5 Surprising Challenges Islamic Banking in Bangladesh Will Face in the Next Decade

Islamic banking has established itself as a significant player in Bangladesh’s financial landscape, contributing to the country’s economic development and financial inclusion. Over the past four decades, this sector has grown substantially, yet it faces several challenges that could impact its future growth and stability. This article explores the current state of Islamic banking in Bangladesh, highlights the key challenges it faces, and suggests potential solutions for overcoming these obstacles.

Current State of Islamic Banking in Bangladesh

Islamic banking in Bangladesh began with the establishment of Islami Bank Bangladesh Limited (IBBL) in 1983. As the first Shariah-compliant bank in the country, IBBL set a precedent for other financial institutions. Since then, the number of Islamic banks in Bangladesh has grown to ten, including prominent names such as Al Arafah Islami Bank, Social Islami Bank, and Exim Bank.

The sector has made substantial progress, controlling around 30% of the country’s banking sector. Islamic banks manage deposits amounting to BDT 4.21 trillion, which constitutes 27% of the total banking sector deposits. Their investments reach BDT 3.87 trillion, representing 29% of total investments in the banking sector. Additionally, Islamic banks play a crucial role in remittances, handling 38% of total remittances processed through the banking system.

Key Challenges Facing Islamic Banking in Bangladesh

1. Lack of Comprehensive Legislation: One of the significant challenges facing Islamic banking in Bangladesh is the absence of a comprehensive legal framework. Unlike Malaysia and Pakistan, where Islamic banking is supported by robust legal structures, Bangladesh’s Islamic banks operate under general guidelines issued by the Bangladesh Bank in 2009. This regulatory gap affects the sector’s ability to address modern financial complexities and ensures compliance with Shariah principles.
2. Financial and Operational Risks: Islamic banks face unique financial risks due to their prohibition on interest-based transactions. During liquidity crises, these banks cannot borrow from the money market as conventional banks do. This limitation is compounded by the lack of specific Islamic financial tools to manage risks. The absence of mechanisms to safeguard deposits and investments can expose Islamic banks to vulnerabilities during economic downturns or financial instability.
3. Infrastructure and Technological Advancements: The integration of advanced technology in Islamic banking is still developing. While conventional banks have embraced digital banking technologies to enhance their services, Islamic banks have been slower in adopting these advancements. Investing in technology that supports Shariah-compliant transactions and services is crucial for improving operational efficiency and meeting customer expectations.
4. Public Awareness and Education: Despite the growth of Islamic banking, there remains a gap in public understanding of Shariah-compliant financial products. Many consumers and banking professionals lack awareness about Islamic finance principles, which can hinder the sector’s growth. Comprehensive educational initiatives are needed to increase awareness and build trust in Islamic banking services.
5. Sectoral Integration and Innovation: Islamic banking in Bangladesh needs to diversify its product offerings beyond traditional banking services. Expanding into new financial products, such as Sukuk (Islamic bonds), and integrating social welfare tools like Zakat and Waqf into the banking system can enhance its appeal and effectiveness. Innovation in financial products is essential for meeting the diverse needs of customers and supporting economic development.

Global Context and Benchmarking

To understand the potential and challenges of Islamic banking in Bangladesh, it is essential to look at global trends. In countries like Malaysia, Islamic banking has flourished under supportive legislative frameworks. Malaysia’s Islamic banking sector accounts for about 30% of the country’s banking industry and is bolstered by specific laws and government support.

Similarly, Pakistan has developed a robust legal and regulatory framework for Islamic banking, contributing to its growth and stability. The success of these countries underscores the importance of legislative support and regulatory oversight in fostering a thriving Islamic banking sector.

Globally, Islamic finance has become a significant economic force, with assets exceeding $2.88 trillion, according to the Asian Development Bank. This growth highlights the sector’s potential to contribute to financial stability and economic development. Bangladesh can benefit from adopting best practices and frameworks from other countries to enhance its Islamic banking sector.

Path Forward for Bangladesh’s Islamic Banking Sector

To address the challenges facing Islamic banking in Bangladesh and capitalize on its potential, several strategic measures should be considered:

• Legislative and Regulatory Framework: Enacting comprehensive legislation specifically for Islamic banking is crucial. This framework should include provisions for Shariah compliance, risk management, and financial stability. Establishing a central Shariah board to oversee compliance and innovation is also essential for maintaining the integrity of Islamic finance.
• Investment in Technology and Infrastructure: Investing in modern technology that supports Shariah-compliant transactions will enhance the efficiency and competitiveness of Islamic banks. Digital platforms and advanced banking technologies can improve customer experience and streamline operations.
• Public Awareness and Education: Expanding efforts to educate the public and banking professionals about Islamic finance principles and products is necessary. Increasing awareness through educational programs and public outreach can build trust and acceptance of Islamic banking services.
• Product Innovation and Development: Islamic banks should focus on developing innovative financial products that align with Shariah principles and meet customer needs. This includes exploring new financial instruments such as Sukuk and expanding the use of Islamic finance tools for social welfare and economic development.
• Strengthening Risk Management: Developing specific Islamic financial tools to manage risks and safeguard deposits is essential. Islamic banks need mechanisms to address liquidity crises and protect against financial instability.

While Islamic banking in Bangladesh has achieved significant growth, addressing the challenges it faces is crucial for its continued success. By learning from global best practices and implementing strategic reforms, Bangladesh can strengthen its financial sector and contribute to broader economic and social goals. Embracing these changes will not only enhance the stability and efficiency of Islamic banking but also support the country’s overall economic development.