RESEARCH ON

Impact of Islamic banking on economic growth: A comparative study of

Pakistan

Supervised by
MR. SAJJAD

Submitted by
SEHRISH RAJA
ABDUL KARIM KHAN
MUHAMMAD OWAIS

State bank of Pakistan BSC

Peshawar
Session 2015-2016

TABLE OF CONTENTS
CHAPTER 1: INTRODUCTION.........................................................6
Background of the study................................................................................................. 6
History and Evolution of Islamic Banking:..........................................................................6
What is Islamic banking?................................................................................................ 7
Three main pillars of Islamic banking system.......................................................................7

Sharis supervision.............................................................................................. 7

Screening.......................................................................................................... 8

Community based investments................................................................................ 8

SOME OF THE BASIC MODES OF FINANCING OF ISLAMIC

BANKS 8

MUSHARAKAH........................................................................................................... 9
MUDARABAH............................................................................................................. 9
MURABAHA............................................................................................................. 10
IJARAH................................................................................................................... 10
SALAM.................................................................................................................... 11
ISTISNA................................................................................................................... 11
ECONOMIC DEVELOPMENT..................................................................................... 11
Objectives of the study:......................................................................................... 12
Significance of the study:...................................................................................... 13
limitations of the study:......................................................................................... 13

CHAPTER 2: LITERATURE REVIEW............................................14

CHAPTER: 3 ANALYSES...................................................................19
GROWTH ANALYSIS OF ISLAMIC BANKING IN PAKISTAN IN PAST 10 YEARS............19
TABLE: 1................................................................................................................ 19
DATA ANALYSIS:..................................................................................................... 19
TABLE: 2................................................................................................................ 20
DATA ANALYSIS:..................................................................................................... 20
TABLE: 3................................................................................................................ 21
DATA ANALYSIS:..................................................................................................... 21
TABLE: 4................................................................................................................ 22
2

DATA ANALYSIS:..................................................................................................... 22
FINANCING PORTFOLIO OF ISLAMIC BANK.............................................................23
DATA ANALYSIS:..................................................................................................... 23

CHAPTER 4..........................................................................................25
POLICY RECOMMANDATIONS FROM THE LITERATURE:...........................................25
RECOMMENDATIONS TO CONTROL POVERTY........................................................25
MUSHARAKAH:................................................................................................... 25
MUDARABAH:..................................................................................................... 25
SALAM:............................................................................................................... 25
ISTISNA:.............................................................................................................. 26
Murabaha:.......................................................................................................... 26
IJARAH:............................................................................................................... 26
MUSAWAMMAH:.................................................................................................. 26
RECOMMENDATIONS TO CONTROL UNEMPLOYEMENT.......................................26
MUSHARAKAH:................................................................................................... 26
MUDARABA:........................................................................................................ 26
SALAM:............................................................................................................... 26
ISTISNA:.............................................................................................................. 26
RECOMMENDATIONS TO CONTROL ILLETARCY RATE.............................................27
MUSHARAKAH:................................................................................................... 27
SALAM:............................................................................................................... 27
Recommendations to control inflation...................................................................27
MUSHARAKAH:................................................................................................... 27
SALAM:............................................................................................................... 27
ISTISNA:.............................................................................................................. 27
MURABAHA......................................................................................................... 27
IJARAH:............................................................................................................... 28
MUSAWAMMAH:.................................................................................................. 28

CHAPTER5: CONCLUSION.............................................................29
REFRENCES........................................................................................30

DECLARATION
We hereby declare that we are the author of this thesis; that the work of which this thesis is a record
has been done by us , and that it has not previously been accepted for a higher degree.
Signed:_________
Mohammad Sajjad

Date: ________

CERTIFICATE
I certify that Ms. Sehrish Raja, Mr. Abdul Kareem, and Mr. Muhammad Owais have worked
upon the assigned topic Impact of Islamic Banking on Economic Growth of Pakistan.
Signed:___________________
Mr. Mohammad Sajjad

Date: ________________

CHAPTER 1: INTRODUCTION
Background of the study
Islamic banking has established itself as an emerging alternative to interest based banking and
has grown rapidly over the last two decades both in Muslim and non-Muslim countries. Islamic
banks have recorded high growth rates in both size and number and operate in over 60 countries
worldwide and bankers predict that Islamic banking could have control over 50% of savings in
the Islamic countries within the next decade. The practices and activities of Islamic banks reflect
the environment in which they are based. There are strong retail operations in Iran and Saudi
Arabia. In the secular societies of northern Africa, Islamic banks compete on the quality of
products rather than on religious grounds. In Kuwait, financing has focused on the petroleum
sector and real estate investment and in the United Arab Emirates; the emphasis is on trade and
finance.

