Free «Islamic Banking and Finance in the UAE: Problems and Prospects» Essay Sample


The latest financial and economic crisis that hit society all over the world has shown how unstable the current economic system is. It is not a secret that such phenomena are born in the banking and credit sectors.

In the Islamic banking system, interest is caused largely by the fact that the current global financial system, which is based on the theory and practice of the Western economists, falters increasingly and generates the crises of global importance. Until recently, the theory of the Islamic economic model in the Western world caused scientific interest only in the narrow circle of scientists. Now, however, the Islamic economic model, its structure, and mechanisms are relevant more than ever, since the GNP growth and economic recovery are now observed only in the Islamic countries. The topic of the Islamic banking is particularly important because the current financial situation in the world makes a growing number of economists and politicians think about the need to find new principles and tools.

However, the lack of awareness in the Islamic banking system causes a serious problem at the global level. The cultural biases and foreignness of the Islamic banking hinder the development of the global financial system. While the classic banks have barely weathered the crisis, the Islamic banking exists and shows the significant growth rates. Thus, this paper will analyze the basic principles of the Islamic banks, determine the features of the Islamic economic system, and assess the problems and perspective of the Islamic banks in the global financial system.


The basic tools of the Islamic banking system were studied, the main features of the Islamic economics were identified, and the problems and the prospects for the development of Islamic banks were determined during the study of this topic. The comparative method, the analytical method, and the generalization and research of the statistical publications and articles were applied.


One can suggest the way and perspectives of the Islamic banks development in the global financial system. The Islamic banks, which now enter the worldwide process of globalization, will continue to spread to a large number of countries and will operate in the economic structures of these countries as the alternative elements of the credit and financial system. However, one must consider the factors impeding their development in the form of a negative attitude towards the Islamic financial institutions and Islam in general by a number of politicians and non-Muslim countries. Such attitude is also peculiar to the world’s elite that owns the major financial institutions of the world and get its profit from the sale of the interest and capacity of the money supply that is not secured by real property.

The favorable factor in the development of the Islamic banks is the fact that the Muslim population makes up 1/5 of the entire population of the planet (Schoon, 2010). In the case of another large-scale wave of crisis, the world economy may resort to the new financial models and use the Islamic financial system as a basis in the development. The Islamic banks will get a good momentum of development and will serve as an alternative to the banking market. The developing countries will gain the opportunity to develop themselves, ceasing to be raw material appendages of the postindustrial countries.


The Characteristics of the Islamic Economy

The Islamic economic model has several important characteristics. First, the Islamic financial system has a clear social orientation with a priority of moral and ethical principles. The Islamic economics is regarded as a part of the social system, the laws of which have been identified and handed over to the divine conception of humanity through a chain of prophets and the final teachings of the Prophet Muhammad about the universe. Its social orientation suggests the main purpose of the economic development, which is social justice in the distribution of the results of economic activity. The means to achieve this goal is the development of the economy and economic growth. At the same time, theologians and economists emphasize the special role of the Islamic ethics and its inherent ability to protect the business operations from abuse and lawlessness.

Justice is a priority objective of the economic activity. In the Islamic understanding, justice is not only a moral category, but also an adequate economic category. In terms of the Islamic law, all kinds of relationships, including economic ones, between people are considered as a deal or a contract, which implies the existence of the rights and obligations of the parties in the various types of relations with a priority of Sharia law (Schoon, 2010).

The UAE financial institutions work under the concept, according to which the owner of any valuable resource is not actually the owner, but the attorney of the true owner – Allah. Therefore, the more wealth or resources is available to a specific person, the greater is his/her responsibility as the authorized person of Allah, including ensuring the growth of one’s well-being as well as society’s one (Rehman, 2005).

Another UAE concept is the prohibition of a number of actions called in Arabic ‘gharar’, which means ‘danger’, ‘misleading’, ‘put at risk’. The ‘gharar’ means the transactions of the sale of goods that are out of stock. This involves the buying and selling securities without disclosing the real asset that serves as the contents of the securities, the buying and selling of goods without the exhaustive specification, the transaction without specifying exact price, and the transaction with indicating non-specific agreements’ deadlines (Schoon, 2010).

