Islamic Finance

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The Journal of Applied Business Research – January/February 2009

Volume 25, Number 1

The Evolution Of Islamic Finance In Southeast Asia: The Case Of Malaysia (1)

Rika Nakagawa, Institute of Developing Economies, Japan

ABSTRACT The purpose of this paper is threefold: to explain why the Islamic financial system was introduced in Malaysia; to outline how the Malaysian government has promoted this system; and to analyze the development of the Islamic financial system with a specific focus on the banking sector. In Malaysia, the first Islamic bank, Bank Islam Malaysia Bhd., was established in 1983. One turning point of the Islamic financial system in the country was the Financial Sector Master Plan presented by the central bank in 2001. The government, in accordance with the plan, has taken a strong initiative in the development of an Islamic financial system. As a result, the country has succeeded in promoting a comprehensive Islamic financial system, banking and insurance sectors and capital markets. In the banking sector, this paper reveals that the profit-sharing system does not seem to be popular in this country although the reward system is central to Islamic Finance. In order for further development of the Islamic financial sector, the reasons why the percentage of contracts under the profit-sharing system is small need to be analyzed. Keywords: Islamic Finance in Malaysia, Financial Sector Master Plan, New Economic Policy, Bank Islam Malaysia Bhd., Islamic Banking Scheme

INTRODUCTION

I

n the globalized economy, large amounts of capital are moving rapidly around the world. It is often pointed out that international capital flows have changed since September 11, 2001. The income of oil producing countries has increased due to a sharp increase in the price of oil; wealthy people in these countries are starting to consider how better to manage their money. Islamic financial products have become one of the sources for investments. Islamic financial transactions are not new; Muslims have traded goods and services in accordance with Islamic concepts for a long time. However, it appears that the Nasser Social Bank which started business in Egypt in 1971 was the first institution that applied Islamic concepts to banking (Iqbal and Molyneux 2005, p. 37)(2). Since that time, many Islamic financial institutions have been established not only in Islamic countries, but also in non-Islamic countries, such as the U.K. Among Southeast Asian countries, Malaysia is at the forefront with regard to the introduction of Islamic Finance. Malaysia has promoted an Islamic financial system since 1983, when the Bank Islam Malaysia was established. Ten years after its establishment, the government started the Islamic Banking Scheme, which allowed banks to inaugurate Islamic banking in order to diffuse services throughout the country and to make the business environment more competitive. Due to this government policy, the number of banking institutions providing people with Islamic banking services has increased since that time. The purpose of this paper is threefold: to explain why the Islamic financial system was introduced in Malaysia; to outline how the Malaysian government has promoted this system; and to analyze the development of 111

The Journal of Applied Business Research – January/February 2009 the Islamic financial system with a specific focus on the banking sector.

Volume 25, Number 1

The structure of this paper is as follows. The next section outlines the nature of Islamic Finance with some examples. The following section reviews how the Malaysian government introduced the Islamic financial system. The fourth section shows policies implemented in the development of the Islamic financial system and analyzes outcomes of promotion policies by utilizing statistical data. The final section consists of a summary and discussion of the future agenda for the Malaysian government for further development of the...
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