Islamic finance holds the key to unlocking our economic relationships in Southeast Asia

By Dr Imran Lum

The Australian government has made clear, including through its Southeast Asia Economic Strategy to 2040, that it wants to boost economic engagement with its neighbours. To do that, it must understand Southeast Asian financial markets, which includes the Islamic finance industry. 

But over many years in my work leading Islamic finance projects, I have seen Australia consistently fail to engage with this industry. It’s important to consider how we could do better, not just because of the opportunities the sector presents, but because how we deal with Islamic finance is an indicator of how we engage (or don’t) with the region more broadly. 

What is Islamic finance and what is it worth? 

The Islamic finance industry ensures financial activities are Shariah compliant, for example in lieu of charging interest on loans, Islamic deals are often structured as a profit share arrangement, lease or a trade-based activity. And there is a screening process to avoid industries that are deemed harmful to society. 

One of the earliest examples in Southeast Asia of an Islamic financial institution was Tabung Haji, set up in Malaysia in the late 1960s to enable Muslims to make Shariah compliant deposits to save for their hajj pilgrimage. Since then, the Islamic finance industry has burgeoned into a highly sophisticated and well-regulated Islamic financial system covering core banking, capital markets, Islamic insurance (takaful), FX and derivatives markets across the Southeast Asian region.  

And it’s playing an increasingly large role in the region’s economy. In Malaysia, Islamic financing now constitutes 45 per cent of market share of all financing and 42 per cent of all deposits and investment accounts. Their overall Islamic bond (sukuk) market continues to grow and is currently valued at AU$565 billion, or 113 per cent of GDP. Next door, the Brunei Investment Agency is one of the more active sovereign wealth funds, estimated to have over AU$266 billion of assets under management. 

Governments throughout the region are implementing Islamic finance-focused policies to help with economic development. Indonesia has reinvigorated its Islamic Banking Development Roadmap 2020 – 2025 and through the merger of three Islamic state-owned banks, it houses one of the world’s largest Islamic banks, Bank Syariah Indonesia.  

The growth of the Islamic economy in Indonesia more broadly is a middle-class phenomenon. This rising middle-class wealth is contributing to the region’s growth. Islamic wealth is estimated at US$11.2 trillion across the top 10 Islamic finance asset jurisdictions and Indonesia alone accounts for US$3 trillion of that.  

Other countries are engaging with the Islamic finance sector

With this increased wealth, High Net Worth Individuals (HNWI) are looking to other countries for wealth management services. And they aren’t choosing Australia.   

In fact, Australia is neither a top ten foreign direct investor in Southeast Asia, nor meaningfully present in the Islamic finance sector. That’s despite successive government reviews, from the 2008 Henry Tax Review onwards, recommending engagement in the sector. 

Singapore makes no secret about being the region’s preferred offshore financial centre. With an estimated 141 million middle and affluent consumer class in neighbouring Indonesia, Singapore is actively growing its brand as an Islamic wealth management hub. In 2009, they issued the first AAA rated sukuk (Islamic) bond, and a 2021 survey found that it was the preferred financial centre for 32 percent of HNWIs from Indonesia. 

The UK, Hong Kong, Luxembourg, and even South Africa have also all issued sukuk bonds into Islamic capital markets – Hong Kong’s three sukuk bonds totalled US$3 billion.  

That these governments have focussed on Islamic markets, despite there being no real pricing advantage, shows they understand something profound: building trust and long-term relationships with the region are more important than just the economics of the transaction and diversifying their investor base.  

That investment in relationship building is starting to pay off. The UK for example, was sending trade delegations to the region as early as 2006, pitching UK infrastructure projects to Islamic investors. Now the London landscape has been altered by deals funded in part by Islamic investors, from The Shard, to Olympic Park, Chelsea Barracks and the Battersea redevelopment. 

Australia’s missed out on opportunities

Australia is strategically located in the Indo-Pacific and next to the world’s largest Muslim-majority nation – but our action on Islamic finance has been negligible. 

Over a decade ago, Islamic finance was flagged in the Henry Tax Review and the Johnson report as a good idea. But the closest we came was a reference to ‘asset-backed’ financing in the Turnbull budget of 2016-17 to improve access to more diverse sources of capital. This was supposed to be in effect by 2018, but even this was quietly put to bed by the Albanese budget of 2022-23. 

There could be several reasons for this failure to act – lack of Asian Australians in senior management, lack of cultural capital and know-how in dealing with Southeast Asia, and even latent Islamophobia. 

If my experience in Islamic finance is anything to go by, Australia is a fair way off really understanding the nuances that will form the backbone of a more robust and mutually beneficial long-term relationship. Islamic finance is going to be a significant trend shaping the economic environment of the Indo-Pacific into the future. If Australia wants to benefit from the region’s growth, we need to do more to understand and engage with Southeast Asia’s financial market. 

Dr Imran Lum is the Head of Islamic Finance at a major Australian bank and a former Board Member of the Australia-ASEAN Council, Department of Foreign Affairs and Trade.  

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