It should be noted that in the Western world economic system, ‘gharar’ is allowed and commonly used without any restrictions. However, Sharia does not deny the risk. On the contrary, the risk is encouraged in the sense that both parties, entering into the economic relations, realize the loss, and they do not claim their compensation at the expense of each other. However, Sharia prohibits the pointless risk; therefore, ‘gharar’ is interpreted as unnecessary risk because it is impossible to calculate the potential losses with the highest probability (Schoon, 2010).

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Another concept related to ‘gharar’ is ‘meysir’, which means ‘gambling’ in the Arabic. The prohibition of gambling in the UAE economic model boils down to the two basic understandings.  The first one means the prohibition of income resulting from a combination of circumstances. Such income is prohibited because its reception is not related to the production and the use of labor. An example would be a total restriction of casinos in the UAE (Abdul-Rahman, 2010). The second understanding of the ‘meysir’ is a cross-border migration of the huge cash flows for the purpose of its own expanded reproduction without producing the real wealth, both tangible and intangible.

In the Islamic tradition, money is regarded as a service and technical tool, and it cannot be the subject of sale. There is also the prohibition called ‘riba’. In English, the word ‘moneylending’ is most consistent with this Arabic concept and it means the growth of the debt against its original size. In Islam, ‘riba’ is regarded as a sin. Prophet Muhammad considered charging interest a phenomenon 36 times worse than adultery, which implies the death penalty. In the Qur’an, the charging interest is equal to the most malignant sins and regarded as a direct challenge to Allah, as expressed in many religious poems (Rehman, 2005). In an effort to create an economic system based on the fairness and justice, Islam believes that money cannot grow at the cost of its own, as is the case when it is loaned at an interest. Moreover, charging interest on debt by the creditor is defined as a profit derived without the application of the production efforts.

The Islamic economic system recognizes the private property based on personal labor as well as social property – state and cooperative one. The labor (not the capital) is considered the basis of the productive activity. At the same time, according to Islam, the property of any person belongs to Allah, and the inviolability of private property is raised to the level of integrity and value of life (Schoon, 2010). The deprivation of someone’s possessions is inadmissible, except for extreme cases when there should be the payment of a full-length and fair compensation.

Thus, based on the precepts of the Qur’an and the Sunnah, the specifics of Islamic financial system differ from the traditional Western economics. First, the Islamic economics is based on the moral principles outlined in the Qur’an and the Sunnah. Therefore, the Islamic financial system has a strong social orientation. The owner of any commodity is an attorney of the true owner of this commodity – Allah. Money in the Islamic financial system is a tool and not an object of the purchase and sale, therefore a resource should not remain idle and turn into the cash accumulation. Hence, the fact that the basis of productive activity is labor, but not a capital. Making a profit that is not related to the use of labor and production is prohibited in the Islamic economics. In addition, there is the prohibition of the usurious interest rates. The Islamic financial system recognizes the both private and public ownership as the means of production. The private property is inviolable, as it is mediated by the property of Allah.

Thus, the specificity of the Islamic economics lies mainly in the fact that the basis for its implementation and operation cannot be contrary to the requirements of the Qur’an and the Sunnah of the Prophet Muhammad, and it must fully agree with them.

Problems and Prospects

Creation of the Islamic Development Bank and Dubai Islamic Bank in 1975 was the beginning of the official development of the Islamic banks (Abdul-Rahman, 2010). Today, the principles of the Islamic banking system are successfully applied not only in the Muslim countries, but also in Europe and the United States. Many Western banks open and maintain a so-called ‘Islamic windows’ (bank branches, engaged in the provision of services according to Sharia) for the provision of such services that exist in parallel with the standard set of services in such banks.

Today, there are about three hundred large Islamic financial institutions, the asset portfolio of which is estimated at about 500 billion U.S. dollars (Abdul-Rahman, 2010). In the East, the main centers of the Islamic banking are Malaysia and the states of the Middle East, while in the West, United Kingdom is becoming such a center (Schoon, 2010). This fact is a result of the development of the UK financial infrastructure and the government’s commitment to adapt the system of laws and legal rules to a level that will allow the Islamic banks to operate successfully along with the traditional banking system.

However, just like in any other financial and banking system, several problems and difficulties are peculiar to the Islamic banking. Today, it faces the following major challenges.


The expansion of the existing financial institutions and creation of the new Islamic banks creates a need for the qualified personnel. Current capabilities of the educational institutions to educate professionals in the field of Islamic finance are unable to meet this need. In this regard, the Islamic financial institutions should concentrate on educating their own staff. The successful operation of this mechanism requires the well-organized HR functions, financial incentives, and healthy and attractive working environment.