History and Evolution of Islamic Banking:

The origin of Islamic banking system can be traced back to the advent of Islam when the Prophet
himself carried out trading operations for his wife. The Mudarbah or Islamic partnerships has
been widely appreciated by the Muslim business community for centuries but the concept of
Riba or interest has gained very little diligence in regular or day-to-day transactions.
The first model of Islamic banking system came into picture in 1963 in Egypt. Ahmad Al Najjar
was the chief founder of this bank and the key features are profit sharing on the non interest
based philosophy of the Islamic Shariah. These banks were actually more than financial
institutions rather than commercial banks as they pay or charge interest on transactions. In 1974,
the Organization of Islamic Countries (OIC) had established the first Islamic bank called the
Islamic Development Bank or IDB. The basic business model of this bank was to provide
financial assistance and support on profit sharing.

By the end of 1970, several Islamic banking systems have been established throughout the
Muslim world, including the first private commercial bank in Dubai(1975), the Bahrain Islamic
bank(1979) and the Faisal Islamic bank of Sudan (1977).

What is Islamic banking?

Islamic banking is a financial system whose key aim is to fulfill the teachings of the Holy Quran.
The theory of Islamic banking is based on the concept that interest is strictly forbidden in Islam,
and that Islamic teachings provide the required guidance on which to base the working of banks.
The basic principle that has guided all theoretical work on Islamic banking is that although
interest is forbidden in Islam, trade and profit is encouraged.
Conventional banking uses the interest rate mechanism to carry out its financial operations.
Muslim scholars have developed a completely different model of banking that does not use
interest but rather relies on profit-loss sharing for purposes of financial intermediation. The basic
principle in Islamic law is that exploitative contracts or unfair contracts that involve risk or
speculation are impermissible. Under Islamic banking, all partners involved in financial
transactions share the risk and profit or loss of a venture and no one gets a predetermined return.

Three main pillars of Islamic banking system

Various pillars exist that allow Islamic banks to deliver competitive performance and promote
socially and ethically responsible business practices. Of these, the three main pillars that
contribute to improvements in quality of life throughout society include Sharia supervision,
screening and community based investment.

Sharis supervision
Sharia supervision by a qualified Sharia advisory board is an essential component of the
Islamic financial structure. The board consists of prominent scholars who are well versed in

Islamic law that relates to transactions and business dealings. The board is supposed to be
independent and screens investment strategies, implementation, monitoring and reporting.

Screening
The second main pillar known as screening, involves the activities of including or excluding
publicly traded securities from investment portfolios or mutual funds based on the religious and
ethical conditions of the Islamic law. Some businesses are not in keeping with Islamic laws and
the stocks from such companies are therefore excluded.

Community based investments

Community based investment programs provide capital to those who are unable to access it via
conventional channels. These community-based investments allow people to improve standards
of living and assist them to develop small businesses and create jobs.

SOME OF THE BASIC MODES OF FINANCING OF ISLAMIC

BANKS
Islamic banks are mainly involved in trade activities through different modes of financing or
products which are given below;

Musharakah
Mudarabah
Murabaha
Musawammah
Ijara
Istisna
Salam

MUSHARAKAH
Musharakah means a relationship established under a contract by the mutual consent of the
parties for sharing of profits and losses in the joint business. Under Islamic banking, it is an
agreement under which the Islamic bank provides funds which are mixed with the funds of the
business enterprise and others. All providers of capital are entitled to participate in management
but not necessarily required to do so. The profit is distributed among the partners in pre-agreed
ratios, while the loss is borne by each partner strictly in proportion to respective capital
contributions.

MUDARABAH
A form of partnership where one party provides the funds while the other party provides
expertise. The people who bring in money are called "Rab-ul-Maal" while the management and
work is an exclusive responsibility of the "Mudarib". The profit sharing ratio is determined at
the time of entering into the Mudarabah agreement whereas in case of loss it is borne by the Rabul-Maal only. In case of Islamic banks, the depositors are called Rabb-ul-Maal and the bank is
called Mudarib.
There are two types of mudarabah transactions that are stated below;

Al-Mudarabah Al-Muqayyada:
Rab-ul-maal who, in case of Islamic bank, is depositor specifies a particular business or a
particular place for the mudarib (bank), in which case he shall invest the money. This is called
Al-Mudarabah Al-Muqayyadah (restricted Mudarabah).

Al-Mudarabah Al-Mutlaqah:

In case where Rab-ul-maal (depositor) gives full freedom to the Mudarib (bank) to undertake
whatever business he deems fit, this is called Al-Mudarabah Al-Mutlaqah (unrestricted
Mudarabah).

