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The US Treasury should consider issuing a dollar-denominated Islamic bond or sukuk – an act that would signal respect for Islamic law and people and implicitly acknowledge the limitations of military and political strategies. A sukuk issued as a way to fund US assistance in rebuilding Lebanon, for example, might be the way to start.
The US has traditionally been a leader in financial innovation, one of its critical comparative advantages. Financial instruments compliant with Muslim law, or sharia, are a relatively new and growing market, the significance of which others such as the UK and Japan already sense. The US needs to respond to this competitive challenge. Moreover, a Middle East integrated in the world economy is in the US’s interest on a number of levels. This is a golden opportunity for the US to exercise leadership and show prowess in utilising soft power.
One does not have to be Muslim to invest in sukuk. Conventional fund managers are beginning to embrace sukuk as a separate asset class that helps to diversify the overall portfolio. Fund managers in the growing socially responsible investment arena may also be attracted to the high ethical standards that sharia requires.
The external surplus of oil exporters is forecast to reach $450bn this year, a 30 per cent increase from last year and roughly three times larger than developing Asia’s external surplus, including China. Many oil-exporting nations are Muslim and have special prohibitions that have discouraged the development of conventional capital markets. The best known is the prohibition against paying and receiving interest. However, this does not necessarily mean that Muslim countries do not have the capacity for development. On the contrary, going back to the Middle Ages when Muslim merchants played important roles as middlemen between Europe, Asia, and Africa, these prohibitions have not prevented entrepreneurial activity or the development of contracts and property rights.
In fact, under sharia, a number of various financial instruments have been created. Sharia recognises as legitimate financial securities that derive the rate of return from the performance of real assets. Sukuk are best conceived as asset-backed certificates that carry ownership rights and risks. There are also special purpose vehicles that acquire a financial asset and then issue financial claims on that asset. The claims represent a proportionate beneficial ownership for a defined period.
There is a wide array of sharia-approved financial instruments that have been issued and duplicate many of the functions of conventional financial products. These include instruments with fixed and floating rate pay-offs, forwards, futures and swaps. Just as the surge in oil revenue in the 1970s was a catalyst for development, so too is the present deluge of petrodollars spurring further development. There are an estimated 240 financial institutions in 40 countries that are sharia-compliant. Reuters estimates that the pool of assets managed by Islamic banks is between $250bn and $400bn.
Over the past three years, an estimated $40bn of sukuk have been sold. The issuers are largely corporations, including the US-based Gulf East Cameron Partners. A German state and the World Bank have also issued in the sukuk market. Japan’s trade promotion and international development institution, the Japan Bank for International Co-operation, is reported to be working with Bank Negara, Malaysia’s central bank, and private Malaysian banks to issue a sukuk probably some time early next year.
When this materialises, Japan will become the first Group of Seven nation to issue a bond complying with sharia. It will also be the first large non-Muslim state to do so. Gordon Brown, UK chancellor of the exchequer, has said he wants London to become the global centre for Islamic finance. There is a trend among large non-Muslim banks to move into Islamic finance. A London-based bank may have been the second most important sukuk manager last year, helping to raise more than $800m in several separate issues.
It is in the US’s interest for there to be deep and broad Islamic capital markets. They promote economic development and thereby foster stability. This helps to integrate the region and its people into the world economy, giving them a greater stake in the world’s prosperity. A US-issued, sharia-compliant bond is consistent with the US’s leading role as a financial innovator.
The writer is global head of currency strategy at Brown Brothers Harriman and associate professor at New York University