Shari’ah Compliant Credit Unions in the United Kingdom, an Analysis of the Opportunity for Growth.
Shari’ah Compliant Credit Unions in the United Kingdom, an Analysis of the Opportunity for Growth.
In today’s financial services industry in the United Kingdom, the influence of credit unions has continued to fall short of the performance that we see in the Irish Republic where they currently manage in excess of 17.9 Billion in assets compared to the United Kingdoms’ 1.6 Billion (WOCCU, 2012). The figures published by the World Council of Credit Unions (WOCCU) go further in reflecting that in Ireland the Credit Union penetration reached 73.2% against the UK’s 2.5% highlighting that there is a lot to be learnt from the performance of Irish credit unions. The market in the Republic of Ireland’s performance however must be seen as an anomaly given that WOCCU further disclose that across Europe the total assets of all credit unions is 26.5 Billion highlighting that Ireland holds 67.5% of all assets, a distinct market anomaly.
WOCCU have recognised specific areas of potential growth within its expansion strategy highlighting Islamic Finance as a key area of interest. To support this opportunity they have produced an operating manual to support the development of the Shari’ah-compliant Credit Union services model (WOCCU, 2013). The inclusion of Islamic Finance is an interesting perspective when examining the United Kingdom given that Islamic Finance faces its own challenges surrounding its own issues of low market penetration. Today there is only one Shari’ah-compliant retail financial institution, The Islamic Bank of Britain, that offers the traditional high-street banking deposit and lending facilities and a limited number of credit unions including Ansar who operate a Shari’ah-compliant business model, and others including LASA and the London Community Credit Union who offer a Shari’ah compliant offering amongst their credit union deposit product portfolio utilising a ‘window’ approach.
The challenges offered in undertaking a review of UK-based Shari’ah-compliant Credit Unions and their alignment with conventional Credit Unions lies in the lack of research undertaken and material available to date. Unfortunately, the author has been unable to locate any substantive reference material drawing the conclusion that this is not an area of key research at this current time. As such, the approach taken in this analysis is to examine the two models drawing parallels where possible examining both the opportunities and challenges such that we are able to draw an opinion as to the opportunities for the two models to come together in support of each other.
THE CURRENT CHALLENGES FOR CREDIT UNION GROWTH
There are many theories as to why credit unions have not seen the same levels of success as their cousins in the Irish Republic, that reasoning however comes in many contradictory forms. Edmunds (2013) in his House of Commons guidance paper to MPs, argues that a Credit Union is seen as a ‘Poor Man’s Bank’ and this reputation is a primary cause of their inability to attract the right balance of customers. A contradictory argument presented by Jones (1999) discusses that a Credit Unions dependence upon a largely volunteer workforce and management structure has resulted in poor stewardship of Credit Unions, which in turn has limited their growth. This view is supported by earlier research undertaken by Clutton-Brock (1996) although Jones takes this further to argue that Credit Unions have further suffered by the focus upon and allocation of societal objectives as a higher concern and priority than that of fundamental business objectives and needs such as operating margin and profitability. There are further contradictory arguments as to the limited growth of Credit Unions including the views of Thomas and Balloch (1994) who in their work argue that the typical low-income customer demographics have either seriously limited or halted the objective of distributing the wealth from the have’s to the have-nots. It is clear however that the existing theories surrounding the limited growth of Credit Union’s in the United Kingdom fail to offer a consistent argument albeit there are elements of identifiable themes around that of low-income customers and limited management experience.
A limited research study was undertaken by the Islamic Bank of Britain into the interests of the consumer in adopting Shari’ah-compliant financial services (Zawya, 2014) in which they reached the conclusion that 81% would be open to utilising such services. To date, the research methodology and subsequent data set have not been published in full so these results are at best indicative and are unsubstantiated albeit they propose that there is an appetite for further expansion within the United Kingdom for Shari’ah-compliant financial services product offerings.
COMMONALITY BETWEEN CREDIT UNIONS AND ISLAMIC FINANCE
When examining the establishing/ operating objectives of both Credit Unions and Shari’ah compliant financial institutions there are the common goals of both customer and institutional equitability, social responsibility and ethical behaviour such as the earlier mentioned concept of Profit and Loss Sharing that aligns with the credit union participatory share ownership scheme as highlighted in earlier work by Al-Muharammi and Hardy (2013) a perspective supported in the earlier works of El-Gamal (2006) when highlighting the need for ‘true’ equity sharing through mutuality. The position of membership ownership is discussed by R. Wilson who argues in his 2011 work examining the drivers for the growth of Islamic Finance when discussing that adopting the position of investor ownership avoids the issues of conflict of interest when considering the needs of shareholders and their desire for profitability (Wilson, 2011).