MURABAHA
Murabaha is one of the most common modes used by Islamic Banks. It refers to a sale where the
seller discloses the cost of the commodity and amount of profit charged. Therefore, Murabaha is
not a loan given on interest rather it is a sale of a commodity at profit.
The mechanism of Murabaha is that the bank purchases the commodity as per requisition of the
client and sells him on cost-plus-profit basis. Under this arrangement, the bank is bound to
disclose cost and profit margin to the client. Therefore, the bank, rather than advancing money to
a borrower, buys the goods from a third party and sell those goods to the customer on profit. A
question may be raised that selling goods on profit (under Murabaha) and charging interest on
the loan (as per the practice of conventional banks) appears to be one of the same things and also
produces the same results. The answer to this query is that there is a clear difference between the
mechanism/structure of the product. The basic difference lies in the contract being used.
Murabaha is a sale contract whereas the conventional finance overdraft facility is an interest
based lending agreement and transaction. In case of Murabaha, the bank sells an asset and
charges profit which is a trade activity declared halal (valid) in the Islamic Shariah. Whereas
giving loan and charging interest thereupon is pure interest-based transaction declared haram
(prohibited) by Islamic Shariah.

IJARAH
Ijarah refers to transferring the usufruct of an asset but not its ownership.
Under Islamic banking, the bank transfers the usufruct to another person for an agreed period at
an agreed consideration. The asset under Ijarah should be valuable, non-perishable, nonconsumable identified and quantified. All those things which do not maintain their corpus during
their use cannot become the subject matter of Ijarah, for instance money, wheet etc.

10

SALAM
Salam is a sale transaction in which full payment for the naturally made products are made fully
in advance while the delivery is made in future. Parallel salam is done here as a risk mitigation
tool to sell out the commodity obtained through salam contract. Its mostly done for the
facilitation of small formers to fulfill their need of funds.

ISTISNA
Istisna is same like a salam agreement done in the human made products here full payment in
advance is not necessary funds are made available with the progress of work and delivery is
made in future. Here parallel istisna can be done for the sake of risk mitigation.

ECONOMIC DEVELOPMENT
According to the American economic development council (1984),
Economic development is the process of creating wealth through the mobilization of human,
financial, capital, physical and natural resources to generate marketable goods and services.
Economists today argue that development is about outcomes, that is, development occurs with
the reduction and elimination of poverty, inequality, and unemployment within a growing
economy (Dudley Seers: 1969)
The three main objectives of development are;

Producing more life sustaining necessities such as food, shelter, and health care and
broadening their distribution

Raising standards of living and individual self esteem

Expanding economic and social choice and reducing fear. (Todaro & Smith)

The concept of the Islamic economic system as described in all its aspects focuses on the
worship of the creator, which includes mans duty to develop life on earth, thus securing a decent
standard of living for the individual. Islam stresses that man is the principle agent for developing
11

life on earth and hence the development of man is a required condition for the development of
society.
The large number of economic ills, including poverty, social and economic injustice, inequalities
of income and wealth, economic instability and inflation of monetary assets are all in conflict
with the value system of Islam.
Therefore it is the responsibility of the money and banking system to contribute to the
achievement of socio-economic development and hence eliminate such economic ills. The
principle goals and functions of the Islamic banking system include economic well-being with
full employment and maximum rate of economic growth, equal distributions of income and
wealth and as a result socio-economic justice, and the generation of sufficient savings and their
productive mobilization and stability in the value of money.
This study is therefore conducted to see whether Islamic financial system has resulted in some
sort of economic growth, welfare and improvement in the living standard of individuals who
were not easily accessible to the conventional loans offered by conventional banks.

Objectives of the study:

To investigate the impact of Islamic banking on the economic growth of Pakistan through
a descriptive and inductive approach.
To suggest the policy recommendations

12

Significance of the study:

The main purpose of this study is to specify the impact on Islamic banking on the economic
growth of Pakistan in the last 13 years from 2003 to 2015. This study is different from other
studies conducted in the past in a way that no study has analyzed the entire data of past 13 years.
The study has given certain recommendations regarding the role of Islamic banking in
controlling unemployment rate, poverty and inflation. The study has also proved the significance
of Islamic banks in improving the literacy rate.

limitations of the study:

Among a number of limitations of the study the main limitation of this study is the non
availability of data on different variables.

