THE FACTORS EFFECTING THE DEVELOPMENT OF ISLAMIC FINANCE IN TURKEY

Suna AKTEN ÇÜRÜK

Faculty of Economics and Administrative Sciences KTO Karatay University, TURKEY

suna.akten@karatay.edu.tr

sunaakten@hotmail.com
 Citation: Akten Curuk, S. (2014), Full Paper in The International Interdisciplinary Business-Economics Advancement Conference (IIBA 2014), July 16-19, 2014,  Istanbul, Turkey.

Abstract

The emergence of Islamic finance as a concept and practise is based on the early days of Islam. It has improved and developed since 1960s in few Arabic countries. Thereafter, Western countries followed Islamic finance activities. It began in early 1980s in Turkey in the banking sector. This paper reviews the conceptual factors that affect the development of Islamic finance in Turkey from the beginning. It examines the data including asset growth, equity capital, loan funds, bank deposits and profitability of participation banks and the data of capital market instruments. In the light of these data, this study concludes that the changes in law and regulations, the restructuring process and governmental support policies affect the development of Islamic finance in Turkey in two ways: a) through the increasing market share and b)through the entrance of the good variety of instruments to the sector.

Keywords: Islamic finance, Islamic banking, Islamic financial instruments, Turkish financial system, participation banking.

1. Introduction
When the term of “Islamic finance” told, financial transactions performed by muslims and interest-free banking system have primarily come to minds. However, Islamic finance is very comprehensive and covers money management as a life style. There are lots of definitions about Islamic finance and the main point highlighted by all of them is the requirement of fulfillment of the financial transactions in the “Islamic” framework. 
In the 1950s, different political and social factors initiated the faith-based financial practices (Shanmugam and Zahara, 2009: 3). Islamic finance had a rapid growth in 1970s when Islamic countries exporting petroleum gave current account surplus. Several Islamic finance and investment institution founded and many conventional banks opened “Islamic windows” for getting a share from rising new market. In addition, the new structural reforms, liberalization of capital movements in the financial system, customization, and integration of financial markets globally had been supporting the development of Islamic finance (Iqbal, 1997: 42).
Islamic banking emerged as a response to both religious and economic needs. During the global finance crisis, Islamic finance had especially got a great attention with asset-based financial models. Shown in Figure 1, by the end of 2013, it is estimated that the global size of Islamic banking assets reach U.S. $ 1.811 trillion. In this case, comparing to 1.331 trillion dollars’ worth in 2011, the volume of Islamic banking assets' compound growth rate will be 35.75% (Ernst & Young, 2012: 4-8).

 Fig. 1. Global Islamic Banking Assets - Billion $

                                                            Source: The Banker, IIFM, Ernst & Young


Today, Islamic financial assets correspond to 1% of global financial assets. Since 2000, the Islamic financial sector shows a steady growth. It is estimated that this growth will continue. Surveys conducted worldwide, half of the 1.6 billion Muslims may choose Islamic financial models if it can demonstrate a competitive structure against conventional services (Vasseux, 2009: 2). "Maris Strategies" company has calculated the estimated value of global Islamic assets volume as 8.6 trillion $ in 2023 by using the Muslim population, number of Islamic banks and asset volume values belonging to several countries. This is the main reason why most of the Western financial institutions have a great interest to Islamic finance.


2.Islamic Financial Models
Islamic finance is not value-neutral. Rather, it has peculiar set of values (Zaim, 1995). Islamic finance separates from conventional alternative with prohibitions on interest, gharar, games of chance and gambling, extravagance and luxury, trading in illegitimate goods as pork, alcoholic drinks and so on. The purposes of all these prohibitions are to provide the social and economic justice, ensure universal feeling of brotherhood and mutual solidarity, develop free market structure and fair pricing, contribute to the community welfare and distribute capital to all segments of society.
In the Islamic financial system, people and companies can earn money by performing different legal and economic activities in accordance with different circumstances except prohibited activities. In this context, the main funding models applied are classified as follows:

·         Tawarruq is a process that “a buyer purchases a commodity from a seller on a deferred payment and sells the same commodity to a third party on a spot payment to get cash” (Bayındır S., 2012: 156).

·         Quard hasan is defined as “to give a commodity to somebody to utilize than pay back its value/quantity” (Eskicioğlu, 1999: 118). The borrower is obligated to pay back only amount/quantity of borrowing (Shanmugam and Zahari, 2009: 20). Even in case of the extension of the payment, any surplus and compensation couldn’t demand (Iqbal and Molyneux, 2005: XIV).

·         Murabaha is sale with a fixed profit margin over the cost. In murabaha, “a seller has to reveal his cost and the contract takes place at an agreed margin of profit” (Ayub, 2007: 215).

·         Mudarabah is “a special kind of Shirkah (partnership) in which an investor or a group of investors provides capital to an agent or manager who has to trade with it; the profit is shared according to the pre-agreed proportion, while the loss has to be borne exclusively by the investor” (Ayub, 2007: 321). It is a kind of profit and loss sharing.

