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Despite the apprehension that the Islamic banking industry in the country has fallen into deep trouble, the industry's overall performance last year indicated a positive trend. Many of the key indicators showed that Islamic banks are still on the right track, although some corrective steps are necessary to boost the customers' confidence further. As one-fourth of the country's banking sector now operates under the Islamic mode of finance, it is essential to keep the industry vibrant.
Last month, Bangladesh Bank released the quarterly report on Islamic Banking in Bangladesh. It showed that at the end of December 2023, Islamic banks represented 25.35 per cent share in deposits and 28.92 per cent share in investments in the total banking industry. The ratio was 25.81 per cent and 29.20 per cent, respectively, at the end of December 2022. However, the marginal decline in the Islamic banks' share in deposits and investments within a year is not so alarming. This is because both the deposits and investments increased by 8.16 per cent and 9.81 per cent, respectively.
Statistics available with the central bank also showed that all exports, imports and remittance mobilisations through the Islamic banking industry increased significantly at the end of 2023 over the same period of 2022. The sector's combined excess liquidity, however, dropped by 13 per cent, showing some weakness in the Islamic banking industry.
It is to be noted that at the end of December 2023, there were ten full-fledged Islamic banks in the country operating with 1,670 branches. In addition, 30 Islamic banking branches of 15 conventional commercial banks and 624 Islamic banking windows of 16 conventional commercial banks also provide Islamic financial services. All these together are considered the country's Islamic banking industry or sector, although the full-fledged 10 Islamic banks' share was more than 92 per cent of the total deposits of the sector and 94 per cent of the investments at the end of last year. These banks earned 99 per cent of the total remittance, though they shared around 81 per cent of the total international trade financing of the Islamic banking industry.
Islami Bank Bangladesh PLC (IBBL), the oldest and leading Islamic and private commercial bank in the country, holds one-third of all Islamic banks' deposits and investments and 40 per cent of remittance earnings. Al-Arafah Islami Bank PLC, however, had one-third of international trade financing at the end of December last year.
Last year, the liquidity crunch in Islamic banks became a serious concern. Five of the ten full-fledged Islamic banks faced persistent liquidity crises and were compelled to seek special liquidity support from the central bank. Many, however, interpreted that these banks were in deep trouble and sought support from Bangladesh Bank. They also argued that internal mismanagement and bad loans have deteriorated the asset quality of some of the Islamic banks, which is reflected in the liquidity crunch. Some even apprehended that depositors have lost confidence, driving massive withdrawals from these banks. All these create panic and misunderstanding about the Islamic banks, further complicating things. Interestingly, all the five Islamic banks regained some liquidity surplus by the end of December signalling the improvement of liquidity situation.
It is, however, important to note that the liquidity support by the central bank to commercial banks from time to time is a regular function. When the money market becomes dry due to higher demand of cash, many commercial banks resort to direct and indirect liquidity support from the central bank.
In Bangladesh, conventional banks must maintain a 13 per cent Statutory Liquidity Ratio (SLR) and a 4 per cent Cash Reserve Ratio (CRR) with Bangladesh Bank. CRR is the portion of total deposits that commercial banks must maintain as cash reserves with the central bank. SLR is the minimum percentage of a bank's net demand and time liabilities that it has to maintain in the form of approved government securities. A conventional bank usually maintains the SLR by investing in treasury bonds with different maturities. The bank may use the bond through repo or reverse-repo mechanism to avail necessary liquidity or cash from Bangladesh Bank when required.
The SLR for the Islamic banks is 5 per cent instead of 13 per cent and CRR is 4 per cent. However, an Islamic bank cannot invest in treasury bonds or other government securities because these instruments are interest bearing ones and not shariah-complaint. There was no eligible investment option for the Islamic banks to maintain the SLR earlier. To overcome the shortcoming, the Bangladesh Government Islamic Investment Bond (BGIIB) was introduced in 2004. Islamic banks can borrow from this fund in case of liquidity shortage, which is mobilised through the selling of the BGIIB securities based on the mudarabah principle. But, the transaction is thin. In 2020, the government introduced the Sukuk, an Islamic bond, which became a vital instrument for Islamic banks to maintain SLR. The total amount of Sukuk issued stood at BDT 180.00 billion till the end of December 2023.
As other commercial banks and financial institutions have also invested in Sukuk, the space for Islamic banks has also been reduced here. This means that even after investing in Sukuk, these banks have idle funds in hand. When demand for cash withdrawal increases, the idle funds are exhausted, and the banks at one stage face a liquidity crunch. The Islamic bank, like the conventional banks, cannot borrow from the call money market as the repayment is subject to interest. In that case, the only option for these banks is to seek the central bank's support.
So, it is necessary to float some more Islamic securities or tools so that the Islamic banks can manage the liquidity efficiently. The latest quarterly report of the central bank, however, claimed: "To make efficient use of excess liquidity of the Islamic banking sector, more innovative Islamic money market and capital market products are introduced. The recent introduction of Sukuk and its huge responses from the investors indicate that it will facilitate smooth liquidity management of Islamic banks which may also help deficit financing of the government budget and promote Islamic capital market in the long run."
In reality, more work is needed as a number of barriers are there to develop well functioning shariah-complaint financial instruments. Five years ago, a study paper titled 'Liquidity Management Instruments for the Islamic Banks in Bangladesh' identified these and outlined a series of recommendations. Many of these are still relevant.