13

CHAPTER 2: LITERATURE REVIEW

There is much more inequality in the distribution of income and wealth today than there has ever
been in the past, both within and between nations. Inequality is growing and this is regarded as a
threat to the social and economic stability. A large part of the blame is laid on the monetary and
financial system.
This practice has its origins in the fact that western banking institutions have profitability rather
than social imperatives as their primary concern. The result of such practices is unequal income
distribution, highly skewed towards the wealthier portion of society, and unjustly deprives nonproperty holders of gaining access to finance.
According to the World Bank research observer (1996), commercial banks prefer to lend to lowrisk activities and are reluctant to finance high risk projects, even if such projects, even if such
projects present better investments opportunities. They are also less willing to finance small
firms that dont have adequate collateral.
In contrast, fostering serious economic development is a key objective of Islamic banks as they
seek to maximize social benefit. Islamic banks therefore work hard to overcome shortages and
difficulties to progress to a higher stage of self-sustained development, resulting in a favorable
effect on socio economic harmony due to equal distribution of income.
It has been widely claimed by development economists that policy and resource allocation is
strongly focused on large firms and that existing banking institutions prefer to grant credit
facilities to clients who are able to offer sufficient collateral security.
According to Abdouli (1991), Kahf Ahmad and Homud (1998), Siddiqi (2002), and Iqbal (1997),
maximizing of profitability is not only concern of Islamic banking institutes and the principles
that Islamic banks are based on are deeply integrated with ethical and moral values. They also
state that Islamic banks do not depend on tangible collaterals and lead to a better distribution of

14

income, allowing access to finance for those in poorer classes of society, and resulting in greater
benefits for social justice and long term growth.
In contrast with the conventional methods, Islamic financing is not centered only around credit
worthiness but rather on the worthiness and profitability of a project, and therefore recovering
the principle becomes a result of profitability and worthiness of the actual project.
Entrepreneurship and risk sharing are therefore promoted by Islamic finance and its expansion to
the non wealthy members of the society is an effective development tool. The social benefits are
clear, as currently the poor are often exploited by financial institutions charging usurious rates.
(Iqbal, 1997)
The nature of Islamic banking operations are directly affected by the success or failure of client
enterprises as a result of the profit-loss-sharing process (Abdouli, 1991). The relationship is
based on a partnership, with cash being entrusted to bankers for investement, and returns shared
between depositors and bankers. Losses are carried by fund owners. This sharing principle is
very different to traditional banking practices. It introduces the concept of sharing to financing
and creates a performance incentive within the mind of bankers that relates deposits to their
performance in the use of funds. This increases the deposit market and gives it more stability
(Kahf, 2002).
Iqbal (1997), Abdul-Fattah, Jabarti, and Sofrata (1984), and Ziauddin (1994) are the opinion that
Islamic bankers encourage people to invest as investment depositors receive a share in the banks
profits.
Investors are motivated by the human desire towards ownership, high rewards and the
satisfaction of being part of a success project ( martan et al, 1984). Issuers of the islmic finance
have wider latitude in financing services and negotiate a profit share between zero and 100 when
dealing with the savers and investors. This allows them to better mobilize resources and attract
investors as a higher profit share results in lower finance costs. (Ziauddin, 1994)

15

According to Iqbal (1997), the economic development of Islamic countries can be greatly
enhanced by the Islamic financial system due to the mobilization of savings that are being kept
awaya from interse based banks and the development of the capital markest. This motivation to
invest in Islamic banks may also stem from the fact that research shows that the share in the
banks profits may at tume be higher than the fixed rates of intersest given by conventional banks.

Some of the literature on islmic banks states that the replacement of interest by profit loss
sharing may result in high instability of the entire economic system a sprobelms originating in
one part of the economy will rapidly spread to other parts of the economy. However the general
consensus is that interest free banking tends to enhance stability and it is in fact the interste based
debt financing that contributes to economiv instability.
Islamic finance allows a closer link between real economic activity that creates value and
financial activity to be forced. Accoerding to iqbal (1997), the Islamic financial system can be
expected to be stable due to the elimination of debt financing and enhanced allocation efficiency.
Analytical models show that the Islamic banking system is stable as the term and the structure of
liabilities and assets are symmetrically matched through profit-sharing, lack of fixed interst costs
and the impossibility of refinancing through debt. (Yusri, 2005)
Chapra (1992), Kahf (1982), Siddiqi (1983) and Zarqa (1983) all support the idea that profit
sharing is more stable than the interest based system resulting in prevention of fluctuations in
rates of return. It has been pointed out that interest based debt financing is a major factor in
causing economic instability in capitalist economies. As soon as the bankers find that business
concerns are beginning to incur losses they reduce assistance and call back loans (Yusri, 2005).
In an Islamic banking system more stability is experienced as in times of crisis investment
depositors automatically share the risk due to profit-and-loss sharing, meaning that individual
banks as well as the entire banking system is less likely to break down (Zaher and Hassan, 2001).