A key differentiator between conventional finance and Islamic/ Shari’ah finance is based upon the need for Shari’ah compliance in both the design of products and the day-to-day operating model of a financial institution, a differentiator that would also apply to the operations of a Shari’ah compliant Credit Union model.
Shari’ah compliance within the United Kingdom is not a regulated position, rather it is one of a moralistic perspective where compliance is not formed in legal statute and instead is one controlled by the potential risk to reputation alone. The compliance regime for Shari’ah compliant financial organisations is based upon the avoidance of Haram (impermissible activities and products) including pork, pornography, arms, alcohol and entertainment (Schoon, 2009), the avoidance of uncertainty (Gharar) or chance/ gambling (Maysir), must ensure equality of transactions and their outputs and must avoid the application of excess/ usury/ interest (Riba), constraints that dictate both product design and the activities of potential customers. To ensure product design and day-to-day operations operate under the religious constraints presented the guidance of an independent Shari’ah Supervisory Board is utilised to provide the necessary structures and external opinion to help manage the reputation of an organisation.
When examining the underlying objectives of both Credit Unions and Islamic financial services organisations we are able to draw parallels indicating common synergies namely of equitability, profit equalisation, social responsibility, ethical behaviour and financial inclusion. Islamic Finance holds at its core the concept of ‘true’ Profit and Loss Sharing (PLS) that marries well with the credit union’s account holder/ share ownership model highlighting that both enter into a customer/ institutional partnership relationship. This concept is examined by Al-Muharammi and Hardy (2013) in their IMF working paper when examining the potential synergies between the two models of Shari’ah finance and cooperatives. Their work draws parallels between cooperative finance and credit unions concluding that the two models from an analytical perspective can be considered as one. Their work concludes that there are indeed many synergies between Credit Unions and Islamic finance such that their ideology, customer reward and risk sharing are equal in nature supporting their coming together for expansionist purposes.
SHARI’AH SUPERVISORY BOARDS AND REGULATORY COMPLIANCE
In analysing the role of a Shari’ah Supervisory Board (SSB) a key consideration for a Shari’ah compliant Credit Union is that of the overheads generated from the operating costs of an SSB, which in turn is a level of governance, compliance and cost that is not present for conventional Credit Unions. In his 2009 analysis of Shari’ah Boards Bernardo Vizcaino examined their financial impact highlighting that Shari’ah Boards can often have fees in excess of $ 40,000 associated with the approval of products and the issuance of fatwas or religious opinions (Vizcaino, 2009), a cost that may have negative impacts upon the financial feasibility of an organisation.
In an attempt to simplify the establishment of Shari’ah complaint Credit Unions and their product offerings the World Council of Credit Unions have developed a set of guiding principles for the design and operation of a Shari’ah Credit Union (WOCCU, 2013) that are aimed at reducing the need, influence and costs associated with Shari’ah Boards. The WOCCU perspective however well intended, will not remove the need for Shari’ah Boards in part due to the need to provide an ongoing external and independent opinion as to the compliance status of day-to-day activities but also in part due to the commercial interests of these boards which may see levels of undue pressure to continue to engage with their services despite the quality and relevance of the existing guidance offered by others.
A 2001 report presented by Nicholas Ryder (Ryder, 2001) examined the impact of increasing regulation upon Credit Unions highlighting the introduction of deposit protection, the need for ‘approved persons’ in the management structure and the increased need of capital reserves as serious constraints around the ease upon which a Credit Union can be established, will operate and its financial viability. Whilst Ryder’s work can be seen to be somewhat out of date its relevance as an early indicator of the restrictive influence of regulatory bodies can be seen as a seminal or foundational work when examining the potential negative influence of regulation and regulatory bodies upon what is in essence, community-based financial bodies who simply do not share the same economies of scale when compared to their more conventional cousins.
