The Policy and Implications of Islamic Finance in Non-Islamic States: Cases of the UK, Singapore, and Japan

Daechang Kang, Sung Hyun Son, and Young Kyoung Suh

Islamic finance, once limited to Muslim countries, has recently been expanding rapidly to non-Islamic regions. This report studies Islamic finance in the UK, Singapore, and Japan which are major non-Islamic states, with focus on the harmonization of Islamic finance with conventional finance. This analysis will help elicit useful implications for Korea when it is introduced to Islamic finance in the future.

Chapter 2 discusses the current situation and policy of Islamic finance in the UK. Recognizing the potential of Islamic finance since 1995, the UK has exerted efforts to develop Islamic finance. Islamic finance started to develop in the UK as the UK government created the institutional framework for financial supervision and taxation in the middle of the 2000s.

The UK built the 9th largest Islamic finance market in the world and possesses the largest Islamic financial assets among non-Islamic countries. A significant number of Islamic banks operate in the UK, and these banks play major roles in international Islamic finance markets. Banks represent the primary institutions for Islamic finance in the UK, while the size of the assets of Islamic funds is very small and that of takaful is negligible. The London Stock Exchange (LSE) remains one of the main international stock exchanges for sukuk issuance. There have recently been cases in which Islamic finance is applied to investments toward infrastructure increase in the UK.

The services sector which assists and educate for Islamic finance is also being developed in the UK. Large accounting firms, consulting companies, and professional service corporations contribute to the development of Islamic finance, while providing consulting services for Islamic financial institutions. In line with this, professional educational institutions establish new standards and award certificates for Islamic finance, and many colleges and business schools offer courses on Islamic finance.

The UK adopted Islamic finance, its policy objective being that it would establish the UK as the hub of Islamic finance globally. While pursuing this goal, it sought to enhance the UK's competitiveness in overall financial services and allow every one in the UK to benefit from diverse financial services. The UK government has developed a financial system in response to the issues of financial supervision posed by Islamic finance, and it has applied the same standards of financial supervision both to Islamic and conventional finance.

In the process of adopting Islamic finance, the UK government has developed a financial supervision scheme and enacted a phased, gradual modification of the tax system. It made small changes to the financial supervision system while adjusting the system to sustain neutrality of financial supervision and taxation. In addition, it has indirectly affected standardization of Islamic financial products, and strongly supported efforts to increase awareness of Islamic finance. It has also indirectly supported the creation and the operation of education and training programs for Islamic finance. In the whole process of developing the Islamic finance system, the UK government has formulated and implemented relevant policies while consulting closely with the stakeholders.

Chapter 3 discusses Singapore's current situation and policy regarding Islamic finance. By introducing Islamic finance, the Singapore government aims to strengthen its role as the global financial hub and facilitate the flow of capital from Middle East countries. As trade has increased and the economic relationship has been strengthened between Singapore and Middle East states, capital flows from the Middle East countries to Singapore have expanded through Islamic finance. Under these circumstances, Singapore recognized that Islamic finance could be useful as a conduit for transactions and investments between Middle East and Asian states.

Islamic finance in Singapore continues to grow rapidly, mainly in areas such as wholesale banking, insurance, asset management, and sukuk. Although Islamic banks in Singapore started operations in retail banking, they have expanded into the wholesale banking area especially for corporate finance. Foreign non-bank financial institutions in Singapore do business actively in investment advisory services, consulting services, and securities related to Islamic finance. In the Islamic capital market of Singapore, Shariah exchange trade funds (ETFs) and sukuk issued by the Singapore government are heavily traded as major financial products. In the asset management area, Islamic financial institutions from many countries invested intensively in Singapore and Asian real estate.

The Monetary Authority of Singapore (MAS) supervises Islamic financial institutions as well as conventional financial institutions using the same criteria. This is because of the policy orientation of the Singapore government in which it should manage the risks of every financial institution equally, given that it deems these risks as similar regardless of whether the financial institution is conventional or Islamic. In order to establish Islamic finance, MAS has modified its laws and systems according to the principle of equal treatment. That is, it has developed the system to ensure that earnings and tax burden of Islamic and conventional finance are equivalent. Singapore thoroughly excludes religious issues from the financial supervision system.

In order to develop Islamic finance, the Singapore government has realigned the system by enacting or revising the banking acts and tax laws. Islamic banking started to develop in Singapore from 2005, as the Singapore government revised the Banking Act in 2005 pertaining to how banks acquire and trade non-financial assets. Since then, it has made various facets of Islamic finance operable by enacting and revising the banking acts. To maintain tax neutrality between Islamic finance and conventional finance, the Singapore government prevents double taxation on Islamic finance contracts and arranged the clauses for exemption of stamp duty.

Chapter 4 discusses Japan's current situation and policy regarding Islamic finance. Realizing the necessity for ensuring maintenance of various financial channels, the Japanese government has created an environment for Islamic finance through rearrangement of laws and the system. By revising the enforcement regulation for the Banking Act in 2008, banks in Japan were allowed to participate in Islamic banking through their subsidiaries. Since 2011, the Japanese government has revised the laws and the system related to sukuk to enable sukuk issuance in Japan. With these efforts, the government expected that Japanese companies and financial institutions would actively issue sukuk in Japan, with foreigners able to invest in sukuk issued in the country.

