EXPANDING branch networks of Islamic banking institutions help them mobilise cheaper deposits from individuals and institutions interested in earning return under Shariah mode. But they employ the bulk of deposits for corporate and consumer financing, and make no big efforts to boost lending to small and medium enterprises or agribusinesses.

In one year to March 2014, Islamic banking institutions (IBIs) recorded a huge 23.9pc growth, but at the end of that month, 74.4pc of their total financing was concentrated in the corporate sector and 12.7pc in the consumer sector, reveals the latest State Bank of Pakistan report.

A little over 10 years ago, Islamic banking had begun with a single bank with half a dozen branches, but now IBIs (including Islamic banks and Islamic wings of conventional banks) boast of more than 13,000 branches and sub-branches.

This phenomenal expansion has brought total deposits of Rs872 billion to IBIs, which is equal to 10.7pc of the total deposits of the entire banking system. But the bulk of these deposits are being channeled into financing traditional borrowers.

According to SBP data, 74.4pc of total financing of Islamic banks was concentrated in corporates and 12.7pc in consumers by end-March

Traditionally, the corporate sector has had easier access to bank loans owing to its size and documentation of its operations. Similarly, expansion in the domestic economy, a modest increase in income levels of the rich and a segment of the middle class and their crave for an improved lifestyle have been pushing up demand for consumer finance.

But when it comes to the overall banking industry, including traditional and Islamic banks, one sees that the corporate and consumer sectors get 68.9pc and 6.6pc of total financing respectively, according to figures for end-March 2014. In both areas, debt concentration of IBIs is higher. In fact, in the case of consumer finance, it’s almost double.

“This simply means IBIs are following the footsteps of conventional banks instead of making their own mark, and they are averse to exploring under-served segments,” points out a former executive director of the SBP.

“The demand for Islamic banking products is much stronger among other client classes like agribusiness and SMEs. Why have the IBIs not been tapping that demand?”

As of March 2014, IBIs’ financing to agribusiness was just 1.7pc of their total financing, far lower than the overall banking industry’s average of 7.5pc. In the case of SMEs, IBIs financing share stood at 5.3pc, not as bad as that of agribusiness, but still trailed behind the industry’s average of 6.1pc.

“It seems as if Islamic banks are focused on making profits on easy terms, daring not to venture into areas where their banking abilities can be tested,” says a central banker. “One of the reasons why we’ve involved Islamic banks in the agricultural credit scheme [from 2014] is to help them make their financing more inclusive.”

In 10 months of FY14, three selected Islamic banks had lent more than half a billion rupees under this scheme, meeting 96pc of the full fiscal year target assigned to them. As they gain confidence, they are expected to meet much larger targets in the next few years, central bankers say.

Executives of Islamic banks admit that a few weaknesses on their part hold them from penetrating into agribusiness. “First of all, we are inherently over-cautious. Secondly, lending to these areas requires far greater expertise and specialisation than IBIs have so far been able to develop,” says the head of a leading local Islamic bank.

Elaborating on the first point, he points out that as of March, the ratio of non-performing loans to gross financing of the biggest Islamic bank was just 4pc — one third of the banking industry’s overall average of around 12pc.

As for the second point, neither full Islamic banks nor Islamic banking operations of traditional banks make sufficient investment in developing human resource to cater to specialised needs of different classes of borrowers.

This lack of required training also reflects in product development. That is why Murabaha and diminishing Musharaka are being used in two-thirds of IBI financings. Ijarah, Musharaka, Istisna, Salam and Mudaraba remain less frequently used modes of lending. Collectively, they are employed in just one-third of IBIs’ total financing. And this trend has remained more or less the same for years.

Published in Dawn, Economic & Business, June 16th, 2014