Islamic finance as a growth point for the Russian economy

The expert opinion was prepared based on the results of the SPIEF-2023 session “Will Islamic banking become an effective tool for attracting investments to Russia?”

Islamic banking, also known as ethical or partnership financing, is one of the alternative systems for providing banking services, the peculiarity of which is their compliance with Shariah norms. Despite the largest representation of Islamic finance in the countries of the Middle East and Asia, and also contrary to the widespread opinion in Russia that Islamic banking is a distinctive feature of the Muslim part of the world, services of this type can be targeted at representatives of other religions and secular consumers. Thus, according to data for 2019, Islamic financial institutions were opened in 105 countries, and their successful operation can be observed in Western and Eastern Europe, North America and Oceania.

Moreover, Islamic banking is considered one of the fastest growing in the world. For the period from 2018 to 2019. the growth rate of Islamic banking assets was 14%, resulting in their volume amounting to $1.99 trillion, and by the end of 2021 already $3.06 trillion. As Oleg Vladimirovich Ganeev, senior vice president of Sberbank PJSC, said during his speech at session of SPIEF 2023, by 2025, the volume of partnership financing is projected to increase to $5 trillion in the financial sector and to $7.7 trillion, taking into account other areas of activity, such as pharmaceuticals, manufacturing and tourism. An additional advantage of Islamic financial instruments is their stability in the face of economic crises, which was evident during the global crisis of 2007-2008, when the assets of Islamic banks continued to grow against the backdrop of a global decline, as a result of which these institutions began to attract more and more clients in Europe.

The growing interest of Russian companies and authorities in partner financing is due not only to the listed factors, but also to the need to strengthen relations with eastern partners and attract investment from the Middle East in the context of modern sanctions restrictions from the West. The development of Islamic banking in Russia has several dimensions — internal, external and ESG.

Internal dimension

The internal dimension of the development of Islamic banking in Russia is aimed at meeting the growing demand for relevant financial services from the Muslim part of the country's population, which, according to various estimates, constitutes 15-20% of the total number of Russian citizens. For example, the company "LyaRiba-Finance" of the Republic of Dagestan, which concludes transactions only in relation to halal products and draws up trade agreements that are correct from an Islamic point of view, was founded in 2011 as a result of massive requests from residents of the Republic to banks with a request to write off interest charges from cards.

Later, not only in Dagestan, but also in a number of other constituent entities of the Russian Federation with a predominant Muslim population, Islamic financial organizations began to open, and Russian banking institutions acquired considerable importance in this direction, which indicates the possibility of introducing the principles of Islamic banking into the work of traditional financial structures. In 2017, the Bank of Russia developed a plan for the expanded application of the principles of partnership financing in the country, and soon a similar strategy began to be reflected in the initiatives of Sberbank and Sovcombank, which began accepting deposits and producing products in accordance with Shariah standards in Tatarstan, Bashkortostan and the Chechen Republic.

The implementation of projects by leading Russian financial organizations in the field of Islamic banking has revealed the main difficulties in ensuring its wider use at the present time. Firstly, the need for significant investments in improving the financial literacy of clients, which, for example, was one of the reasons for the closure of Sovcombank’s project to issue the Halwa Halal card. Secondly, there is a shortage of relevant specialists who understand not only financial issues, but also the specifics of Islamic law and regulatory regulation of banking operations based on Shariah principles.

External dimension

Partnership financing is a significant tool for Russia to attract additional investment funds from the Middle East, in particular the Persian Gulf, necessary for the implementation of strategically significant and high-tech projects for the economic development of the country in the context of sanctions pressure from the West. An effective link in maintaining business ties with Middle Eastern partners for the Russian Federation is its constituent entities interested in cooperation with Muslim countries.

The Chechen Republic, led by Ramzan Kadyrov, acts as a key mediator in Russia’s interaction with the UAE. In 2016, the parties began to discuss the possibility of creating an Islamic bank in Grozny, and in subsequent years the Emirates became regular investors in Chechen business, scientific and educational institutions, innovation and technology centers and large-scale construction projects through the specially created Sheikh Zayed Foundation. The Republics of Bashkortostan and Tatarstan, in turn, contribute to strengthening relations between the Russian Federation and the OIC countries. Thus, the International Summit “Russia— Islamic world: KazanSummit» represents the main platform for maintaining economic ties between Russia and Islamic states, and Bashkortostan, according to the Minister of Economic Development and Investment Policy of the Republic Rustam Muratov, has favorable conditions for attracting Islamic investments. Thus, the efforts of the Russian leadership and financial structures to implement Islamic finance projects in the constituent entities of the Federation contribute to increasing the attractiveness of the entire state for investment from eastern partners.

However, there are certain difficulties associated primarily with the lack of a legal framework for regulating partnership financing in Russia, which may reduce investor confidence in the safety of their investments in this segment of the Russian financial market. In order to overcome this barrier, the State Duma of the Russian Federation initiated consideration of a bill on creating conditions for the introduction of regulated partnership financing in certain regions of the country, which include Chechnya, Dagestan, Bashkortostan and Tatarstan. The initiative can be extended to other regions of Russia following the results of the first stage of its implementation.

ESG measurement

This dimension of partnership financing is highlighted separately, since the successful experience of introducing the principles of Islamic banking can also serve as a driver for the implementation of sustainable development goals in Russia. This is largely due to the relationship between the general principles and approaches of Islamic and ESG financing. Thus, the goal of Islamic finance is consistent with the principles of sustainable finance, such as environmental and social protection. The compatibility of Islamic finance with the ESG agenda is evidenced by the development of the market for Islamic bonds (sukuk), which are issued in accordance with the principles of environmental, social and corporate governance. The trend towards an increase in the size of the green and sustainable sukuk market is supported by data from the Refinitiv agency, according to which in 2022 the green market will increase. Islamic finance grew by 35%, increasing from $6 billion in 2021 to $8.1 billion in 2022. Thus, green sukuk can be used as a financing instrument for environmentally friendly products.

Challenges for Russia in the context of the ESG measurement of the principles of partnership financing are associated with the problem of the actual lack of legislative regulation in this area. At the same time, the possibility of launching a green Islamic bond instrument in a number of Muslim regions of Russia poses challenges associated, firstly, with the complex process of issuing these securities, and secondly, with the need to attract domestic investors and issuers.

Conclusion

The prospect of introducing an experiment in partnership financing in Russia, along with the opportunities to stimulate the development of the Russian economy, also combines a number of challenges that require a response from the state. So, for example, solving problems related to the financial literacy of the population and the need for more specially trained personnel to work in the field of Islamic banking seems possible with coordinated and constant cooperation between banking and other financial institutions and higher educational organizations to develop joint training courses and training programs for the required specialists. Increasing awareness of Russian citizens and residents about the products and services of Islamic banking in the country can be achieved through an active media campaign.

The formation of a full-fledged legislative framework for regulating and expanding Islamic financial processes may require amendments to the codes and regulations of the current Russian legislation with the introduction of additional provisions that allow attracting capital on an interest-free basis and creating exceptions in matters of lending and taxation for enterprises following Islamic principles principles. When fulfilling this point, it is possible to take into account the regulatory standards of the Bahrain-based AAOIFI and IFSB.

Challenges within the ESG measurement of partnership financing associated with the lack of regulatory mechanisms for this segment of the banking sector can be overcome through the development of appropriate legislation in Russian realities. At the same time, the currently unrealized challenges regarding the launch of green sukuk in Russia can be overcome by borrowing the experience of Muslim countries in the field of introducing Islamic banking mechanisms, as well as stimulating domestic investment by reducing tax costs of organizations operating in this area.