Shariah, the rent cannot be taken but advance rent may be taken. In this regard, different options may be adopted. The advance rent may be taken which will be the part of the regular rentals after completion, the considered rental or profit may be distributed in regular rentals after completion, the rentals or profit calculated for the development period may be taken in the first rental and the rentals or profit calculated for the development period may be taken in the last rental.
• Keeping in view the above mentioned scenario, it is better to make investment by financial institutions directly in the certain project rather than take option of Sale and Lease back of another asset or property of the same or higher value. For instance, if the government wants to do the project or infrastructure development and no such infrastructure or property is available for Sale and Lease back in the country then the development may be stopped.
• As compared to Sale & Lease Back scenario and direct investment scenario, it is better to make investment through Islamic Finance directly in the certain project rather than take option of Sale and Lease back of another asset or property of the same or higher value.
• As the option and permission of advance rental is available then it should be the preferred option.
• The other thing is that when Islamic finance shall be directly invested in certain infrastructure development, the Islamic finance will gain worldly confidence as Islamic finance will be used for such real infrastructure development as in case of Sale and Lease Back option, the Islamic finance will not enter into the real productive activity directly.

Dr. Alij Avdukic, Deputy Director of PhD Prograkkes in Islamic Finance, University of Dundee, Business School, Scotland
Islamic Finance is More than Financial Contracts
Tenet-bound
• Fundamental tenants are derived from Shari’ah
– Absence of interest-based transactions
– Avoidance of economic activity involving speculation
– Prohibition on production of goods and services which contradict the values of Islam
• Principles-based
• Concept is grounded in ethics and values
– Principles akin to ethical investing
– Emphasis on risk-sharing and partnership contracts
• Embedded Financing- Real economy-linked
• Islamic finance offers an alternative paradigm
– Asset-backed transactions with investments in real, durable assets
– Stability from linking financial services to the productive, real economy
– Credit and debt products are not encouraged
– Restrains consumer indebtedness
• Social and Development Objectives
• Islamic banking is community banking
– Serving communities, not markets
– Aims to enable and function individuals
– Open to all-faith clients
– Instruments of poverty-reduction are inherent part of Islamic finance (zakat & qard hasan)
Conceptually, Islamic Banking is rooted in Developmental Aims of Islamic Moral Economy
 IBF can fulfill the moral economy objectives by following strategies:
– Direct investments: Banks independently employ funds in profitable projects
– Participation investments: Banks as capital partner with share in projects in PLS arrangement
– Equity-based structures: Private equity, venture capital, project and trade finance
– Ethical underpinning: Investments inherently follow International Equator Principles*
– Financing the ‘unbankable’ individuals to create social capital for development through microfinancing; and other financial instruments, such as zakah funds, qard al-hassan;
– Contributing economic, social and human development by returning the right of society to society and by engaging with projects to increase the social return.
Islamic Finance, in an aspirational sense of authentic meaning, aims at:
 Community banking: Serving communities, not markets;
 Responsible Finance, as it builds systematic checks on financial providers; and restrains consumer indebtedness; ethical investment, and CSR Initiatives;
 Alternative Paradigm in terms of stability from linking financial services to the productive, real economy; and also it provides moral compass for capitalism;
 Fulfils Aspirations in the sense it widens ownership base of society, and offers ‘success with authenticity’.
Islamic Finance Principles Reinforce the Ethos of Islamic Moral Economy
• Islamic moral economy has an explicit value framework
– Based on justice, equity, human dignity, freedom of enterprise and moderation
– Based on developing and harnessing economic resources to satisfy spiritual, material and social needs of all members of the community
– Based on a moral obligation to serve poor and destitute from share of wealth
Sources of Social and Developmentalist Challenges for IBF :
Commercialisation and Financialisation
Shari’ah-based financing adheres to the inherent principles of the Islamic tenets
Shariah-based solutions
• Income-sharing products
• Shift from debt-based product offering
Shariah-compliant products
• Letter of the law
• Replicating conventional credit service offering
Examples
• Venture capital and private equity vehicles and instruments to enable “real economy” play
• Hedging instruments for risk management using risk pooling concepts of Takaful
• Savings scheme using infrastructure projects as sources of investment return
• Substitute commodity-based financing products with specific asset-backed/linked products
• Debt-based products to be marketed responsibly and provided conservatively

Islamic finance has developed by remaining competitive with market demands:
• Competitive pricing
• Familiar risk/return profile
• “Buy-now-pay-later” mentality
• Conducive to debt finance
• Profit-loss share financing
• Asset price risk sharing
• “Save-now-buy-later” culture
• Discouragement of debt
However the spirit of Shari’a principles has lagged from its ideals