However, these activities did not lead to results intended by the Japanese government. Japanese banks did not actively respond to domestic demands, and Japanese institutions have yet to issue sukuk in Japan. Insufficient domestic demand, complexity of procedure, and incomplete realignment of laws and the system are cited as causes making the Japanese sukuk market sluggish. While examining the necessity of additional legal revisions, the Japanese government attempts to devise various measures that would ensure participation of diverse institutions in the Japanese sukuk market.

At present, it is simply too early to evaluate the performance of Islamic finance in Japan. Japan has only recently started to revise the laws and the system to adopt Islamic finance, modifying relevant laws and systems to introduce Islamic finance gradually, while keeping the existing financial supervision system as intact as possible. It appears that the Japanese government proceeded with the revision of the laws and the system in a relatively short period, to prepare proactively for the potential demand for Islamic financial services in Japan.

Chapter 5 presents policy implications for Korea, drawn from discussions on the current situation and observations of Islamic finance policies in the UK, Singapore, and Japan. It discusses policy implications, categorizing them for the Korean financial market and in accordance with the policy orientation of the Korean government.

In line with this, implications for the Korean financial market are considered. It is possible to introduce Islamic finance without a significant Muslim base, as we can see in Singapore's case. It is desirable that Korean institutions expand operation of Islamic finance overseas during the early phase. In addition, it would be more effective to begin business operations in the wholesale finance areas. In order to do that, opportunities for education and training in Islamic finance must be provided. It is also required that Korean institutions take note of sukuk as a means of raising capital and seek ways to make use of them. In particular, it is necessary for Korean venture firms to pay attention to sukuk, recognizing that sukuk provide channels for raising capital efficiently. They also need to consider measures to procure the Shariah committee members and prevent possible conflicts of interest.

The policy direction for the Korean government is suggested as follows. First of all, it is important to enhance awareness of the necessity of Islamic finance. It is necessary to know the introduction of Islamic finance will have a positive effect on the development of the Korean financial system. It is also necessary to consider that it is highly probable that the introduction of Islamic finance will create new jobs. Keeping this in mind, the Korean government must confirm the establishment of the hub of Islamic finance for Northeast Asia as the policy objective in the adoption of Islamic finance. As an important measure to achieve this goal, Korea needs to exert greater efforts to increase openness of its domestic market. In order to develop Islamic finance in the long run, it is necessary for the Korean government to create a neutral system of financial supervision and engage in a comprehensive revision of laws and the system to secure tax neutrality essential for sukuk issuance. In doing so, it is important for the Korean government and the private sector to formulate measures for the development of Islamic finance by discussing relevant issues broadly and cooperating closely. The Korean government should also establish the basic principles for supervision of the Shariah committee to prevent conflicts of interest.

Chapter 6 summarizes the entire discussion, focusing on policy implications and discussing future approaches to Islamic finance.

The cases of the UK, Singapore, and Japan ascertain that the government's policy initiative is an important factor for the development of Islamic finance. In this regard, it is necessary to take note of the process through which the government integrated Islamic finance into the existing system of financial supervision and taxation. The neutral system of financial supervision and taxation provides the foundation for stable operation of Islamic finance. Introducing Islamic finance can offer opportunities for the development of Korea's overall financial system.

It is necessary to approach Islamic finance based on long-term prospects. It is expected that, because of high transaction costs, Islamic finance will not replace conventional finance but merely account for a small portion of the financial market. Korean institutions have to consider measures to reduce the cost of raising capital by applying Islamic finance to areas, such as large projects or venture firms, for instance.

It is necessary to take an active approach throughout the process of the introduction of Islamic finance. If Korea establishes a clear development strategy for Islamic finance and pursues it systematically and persistently, it would likely present sufficient opportunities for the development of Islamic finance in Korea.

All of these should be predicated upon a clear recognition of the policy objectives for the introduction of Islamic finance. If we consider Islamic finance simply as a means to secure an alternative source for raising capital, we will not fully elicit benefits that Islamic finance can provide. The Korean government has to formulate policy objectives that will establish Korea as the hub of Islamic finance in Northeast Asia in from the long term perspective, and exert an array of efforts to achieve the goal in the different areas. If Islamic finance develops as a result, it will facilitate the development of the conventional finance as well. That is, the policy of establishing the hub of Islamic finance in Northeast Asia can be a momentum for the enhancement of the overall quality of Korea's financial system.

국문요약

제1장 서 론
1. 연구 배경과 필요성
2. 연구 내용과 구성

제2장 영국의 이슬람 금융 현황과 정책
1. 영국의 이슬람 금융 현황
2. 영국의 이슬람 금융 정책
3. 소결

제3장 싱가포르의 이슬람 금융 현황과 정책
1. 싱가포르의 이슬람 금융 현황
2. 싱가포르의 이슬람 금융 정책 목표
3. 싱가포르의 이슬람 금융 발전 과정과 정책 과제
4. 소결

제4장 일본의 이슬람 금융 현황과 정책
1. 일본의 이슬람 금융 현황
2. 일본의 이슬람 금융 도입 정책 목표
3. 일본의 이슬람 금융 도입 과정과 정책 과제
4. 소결

제5장 정책적 시사점
1. 한국 금융시장에 대한 시사점
2. 한국 정부 정책 방향에 대한 시사점

제6장 결론

참고문헌

Executive Summary