The rise of fintech platforms and digital banks has given a new lease of life to an area of finance that was struggling to achieve its potential. Islamic finance had been hailed as a new way of doing business, centering faith and ethical practices at its core, that would disrupt the financial services industry and move it toward more sustainable and socially conscious goals.
Such ‘disruption’ began in the early 2000s, and the 2008 financial crisis became evidence of the need for different industry practices and standards to protect the consumer and economy from the excesses of financialisation. Growth in Islamic finance saw the UK attempt to brand itself as the global hub for Shariah-compliant products alongside the likes of Malaysia and the UAE, offering business and retail solutions.
Islamic finance profitability challenges
However, in the years since, Islamic finance has yet to take off, with incumbent banks who previously led the charge for Islamic banking, such as HSBC, pulling their Islamic finance products, and boutique Islamic banks in the UK finding the market too small for their survival given the traditional cost structures they faced.
In an age of financial democratisation, this trend has seemingly been turned on its head as the past half-decade has seen significant growth in the number of Islamic finance-oriented fintechs and digital banks who, with innovative technology, have been able to offer services to customers at a global level for a fraction of their previous costs.
Like the fintech sector more generally, such companies currently offer a relatively narrow product range, with many focusing on investing and wealth management services, such as Wahed, the US-based robo-advisor, and Kestrl, the UK-based personal financial management and investment app.
Despite the fintech and digital banking field becoming increasingly crowded as technology companies and other insurgents find it easier to integrate financial services into their offerings, the potential for Islamic fintech is considerable.
Demographic trends in the West support Islamic fintechs’ chances as Muslim communities grow, settle, and find themselves wealthier than first-generation immigrants who arrived half a century ago. Similarly, at a global level the opportunity to service large Muslim-majority countries that have high levels of underbanked customers who are also young, digitally able, and of working age makes the market for Islamic fintech larger than diaspora communities.
Islamic finance: huge potential
Already this is being seen as the UAE and Saudi Arabia invest heavily in digital banking and fintech, issuing digital banking licenses, and encouraging their incumbent institutions to innovate and partner with ‘tech-first’ companies. In Southeast Asia, the examples set by super apps such as Grab are a reminder of the possibilities that are afforded to more niche types of financing and banking given the barriers to entry and access have been eroded.
While Islamic fintech has considerable potential, it remains hamstrung by the factors that limited the success of Islamic banking: credibility and cost. For many Muslims in the West, Islamic banking has simply been the sanitisation of non-Shariah-compliant products, making many hesitant to engage with such products let alone pay more for them. Similarly, given the uncertain status of ‘religiously approved’ products, many find it simpler and often acceptable to side with conventional retail offerings that at least appear transparent.
Mass-market, socially conscious approach
As a result of this, Islamic fintech and even finance more generally is somewhat between a rock and a hard place. Instead of attempting to launch products for a niche segment of the market, it would be better for a more mass-market, socially conscious approach to be taken.
An example of this is arguably Buy Now, Pay Later (BNPL), a technically Shariah-compliant offering rolled out to the mass market that is quickly becoming an alternative to interest-based credit cards, which according to many and by the letter of the law are impermissible. The integration of BNPL and other Shariah-compliant products that would appeal to a wider demographic would be most beneficial to a sector that has previously failed to size its market.
Targeting a solely Muslim customer base with a religiously oriented product is unlikely to work in the West, especially if technological parity is not achieved with standard fintech offerings. In the Middle and Far East, low incomes are likely to continue to limit potential for many offerings that are not considered necessities. Partnerships with incumbents to offer the most demanded products such as personal loans and mortgages would be a significant step for Islamic fintechs.
As all fintechs and disruptors in financial services are learning, trust is a key cornerstone of the primary account relationship. The largest fintechs such as Revolut and Starling continue to find it difficult to dislodge preference for traditional banks, and it remains to be seen whether even the most enthusiastic Islamic fintech customers would use an Islamic offering as more than a secondary option.
Islamic finance: pricing must be competitive
To stand a chance, Islamic fintech platforms must demonstrate equivalent value for customers or else see customers exit the market or choose conventional alternatives. Since the 2000s, Islamic finance products have almost universally been more expensive than traditional financial services due to the lack of scale many providers operated at. Moving forward, this has to be addressed as increasingly customers see value for money as the most important factor behind their decision-making.
GlobalData’s 2021 Financial Services Consumer Survey demonstrates this as the shift in importance for ESG principles that Shariah concerns would fall under has not grown particularly strongly over the past two years, despite the importance ESG now has in mainstream and corporate culture. Contrastingly, better rates and rewards consistently ranks as the most consequential factor when customers choose to use an alternative financial services provider.