16

The focus of Islamic finance on profitability and rate of return of investments due to equity and
profit sharing has the potential of directing financial resources to the most productive
investments and hence increases the efficiency of the financing process and in the real sectors
(Kahf et al, 1998).
Economic development requires mobilization of financial resources both internally and
externally and any resources left hoarded indicate unrealized potential for economic
development.
Qureshi (1984) and Nagvi (1981 and 1982) claim that Islamic bankers are increasingly exposed
to risk due to equity-based financing, however Islamic scholars believe that the elimination of
interest increases stability. In financial theory a linear relationship exists between risk and return,
meaning that low risk is associated with low return and high risk brings about high return.
(Chapra, 1992)
Risk is a key component of making investment and investors share the risk involved with those
carrying out investment activities. Islamic finance provides depositors with some influence on
investment decisions and gives banks and financial institutions a share in the decision making
process. This allows both risk and decision making to be spread over a much larger number and
variety of people, allowing wider involvement in economic activities (Ziauddin, 1994).
In a study by Turen (1996) on the risk analysis of Islamic banks, he states that as interest is
abolished for deposit holders and replaced by profit-sharing, the fixed interest payment is
minimized or eliminated and therefore Islamic banks experience higher coverage of interest
charge ratios and therefore lower financial risks.
A further study by Samad and Hassan (1997) that compares an Islamic bank with a group of
conventional banks shows that Islamic banks are less risky than conventional banks. Sarker
(1997), however, found that the risk involved in profit sharing is very high, but states that many
external factors and obstacles interfered with the proper implementation of the Islamic banking
system.
17

Sarker (1997), Samad and Hassan (1997), concluded that if Islamic banks are supported with
appropriate banking laws and regulation, they can provide efficient banking services which
encourage economic development.
From the literature it is evident that both theoretically and empirically, economists find Islamic
banking viable, acceptable and also efficient and significantly effective in developing the
economy.

18

CHAPTER: 3 ANALYSES
GROWTH ANALYSIS OF ISLAMIC BANKING IN PAKISTAN IN PAST 10
YEARS
TABLE: 1
DESCRIPTION Dec-

Dec-

Dec-

Dec-

Dec-

Dec-

Mar-

2003 2004

2005

2006

2007

2008

ASSETS

13

44

72

119

206

276

% OF

0.5

1.5%

2.1% 2.9% 4%

BANKING

Mar-

Mar- Mar-

2009 2010 2011

2012 2013

2014 2015

278

371

497

644

847

1016 1302

4.9% 5.6

6.7

6.9%

7.7

8.7%

9.4

Mar-

Mar-

Mar-

INDUSTRY
Source: State Bank of Pakistan, Bulletin December 2003-2015.

Amount in billions
DATA ANALYSIS:
If we talk about last ten years i.e. from 2003 to 2015, we will find sustained growth in all
respects and this fact is shown in the tabulation as well. In 2003 total assets owned by Islamic
banks were Rs. 13 billion which are now increased to Rs. 1302 billion and the share of Islamic
banking in the industry with respect to amount of asset was 0.5%, which now increased to 10.4%
in 2010.
As golden principles of Islam has suggested that real trade activity bring real increase in the
assets of a business which is clearly reflected in above mentioned statistics where the value of
assets has been increased from 2003 over the period of time up to 2015. Such increase occurs
due to the bank investment in different products. As the asset portfolio of Islamic banks increase
it encourage further trade activity and trade volume which would create many employment
opportunities and investment opportunities which will ultimately leads to the circulation of
wealth in several hands and economic activities will boost up. At the early stage of Islamic
banking in Pakistan a minor portion of Islamic banks business activities were contributing to the
economic development while with the passage of time awareness as well capital of Islamic banks
has been increased and effectively designed different products to utilize their funds in more

19

10.4%

profitable opportunities that ultimately leads their contribution into the economic development of
Pakistan today upto 12%.

TABLE: 2
DES

D D

M M M M M M M

CRI

ec

ec

ec

PTI

r-

ON

3
8

5
5

7
1

9
2

0
2

1
3

3
7

4
8

5
1

TOT
AL
DEP
OSIT

0 1 1 2 3 4 5 7 7 8 9 1 1

of

ban
king
indu

. . . .

. 0 2

4 3 8 6 8 8 9 2 3 4 7 . .
% % % % % % %%%% %7 2

%%
stry
Source: State Bank of Pakistan, Bulletin December
2003-2015.
Amount in billions

20

DATA ANALYSIS:
Total deposits with Islamic banks in this year i-e 2015 are Rs. 1122 billion while in 2003 they
were just Rs. 8 billion and the share with respect to amount of deposits in the industry was 12.2%
which was 0.4% in 2003
Total deposits of Islamic banks have shown continuous increasing trend past 10-12 years. This
shows the consumer interest and trust worthiness upon Islamic banks. It is an indication towards
the use of idle resources in the economy which were previously not utilized for further progress
of the economy, hence indicating an economic growth due to the multiplier effect of each rupee
invested in financial transactions.

