What Role Could Islamic Finance Play in the Developments Through Pakistan and Western China?

Recent years have produced agreements between Pakistan and China to develop the strategic deep sea port situated at Gwadar; Pakistan. An efficient economic corridor will be established connecting Gwadar to Xinjiang in Western China, with the intention of importing and exporting cargo and oil. As well as transport costs, this is expected to save the distance of cargo and oil traveling from Europe and the Middle East to China by up to 10,000km[1]. The development of this economic corridor is expected to enhance trade between the two countries, resulting in infrastructural developments, the expansion of regional trade and the creation of business opportunities and jobs.

The route from Gwadar port to China will be connected by road, rail, fibre links and oil and gas pipelines. By taking advantage of the free trade agreement that accompanies the construction of the economic corridor, the two nations can promote regional developments at a faster rate. The Chinese have been given control over the developments of the port and are planning to invest $12 billion in various sectors and projects to make the region a hub of economic activity[2]. Some of these projects include reviving an old oil refinery, transport opportunities and establishing service opportunities. The large infrastructural projects proposed in both countries will require significant amounts of capital, necessitating the participation of various parties. Governments often turn to the private sector to aid with the funding of such projects and it is in this respect that Islamic finance could play a role in Pakistan and China. The primary goals of Islamic finance institutions share a number of similarities with the requirements of sustainable development set by the World Commission on Environment and Development. These goals include economic welfare, high economic growth, equal distribution of wealth and fair profit sharing. Islamic finance institutions can therefore achieve major socio-economic goals through project-financing; an attractive incentive for both countries to utilise Islamic financing.

In Pakistan, Islamic finance is already growing at a faster rate than conventional finance, with significant state backing aiding its success. After the partition of British India in 1947 and the subsequent birth of Pakistan, the absence of a set plan meant that the adoption of Islamic finance principles was largely the result of a trial and error process. Zia Ul-Haq, the president of Pakistan in 1977, recognised the importance of interest-free finance and ordered all banks in Pakistan to offer alternative interest-free finance as well as to eliminate interest over the next 5 years. However, the commercial banking sector struggled to adapt at such a rapid rate which led to the original 5 year plan falling through. In present Pakistan there are a number of interest-free institutions, but interest-based conventional institutions still widely exist[3]. Since it re-launched in 2001, the steady growth of the industry has so far managed to develop Shariah permissible products to meet the varying needs of the real economy. Yet although Islamic finance is showing promising growth potential, it is still in its evolutionary phase and requires further investment and development.

In comparison, Islamic finance in China is currently more of a niche market. However, Jeffery Kirk explains that there has been a renewed interest in Islamic Finance in Greater China[4]. The reasons for this may be attributed to the growth of the global economy, which has influenced interest in niche sectors in China such as the Islamic Finance sector. Furthermore, trading between China and the Middle East has been prominent during recent years, which reflects the strong relationship between the two regions. Not only do Islamic banks express intentions to open in China, but the potential for an increase in demand for Shariah-compliant finance services and products is significant, as there are 10 minority Muslim groups in China with a population exceeding 23 million. One such group are the Uyghurs, a Turkic ethnic Muslim group constituting over 10 million people, residing primarily in Xinjiang[5]. This is the same region where the China-Pakistan economic corridor will be connected to from Gwadar.

The demand for Islamic financing should increase in both regions as a result of the economic corridor and further infrastructural developments. Musharakah (profit and loss sharing) and Mudarabah (contractual partnership) are two major instruments Islamic finance-based institutions can provide to help finance projects. The concept of sharing profit or loss is particularly distinctive as it is not a principle which the conventional system applies. Regarding the financing of projects which will emerge as a result of the economic corridor, the use of Mudarabah would be a logical course of action. Mudarabah involves a partnership where one partner allocates money to another for the investment in an enterprise. The creation of a binding contract prevents parties from abandoning projects, regardless of whether or not they speculate that a loss may be incurred, thus ensuring that the projects are completely seen through.
As our financial world predominantly operates on a conventional system, it is difficult to fund projects solely on the basis of Islamic finance principles. It is therefore anticipated that co-financing will be used instead for these projects. Co-financing is an innovative system used world-wide. It involves blending Islamic Finance with modern conventional finance and its use has proven to be successful in previous projects. The Dolphin Gas Project, a project involving gas extractions and the processing and construction of pipelines in Qatar, was able to secure $1 billion through Islamic Financing and $2.45 billion through the conventional tranche. Thus, co-financing was able to raise a total of $3.5 billion and proves that the two types of financing were able to work together to help the development of a project which was ultimately successful[6]. Because co-financing is not fully compliant with the principles of Shariah, as it contains elements of conventional finance, some may argue against its use entirely, but in reality it remains the most realistic option.

Overall, it appears that Islamic finance could play a major role within the developments through Pakistan and western China. It is unlikely that the implementation of Islamic finance in Pakistan would face major setbacks given the prior operation of Islamic finance in Pakistan and the fact that it is a Muslim-majority country. On the other hand, it may prove to be more problematic in China. The political context and attitude of the Chinese government towards various religious groups should not be underestimated. Those belonging to religious groups in China, including Muslims, have undergone repression by the government as a result of practising their religion freely. This may restrict the growth of the Islamic finance sector in China due to the religious values it is based on. However, the construction of this economic corridor facilitates a space for Islamic finance to play a successful role in China and thus raises hopes for its growth in the region.

[1] Today, P. (2014). Plan to link Gwadar Port to western China finalised. [online] Pakistantoday.com.pk. Available at: http://www.pakistantoday.com.pk/2014/11/25/business/plan-to-link-gwadar-port-to-western-china-finalised/ [Accessed 1 Feb. 2015].

[2] The Express Tribune, (2014). Gwadar Port: Pakistan, China all set to develop master plan – The Express Tribune. [online] Available at: http://tribune.com.pk/story/671852/gwadar-port-pakistan-china-all-set-to-develop-master-plan/ [Accessed 23 Mar. 2015].

[3] El Diwany, T. and Ahmad, T. (2010). Islamic banking and finance. p 355.

[4] Kirk, J. (2015). Greater China & Islamic finance: A perspective. [online] Islamicfinancenews.com. Available at: http://islamicfinancenews.com/listing_article_ID.asp?nm_id=34650 [Accessed 17 Mar. 2015].

[5] Dillon, Michael (2004). Xinjiang: China’s Muslim far northwest. Routledge.

[6] Javed, A. and Fida, B. (2015). Islamic Project Financing in Pakistan: Current Challenges and Opportunities Ahead. p.47.

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