·         Muskarakah is “a partnership that two or more people participate to equity by a certain amount in condition with sharing profits or loss” (Uçar, 1993: 129).

·         Salam is “a purchase of specified goods for forward payment” (Mirachor and Zaidi, 2007:52). With this way, commodities which will be produced in the future can be sold and its fee can be charged today (Bayındır A., 2007: 145).

·         İstisna’ is “a production contract that the seller produce a certain commodity specified by buyer with his own materials” (www.aaoifi.com ).

·         Ijarah is “the sale of usufruct of an asset” like leasing (Iqbal and Molyneux,2005: xii). The lessor retains the ownership of the asset with all the rights and the responsibilities.

·         Müzâraa is “a partnership that one side share the land and other side share the labor than tey share the harvest by a certain rate” (Döndüren, 2005: 441).

·         Müsâkat: “is “a partnership that one side share the vineyards and orchards and other side share the labor than tey share the harvest by a certain rate” (Döndüren, 2005: 441).

·         Sukuk is “a freely tradeable Islamic participation certificate based on the ownership and exchange of an approved asset” (Hassan and Lewis, 2007: xviii).

·         Takaful is “an alternative for the contemporary insurance contract. A group of persons agree to share certain risk (for example, damage by fire) by collecting a specified sum from each. In case of loss to anyone of the group, the loss is met from the collected funds” (Obaidullah, 2008: 60).

People and institutions can use these financial models in according with their activities and needs. Using with this models, Islamic finance has been deeping and expanding.
3.The Development of Islamic Finance in Turkey
Islamic banking developed over traditional banking in the last quarter. Especially during the global financial crisis, Islamic finance loomed large because of relation with real economy and avoidance from excessive risk, uncertainty and speculative activities.    
As seen Figure1 and Figure 2, Islamic banks' branches and staff numbers have shown a steady increase over the years in Turkey. They have been trying to meet the growing demand.

Fig. 1. Numbers of Brances of Turkish Islamic Banks
Source: PBAT (Participation Banks Association of Turkey)

Fig. 2. Numbers of Staff of Turkish Islamic Banks

Source: PBAT (Participation Banks Association of Turkey)

Total asset development which is one of the most important indicators in the banking sector represents a very positive outlook in terms of Islamic banks. From the early years it tends to rise however, in 2001 banking sector crisis caused small decrease in total assets. As can be seen from Figures 3 and 4, since 2002 annual total assets of Islamic banks increased by % 34,4 by average from day to day. Additionally share from the sector is also increasing.

Fig. 3. Turkish Islamic Banks’ Total Assets (Million New TL)
Source: PBAT (Participation Banks Association of Turkey)

Fig. 4. Turkish Islamic Banks’ Total Asset Share in the Sector
Source: PBAT (Participation Banks Association of Turkey)

 Deposits had been a steady increase until 2012. In 2012, as a late reflection of the global crisis, deposits had a decline of 27% as seen from the Figure 5. The sector's 13 years average annual growth rate since 2000 is 28%.  As seen in Figure 6, the share of total banking share since 2001 which has the lowest rate showed an average annual growth of 10.5% and reached 6.5% in 2013.

Fig. 5. Turkish Islamic Banks’ Total Deposits (Million New TL)
Source: PBAT (Participation Banks Association of Turkey)

Fig. 6. Turkish Islamic Banks’ Total Deposits Share in the Sector
Source: PBAT (Participation Banks Association of Turkey)

 Islamic banks in terms of loan funds have been overcome the crisis in 2001 by the next year’s growth rate of %95. Since 2000, the average annual growth rate for the 13 years is 37%. This increase rate seems to be slowdown since 2010.  Sector's share has remained the parallel and has reached 6.20% in 2013.

Fig. 7. Turkish Islamic Banks’ Loan Funds (Million New TL)
Source: PBAT (Participation Banks Association of Turkey)

Fig. 8. Turkish Islamic Banks’ Loan Funds Share in the Sector

Source: PBAT (Participation Banks Association of Turkey)

Islamic banks in Turkey increased their equity from year to year just like the other indicators. Since 2000 the average rate of increase is 38%. Until 2008 average increase rate of equity has been 50%, and this rate decreased to yearly average rate of 18% after 2009. As shown in Figure 10, sector’s share fluctuates from year to year. However, yearly average increase rate is 10%.

Fig. 9. Turkish Islamic Banks’ Equity Funds (Million New TL)

Source: PBAT (Participation Banks Association of Turkey

Fig. 10. Turkish Islamic Banks’ Loan Funds Share in the Sector

Source: PBAT (Participation Banks Association of Turkey)

Profitability values of Islamic banks increase from year to year and this can been seen in Figure 11. It is interesting to see that the profitability rate from the sector reached its peak by the 5.46% during the emergence of 2008 global financial crisis. After this period, sector share shows fluctuations and this is demonstrated in Figure 12.