Whilst little work has been undertaken into examining the role of the UK regulators and their influence over Shari’ah complaint Credit Unions we can examine the 2007 paper by Michael Ainley et al. (2007) in the FSA paper ‘Islamic Finance in the UK: Regulation and Challenges’ in which they examine the influence of dual standards of institutional governance. In the paper, they highlight that it is neither appropriate nor legal to vary standards between conventional and Islamic financial institutions in order to generate a ‘Level Playing Field’ for all market participants. The authors go further to issue words of caution over the role of the Supervisory Boards highlighting the need for them to remain independent working in an advisory and not an executive capacity in order that the influence of the Shari’ah and religious needs do not override the need for regulatory compliance.
The regulator’s stance upon market equality or the provision of an ‘even playing field’ however does not in reality provide the desired levels of equality. The need for legal compliance is met by both however the need for Shari’ah compliance and its governance structures is an operating model cost not faced by conventional institutions. Unfortunately, the paper by Ainley et al. fails to address this additional level of governance.
THE POTENTIAL MARKET FOR SHARI’AH-COMPLIANT CREDIT UNIONS
Islamic/ Shari’ah compliant financial services and their products are universal in nature in that they are available to both Muslim and non-Muslim alike although one must question the true appeal of retail/consumer-aligned Islamic Finance given the provision of high-street financial services through a single provider, the Islamic Bank of Britain (IBB). As discussed earlier, the 2014 Islamic Bank of Britain survey (Zawya, 2014) highlighted that 81% of those surveyed would be interested in receiving Shari’ah-compliant financial services which when utilising the 2011 census (ONS, 2013 or Nomiweb, 2011) highlights a potential customer base of 2.2 Million Muslims based upon a UK Muslim population of 2.7 Million. Given the lack of insight however into the IBB survey, it is not possible to leverage their results to extrapolate in a meaningful manner, that there is indeed a potential customer base of 2.2 Million and as such, one can only make a limited set of assumptions as to the potential growth. We can see however that despite a fall in the number of UK-based credit unions from 596 in 1997 to 567 in 2005 (down 5%) (Collard and Smith, 2006) we can see a positive upwards trend from 224,674 customers in 1997 to 492,173 over the same time period more than doubling the number of members despite the fall in the number of offering institutions.
Unfortunately, when analysing the potential marketplace for Shari’ah compliant Credit Unions it is impossible to highlight the potential marketplace for non-Muslim customers as we do not have an indicator of the volume of non-Muslim customers of Shari’ah compliant financial services. Juan Sole indicated in his extract from his 2007 (Sole, 2007) paper, ‘Introducing Islamic Banks into Conventional Banking Systems’, the influence and coverage of Islamic Financial services and their products are seeing expansion into the domain of conventional finance and its customer base in terms of customers, products and vertical market offerings.
Credit Unions operate under the concept of ‘Commonality’ between members and the application of Shari’ah guidance and compliance is strong enough a framework to satisfy the regulatory needs for the establishment of a Credit Union. Against this however is the perception issue of Credit Unions only offering services to the poor and needy, an area that will require extensive research and investigation.
A challenge for all researchers however is the lack of substantial, quantifiable quantitative or indeed qualitative research in the field of Shari’ah compliant Credit Unions with the current market participants such as Ansar, London Community Credit union and others offering at best a limited range of services under undisclosed and/ or unclear operating models. The role of Shari’ah Supervisory Boards will require careful management to ensure that they not only have a limited financial impact but also due to what will be a very limited scholar experience and knowledge base. It may be that guidance is best provided through a combination of the WOCCU guidelines and the leveraging of previous activities such as the retail financial services offerings from the Islamic Bank of Britain to not only leverage previous experiences but to also avoid the cost implications.
The growth in credit union membership despite the reduction in the number of credit union institutions highlights that at face value consumer take-up has continued to grow. The gaps in Credit Union market coverage between the United Kingdom and the Republic of Ireland highlight that where appetite is strong, expansion is indeed possible. Despite the lack of sophistication utilised in the Islamic Bank of Britain survey, we can draw assumptions that there is an appetite for increased take-up of Shari’ah-compliant financial services and as such there may be potential for the two industries to support and assist the growth of each other. There is common ground as highlighted by Al-Muharammi and Hardy (2013) in the areas of ethical approaches, equality of outcomes, profit equalisation and financial inclusion drawing many comparable avenues across the two financial structures, which makes, in turn, makes for a relationship of potentially beneficial ‘bed fellows’.
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