History of Islamic Banking in Pakistan

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As most of you would know, Pakistan was created in the name of Islam and as an Islamic state in 1947. Therefore, since its independence, religious political leaders and scholars were pressing the demand Islamic Banking in Pakistan and to eliminate the Interest (Riba) completely from the Banking industry & financial institutions of Pakistan. Even the Constitution of Pakistan states that it is the state`s objective to remove Riba based transactions from within the economic system of Pakistan.
But unfortunately, this goal hasn’t been achieved, at least so far. The demand of Interest-Free economy from the religious scholars were strong during the period of 1947 – 1960, but it wasn’t successful because no solid steps were taken to make it actually happen and find an alternate solution that can completely remove the Riba based banking system of Pakistan.
History of Islamic Banking in Pakistan
During the period of 1960 – 1977, the Council of Islamic Ideology (CII) created a strong case against Riba and forwarded it to the Govt. of Pakistan, in which it proved that the interest based system that was running in Pakistan was completely against the Islamic teachings and come under the term RIBA, which is HARAAM (prohibited) in Islam. In 1980s various attempts were made to Islamize the overall banking system in Pakistan, which actually made quite a few changes to take place in the Banking Companies Ordinance. Some of the key changes that took place during this period are as under:
1979
  • 2 of the most popular Govt. owned mutual funds, the ICP & NIT, began the process of eliminating interest from their overall financial operations by abstaining from investing the funds in interest-based securities. ICP launched a new Investor scheme in October 1980, which was solely based on the system of Profit and Loss sharing.
  • The HBFC (House Building Finance Corporation) which was run by Govt. also eliminated the interest from their operations completely in July 1, 1979.
1980 – 1981
  • Participation Term Certificate (PTC) was launched, which was a new interest-free corporate financing instrument.
  • A two-Tier Fund structure was launched in 1981, which introduced the concept of mudarbah. A new law was formed for this, namely: mudarbah Companies and mudarbah Ordinance, whose sole purpose was to promote Shariah compliant businesses.
  • Most nationalized commercial banks started separate counters for Interest-Free products to offer the customers an option of depositing their amounts on profit & loss sharing basis, which actually kick started the Islamic Financing in Pakistan.
1984 – 1985
  • 7 major amendments were made in the LAW with the name of Banking & Financial Services Ordinance, 1984.
  • Banking Tribunals Ordinance, 1984 was approved, which provided a new way to ensure recovery non-interest based financed amount.
  • SCB issued BCD Circular No. 13 of 1984 which tried to enforce the removal of Riba from the overall banking system of Pakistan. Hence on 1st Jan 1985, all the Provincial & Federal Govt. Public Sector Corporations, Joint Stock Companies were all directed to become Interest-Free.
The clear indication of how the trend of Islamic Banking in Pakistan escalated is the fact that the percentage of total deposits in PLS (Profit & Loss Share) deposits rose from 9.2% to 61.6% during the period of 1981 – 1985.
All these measures worked towards a grand country-wide roll-out of the Role of Islamic Banking in Pakistan. However, of-course the transition was not smooth enough as it can be imagined; since the banks and financial institutions were not prepared and needed to fully understand the Islamic system of banking and financing. The Federal Shariat Court had to challenge some of the Islamic Banking products in Pakistan initially as they did not fulfill the Shariah Law completely. Supreme Court and Federal Shariat Court worked towards providing the banks and financial institutions guidelines to resolve the issues. 2002 is marked as a year when the first Islamic Bank in Pakistan was given the license to offer complete range of Islamic products and offered.
Current State of Islamic Banking in Pakistan
What transpired during the era of 1980s in Pakistan`s banking industry, clearly guided banks and institutions about the scope of Islamic banking in Pakistan to try and take a revolutionary approach towards perfection when it comes to Islamic Banking instead of a revolutionary approach, otherwise it would have been very difficult to ensure adaptability of Islamic Financial Products in Pakistan. Other thing that the banks learnt was that they should develop a flexible approach in developing and offering their financial products instead of the rigid market, as the market was still growing and was too dynamic at that point of time. Banks also learnt that they MUST ensure their products are Shariah Compliant, both to build trust in the eyes of their customers and to ensure the Federal Shariat Court does not get involved. 1990s can be considered as the re-launch of Islamic Banking in Pakistan, after learning the experiences and lessons from the 80s era. In 2001, the State Bank of Pakistan issued its first Islamic Banking Policy which was its most evident step over a long period of that time. This policy stated that the Islamic Banking should be promoted side-by-side with the conventional banking. Al-Meezan investment bank, which was previously working as an Islamic Investment Bank in Pakistan was issued the first license and started working as the first of the Islamic banks in Pakistan, and hence, it became the first Islamic Bank of Pakistan. All the conventional banks were also offered licenses to offer Islamic Banking Services as a subsidiary or separate branches. We can’t really say at the moment that who is the Best Islamic Bank in Pakistan, since all of them are trying and experimenting different things, may be in few years, we can differentiate between these banks. Job seekers are also searching for Jobs in Islamic Banks in Pakistan, which currently looks like a tough task.
Shariah Compliance Mechanism for Islamic Banking
SBP also crafted a very comprehensive and detailed Shariah Compliance Mechanism, to ensure that the customers can trust the product`s adherence to Islamic Financial Products, and also make the banks accountable to what they offer their customers as a product or service. 3 Major Pillars of this policy are:
  • Shariah Board: Which checks and approves all the policies, guidelines and criteria for Advisors
  • Shariah Advisers: Each bank must have Shariah Advisors, to provide Islamic guidance to the banks and give the customers complete peace of mind when dealing with Islamic Services/Products
  • Shariah Audit System: SBP crafted 9 agreements and contracts with respect to different Financing guidelines and Shariah Audit guidelines for each bank.
Conclusion
Islamic Banking in Pakistan definitely has high potential, but it would need to grow by 40-50% at-least, to ensure its share rise from 3% to 15% of the overall banking system of Pakistan. The overall Banking industry of Pakistan is growing at a very fast pace; hence concrete & serious steps are required to make Islamic Banking work in parallel with the conventional banking system.
Location: Lahore, Pakistan

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