TABLE: 3
Des
crip
tion

D
e
c
2
0
0
3

D
ec
2
0
0
4

D
e
c
2
0
0
5

D
ec
2
0
0
6

D
e
c
2
0
0
7

D
ec
2
0
0
8

M
a
r
2
0
0
9

M
a
r
2
0
1
0

M
a
r
2
0
1
1

M
a
r2
0
1
2

M
a
r
2
0
1
3

Fina 1 3 4 7 1 1 1 2 3 4 6
ncin 0 0 8 3 3 8 8 2 7 8 6
g
8 6 5 9 4 7 9
and
inve
stem
ent
%
0 1. 1 2. 3 4. 4 6 6 7 8
of
. 3 . 3 . 3 . . . . .
indu 5 % 7 % 5 % 5 2 7 4 4
stry %
%
%
% % % % %
shar
e
Source: State Bank of Pakistan, Bulletin December
2003-2015

M
a
r
2
0
1
4

M
a
r
2
0
1
5

6 7
6 6
2 8

7
.
6
%

7
.
5
%

Amount in billions

21

DATA ANALYSIS:
In 2003, Net Financing and Investment was Rs. 10 billion, while in 2015 it is Rs. 768 Billion.
The share in industry with respect to Net Financing & Investment is 7.5% now while in 2003 it
was just 0.5 %.
Financing and investments plays a key role in mobilizing the funds from one portion of the
society to another portion of the society. If the banks get deposits form depositors but do not
invest these deposits, there would be no transactions in the economy and hence reflect zero
economic growth. Islamic banks accept deposits on profit loss sharing basis. Islamic banks invest
clients monies in common stocks and use them to earn profits both for their clients and share
holders. Mostly the funds generated or Islamic bank deposits are invested in infrastructure
building. Infrastructure is the main contributor in the economic development of a country. It
provide excessive job and employment opportunities to the public hence reflecting economic
wellbeing of the country and results in an increased living standard of people. The table above
shows that Islamic banks have been continuously investing the deposits in various products
offered by Islamic banks such as musharakah, mudarabah, salam, istisna, ijara etc to generate
greater multiplier effects.

TABLE: 4
DESC
RIPT
ION

No of
full
fleged
Islami
c
banks

D
e
c
2
0
0
3
3

D
e
c2
0
0
4

D
e
c2
0
0
5

D
e
c2
0
0
6

D
e
c2
0
0
7

D
e
c2
0
0
8

1
1

1
1

1
6

1
8

1
8

M
a
r
2
0
0
9
1
9

M
a
r
2
0
1
0
1
7

M
a
r
2
0
1
1
1
7

M
a
r
2
0
1
2
1
7

M
a
r
2
0
1
3
1
9

M
a
r
2
0
1
4
2
0

M
a
r
2
0
1
5
2
2

22

Total 1
no of 7
branc
hes

4
8

7
0

1
5
0

2
8
9

5
1
5

5
2
4

6
5
4

7
5
9

9
0
5

1
1
0
0

1
3
1
4

1
5
9
7

Source: State Bank of Pakistan, Bulletin December

2003-2015.
Amount in billions

DATA ANALYSIS:
Growth of Islamic banks with respect to number of Islamic banking institutions can be seen from
the table no 3. In 2003 there were just 3 institutions which became 11 in 2004 and remain 11 in
2005 too. In 2006 these institutions increased to 16 and later on in 2007 they further increased to
18 and remained 18 in 2008. In 2009 the number of Islamic banking institutions was 19 but in
2010 they decreased to 17 and remained 17 in 2011 and 2012. In 2013, Islamic banks again
showed increase in the number of Islamic banking institutions. It increased to 19, 20 and 22
institutes in 2013, 2014 and 2015 respectively. This increase shows that Islamic banks have
played a vital role in providing employment opportunities in the past years and its still on way
towards progress opening new doors to the fresh graduates and Islamic bankers..