Despite the growing interest in the Islamic banks, it is still at an early stage of its development. Entering the markets is conjugate with the increasing competition from the traditional banks that have begun to offer the Islamic banking products, the transformation of the traditional banks into the Islamic ones, and the emergence of new players on the market. In addition, the traditional banks have the possibility to create a separate subsidiary, an Islamic window that which operates according to its own principles. They create such subsidiaries in the absence of appropriate legislation and the international financial reporting systems that correspond to the forms of Sharia.

Excessive liquidity.

The absence of effective alternatives to traditional interbank foreign exchange market, operating in accordance with the principles of Sharia, leads to serious difficulties in liquidity management by Islamic financial institutions. Limited opportunities for investment, according to the principles of Islam from the banks, in turn, lead to the unreasonably high value of assets.

Risk management.

Working in accordance with the principles of Islam exposes the Islamic financial institutions to additional risks in comparison with the general risks for the banking industry. Such risks include the risk of compliance with the principles of Sharia, legal risks, and so on. Taking into account the expansion of the Islamic banking system, the function of the risk management in the Islamic financial institutions should provide not only the management of these risks, but also a stable development of the industry.

Sharia compliance.

Following the principles of the Sharia is the main condition for the work of the Islamic banks. The differences in interpretations of Sharia also cause a need for a qualified personnel to develop a common position on the mechanisms of the work of the Islamic banks. According to the principles of Sharia, the transaction usually must be backed by real assets, i.e. the asset must exist, be owned by the seller, and have a specific description.

The above-mentioned indicates the fact that the Islamic banking system is a complex mechanism that has yet to go through the certain stages in its development. However, despite the existing problems, the Islamic banking is an institution that has proven its worth and ability to work during the global financial crisis.

As it is known, the accrual of an interest on loans and financing of the prohibited activities (e.g. sale of alcohol, pork, gambling) are prohibited according to the principles of functioning of the Islamic banks (Schoon, 2010). At the same time, the Islamic economic principles also require the financial institutions to be directly involved in the risks of the financed project, which implies the division of profits and losses on a project with a borrower. Such requirements encourage the Islamic financial institutions to pay due attention to the monitoring of expenditures and analysis of the risks associated with the proposed project. In recent decade, the Western financial institutions have given to borrowers with a high credit risk level without an adequate and complete analysis of the risk. In contrast, the principles of the Islamic banking establish the strict discipline that leads to a lack of irresponsible lending and significantly reduces the credit risk.

The prohibition on speculation and uncertainty can also help the Islamic banks to operate successfully. Sharia prescribes funding for a real industrial activity. According to its principles, the deal should normally be backed by the real assets, i.e. the assets should be in the possession of the seller and have a specific description, but not specified as a theoretical object (such as fish, located in the water area). Thus, the Islamic banking stimulates the economy by providing funds for the purchase or production of tangible assets. In addition, the following to these principles minimizes the speculative securities transactions.

Close cooperation with Islamic financial institutions and adoption of the practices and mechanisms of their work can be one of the critical success factors for the economies of the West as the proposed measures for overcoming the crisis. For such a cooperation, the Western financial institutions primarily need to ensure the operation in accordance with the principles of Sharia, the law that is laid in the foundation of the Islamic financing. The main benefits of the development of the Islamic banking in Europe and the CIS in the current crisis and recession in the production volumes may vary. One of the benefits may include the promotion of the activities of enterprises by attracting the free financial resources available in the Muslim countries in order to finance the investment projects. Another benefit implies the promotion of the development of financial institutions through the development of new products and improving their liquidity via the active co-operation with the foreign Islamic institutions. Further business development by attracting the new investors is one of the benefits as well.


Under the current circumstances, the Islamic banking is thereby an alternative source that can provide the needs of the business community in the capital and financial resources. One should not forget the fact that the Islamic financial institutions tend to allocate the funds for a particular project and the purchase of a particular asset. This fact gives confidence that the funds will not be sent on the banks and enterprises’ speculation. On the contrary, they will be directed to the real sector, thereby stimulating the economy.

Thus, the work based on the Islamic banks’ principles will allow avoiding the risks and challenges that have led the Western financial community to the crisis.                                                                                          


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