FINANCING PORTFOLIO OF ISLAMIC BANK

YEARS

Murabaha

Sept
2006

Mar
2010

Mar
2011

Mar
2012

20,627 26,506 28,961 53,375 52,466 60.8

M
M
M
M
M
M
351 M 533M 583M 3,135M 1,320 2.8
M
M

86.1
M
5.7M

83.3B 90.4B 106.7 113.7

B
B
1.6
3.6B 27.9B 47.6B
B

0.3M

0.2

Musharaka
h
Mudarabah -

Dec
2006

Mar
2007

Dec
2008

308
23

Mar
2009

1,650

0.4

Mar
2013

0.5B

Mar
2014

0.6B

Mar
2015

0.2B

Diminishin
g
musharaka
h
Salam
Istisna
Qarz-ehasana
Others
TOTAL

6549
M

2365
M
642M
6M
5000
M
53162
M

M
10,600 12,313 42,327
M
M
M

465
M
900
M
7M
7000
M
65,742
M

583
M
400
M
8
6,867
M
70,671
M

M
M
43,987 51.3
M
M

55.7
M

B
73
B

2,649M 3,070
M
4,274M 4,523
M
17 M
-

6.5
M
10.6
M

4.8M

7,876
M
146,31
4M

7
M
162.1
M

5.8M

8.2
B
207.9

2614
M
13940
0M

7.6M

189.5

89.7B 107.2
B

8.2
13B
18.6B 22.3B
B
11.1B 16.4B 19.5B 31
B

14.1B 15.5B 21.9

B
251.1 323.2 417.8
B
B
B

DATA ANALYSIS:
The diversification of IBI s portfolio reveal that diminishing musharakah constitutes the major
portion of the portfolio and it further reinforced its supremacy with almost 35.4% shares in the
overall financing. Mode wise financing of Islamic banking industry remained concentrated in
Murabaha and Diminishing Musharaka as these modes collectively contributed nearly 63 % of
overall financing. However, Murabaha declined from December 2014 to march 2015 from 127
billion to 113 billion. While Diminishing Musharaka has increased from 107 billion in march
2014 to 147 billion in march 2015. It has shown increase both in absolute amount as well as its
share in overall financing. Among other modes of financing, Ijara, Musharaka and Salam
witnessed increase in their share in overall financing as well as in amount of financing. Ijarah
financing has inceased from 27 billion in march 2014 to 33 billion in march 2015. Musharakah
financing has also witnessed growth of 47 billion in 2015 from 27 billion in 2014. Salam
financing has increased from 18 billion in march 2014 to 22 billlion in march 2015. Murabaha
contributes 27.2% share to the total financing according to the state bank bulliten 2015.

24

147.9
B

CHAPTER 4
POLICY RECOMMANDATIONS FROM THE LITERATURE:
From the literature it is evident that the Islamic banking is growing at a much faster pace during
the last few years and the statistics shows that Islamic banking sector has made tremendous
growth in its assets, total market share, deposits, financing and investments. Also all the modes
of transactions including Musharakah, Mudarabah, Murabaha, istisna, Salam, Ijarah have also
shown a drastic positive increase which is a sign of growth and prosperity of Islamic banking in
25

Pakistan. With an increasing growth rate of Islamic banks it is clear and evident that if Islamic
laws and regulations are truly and fully implemented in all the Islamic banks we can very soon
get rid of economic problems such as poverty, inflation and unemployment rate prevailing in
Pakistan.

RECOMMENDATIONS TO CONTROL POVERTY

MUSHARAKAH:
Encourages partnerships with a recognized party (i.e., bank and so financial bottlenecks are less
problematic for small entrepreneurs)
Most of unknown profit of business will be determined accurately, and major share of profit will
go to bank and finally to its depositors unlike interest based banking when only determined
interest rate goes to bank and its creditors, i.e., the bank depositors.
All this activity will help in removing the black economy and idle resources to use and shared
with small savers of economy, reducing level of population below poverty line.

MUDARABAH:
Mudarabah is a very potent tool for removing interest from society by providing an interest free
tool for skill utilization and especially can help in mobilizing resources of society by employing
them as mudarib while bank will provide the finance and also bear the chances of profit and loss,
which is absent in interest based financing for venture capital. Small traders and skill men of
Pakistani villages especially agricultural and craftsmen can generate mass exports through it,
reducing poverty.

SALAM:
Salam is very useful in reducing agricultural sector poverty easily, by enabling the banks and
farmers to contract with each other of the crops and to get finance at appropriate time, instead of
usurious loans, which ultimately deteriorate through compounding of interest and farmer, will
not pay it easily.

ISTISNA:
Istisna is useful in housing sector especially, boosting the construction demand, creating
employment of factors of production and wealth to society without harmful effects of interest.

Murabaha:
Murabaha has no direct effect upon poverty reduction, but indirectly it provides a good tool for
an efficient deferred sale, providing business men asset of its choice and bank of its profit for
effort and risk taking.

26

IJARAH:
Ijarah has no direct effect upon poverty reduction.

MUSAWAMMAH:
Same as murabaha but perhaps musawama is the mode of finance which has least effect on
poverty reduction as it helps in trading better without interest.

RECOMMENDATIONS TO CONTROL UNEMPLOYEMENT

MUSHARAKAH:
Musharkah also creates jobs for many people in society, being finance based mode, promotes
enterprise and partnership ventures, creating jobs in the country.

MUDARABA:
Mudaraba has an effect on reducing the business sector unemployment, as it encourages business
management by skilled people and promotes commercial activity, unemployment is reduced with
it in short and long run both.

SALAM:
Salam has also a great potential in reducing rural sector unemployment and reduces trends
towards urbanization as well, by enabling farmers and agriculturists, salam engages them at
villages and towns, decreases unemployment burden at civic offices and factories

ISTISNA:
It has also good effects upon reducing unemployment by boosting construction and house
building activities in society and generally any manufacturing activity using Islamic modes of
finance.

RECOMMENDATIONS TO CONTROL ILLETARCY RATE

MUSHARAKAH:
No direct effect but promotes business enterprise culture in society, growth of skilled people is
needed so may be helpful in growth of literacy. Moreover, financing a school or university via
musharakah may be helpful for its management extending its facilities.

SALAM:
Generates agricultural and rural sector development and eventually more income for these poor
people, where 70% people of Pakistan resides, enabling more of children parents to afford their
education.
Mudarabah istisna murabaha ijara and istina have no direct effect on control of illetarcy rate.

27

Recommendations to control inflation

MUSHARAKAH:
Musaharakah has a potent effect on controlling inflation and spread of baseless credit, promoting
joint ventures without potent investigations and research ensures business successes, not
speculations in its success and thus speculative trading of its stocks and securities.
Musharakah deposits are also on PLS basis, sharing the risk of loss in addition to profit.

SALAM:
Salam has a great effect on reducing inflation in Pakistan like country, where food stuff has
reached its peak prices, the main way it cuts inflation is through ensuring increased aggregate
supply and reduced food products deterioration by use of pesticide and fertilizers at appropriate
times, boosting the yield of land and farms to much extent.

ISTISNA:
Istisna has a little effect on inflation control

MURABAHA
Murabaha has also good effect on reducing inflation, as it involves use of agency contract with
proposed borrower who can buy goods of its demnd, at discounted or lowest possible price for its
proposed lender as agent, it ensures that lowest prices are used in contract, no need of borrowed
interest based loans for borrower, and so inflation will reduce.

IJARAH:
Ijarah has also great potential for protecting against inflationary harms to middle class people
and entrepreneurs as well, by allowing the use of asset without sudden cash outflows, it enables
them to modify, or replace even after some months or years, their equipment or machinery
without much cash flow swings. But ijarah like ordinary lease, can sometimes leads to inflation
itself if economy is working at full employment level, then boosting demand of goods further
increases its prices in market.

MUSAWAMMAH:
Muswamah ensures a good method for inflation reduction as it is a interest free tool, but to
hamper inflation murabaha is better, because the buyer would know cost as well in murabaha.

28

CHAPTER5: CONCLUSION
It is evident from the above discussion that the efficiency and growth of Islamic banks is on an
ever increasing trend. Due to strong commitment of the SBP toward the promotion of Islamic
banking sector in Pakistan it is on fast growing track. Where substitutes are available, there
originates competition in financial sector. Yet increase in the deposits, branch networks,
financing facilities as well as increased number of customers in the Pakistan, as being witnessed
in the last decade, is a proof that the Islamic banking sector have the potential to grow and
expand and diversify further. To cope with the increasing Islamic banking need of the clients the
conventional banks are also opening Islamic banking branches or departments within their
conventional banking system. This study was mainly conducted for finding the relation between
the growth of Islamic banking industry and its impact on development of Pakistan. the following
conclusions can be drawn from the study;
The Islamic profit sharing concept helps to foster economic development by encouraging equal
income distribution and which results in greater benefits for social justice and long term growth.
29

The profit sharing scheme encourages investment because investment depositors receive a share
in the banks profits. This increase in investors will implicitly result in the increase in
employment.
The Islamic financial system is more stable than the conventional banking system due to the
elimination of debt financing. It also reduces inflation in the economy as the supply of money is
not permitted to go above the supply of goods.
Islamic banks are less risky than conventional banks as both investors and entrepreneurs share
any risks that are involved in the business.
Islamic banks should develop its current products in addition to innovate new financial products
to avoid the problem of narrowing the investments just in real estate.

REFRENCES
Abdouli. (1991). access to finance and colletrals: islamic versus western. KAU:
islamic Economics , 55-62.
Ahmad. (2004). economic developement in islamic perspective revisited. Journal of
KAU , 53-83.
khan, a. a. (1998). challanges facing islamic banking. IRTI .
mohammad, A. a. (2008-2009). The state of Arabic nation.
Rafique, A. (2011). prospects of islamic banking: Reflection from Pakistan.
Australian Journal of business and Management research , 125-134.
rehman, A. (2010). creatinga nd effective and efficient regulatory framework for the
islamic capital market, global islamic finance forum.
turen, S. (1996). Economic Performance and risk analysis of the Islamic banks: The.
Journal of KAU: Islamic Economies , 3-14.
ziauddin. (1994). islamic banking state of the Art.

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