Fig. 11. Turkish Islamic Banks’ Profit Amount (Million New TL)
Source: PBAT (Participation Banks Association of Turkey

Fig. 12. Turkish Islamic Banks’ Profit Share in the Sector

Source: PBAT (Participation Banks Association of Turkey)

In this chapter, the development of Turkish Islamic banks has been revealed from the beginning. The next part will consist of the factors affecting this development and they will deeply be discussed.
4. Factors Effecting The Development of Islamic Finance in Turkey

The development of Islamic finance in Turkey is actually the same as in the world. In 1976, many Islamic countries scientists including Turkey participated to the 1st International Islamic Economics Conference, in which the subject was held for the first time in a comprehensive manner at international level in Mecca, and they had a chance to know and interact with each other. Following the conference In 1978, The Islamic countries Statistical, Economic and Social Training and Research Center (SESTRIC), linked with Organization of Islamic Cooperation, was founded in Ankara. Turkey has also assumed the presidency of Committee on Economic and Commercial Cooperation of the Organization of Islamic Cooperation.

a)    The Changes in Law and Regulations
1980s is a period of increasing efforts to add greater depth to the Turkish financial system and monitoring liberalization and opening-up policy. The most important step related to the development of Islamic finance is the decision of foundation of "Private Finance Institutions". Özal government wanted to make an initiative to transfer idle funds to the system that cannot be contributed to the economy because of belief requirements. Banks law was not suitable for such situation a decree was issued and private financial institutions have led to the realization. (Pakdemirli, 2000: 19).
in 1984, Albaraka Turk Private Finance House Inc. and Faisal Finance House Inc. were initially founded. By the completion of arrangements, they started to operate in 1985. In 1988, the Turkish Kuwait Awqaf Private Financial House, in 1991, Anadolu Finance House, in 1995 Ihlas Finance House and in 1996 Asian Finance House founded and began operations.
in 1996, private financial institutions went into a cooperation and "Special Finance Houses Association" (Finance-Bir) was established. Thus, it has decided to act jointly in communicating the experienced sectoral problems to the competent authorities. In 1999, private financial institutions were included into the Bank Act with the change of related laws.
In 2001, rapidly growing Ihlas financial institution’s operating permission has been removed after the determination of the unregulated use of collected funds. Ihlas finance gone into liquidation has not been able to pay off customer deposits for years because at that time, there was no insurance fund for special financial institutions. These unfavourable events affected all private financial institutions and most of the depositors tended to withdraw their money from others in the sector. in the face of these developments, Finans-Bir called for a request to the Institution of Supervision and Regulation of Banks (BDDK) to establish an assurance system for special financial institutions same as established for deposit banks (the Savings Deposit Insurance Fund). The application was admitted with positive result. in 2002, “Special Finance Institutions Current and Profit Sharing Account Guarantee Fund” has been established. With this assurance provided to the private financial institutions, the sector has entered into a recovery process.
b)    The Restructuring Process
The banking system can reach a limited stage with only domestic customers, it is needed to launch to the international arena. This was true also for private financial institutions. They reached a certain level of awareness in Turkey. But, there was a difficulty to introduce and explain the special financial institutions to customer in the global market.  Similar institutions in the world that used the same principles and methods were named as "interest-free bank" or "Islamic banks". "Special Financial Institution" phrase was perceived as a brokerage or intermediation firm. Finally, in 2005, private financial institutions were decided to change their name as "participation banks". With the name of participation bank, it became clearer that their main activity is banking. The word ‘bank’ has contributed more effective in solving identity problem in national and international financial environment. The word ‘participation’ is stated the operations based on the participation to profit and loss (Uyan, 2005: 2).
Player in the sector also chanced in 2005. Family Finance House and Anadolu Finance House decided to merger in the name by “Turkish Finance Participation Bank”. Ever since, there are 4 Islamic banks in the sector.
c)     Governmental Support Policies
Islamic finance had developed in the banking side for a long time. By the new government’s support since 2001, Islamic finance has deepened and new instruments have entered the system. In 2008, “participation index” was created in The Istanbul Stock Exchange National Market. This index follows the stocks compliant to Islamic principles. In 2009, “revenue indexed bonds” was issued by the Treasury. But, various discussions emerged about the legitimacy of these bounds. Also the same year, an action plan has been created in the framework of “Istanbul International Financial Centre Strategy and Action Plan”. This action covered to develop the infrastructure about interest-free instruments and had a legal basis to actions in this area.
In 2010, the government regulated the basis of ijarah sukuk named by rental certificate. In 2011, tax exemptions were regulated to these certificates as conventional bonds. But some problems occured in the practices. So, in 2013, the government issued a new law and regulated 5 different kinds of sukuk.
In 2011, the law given opportunity to takaful opetaions issued. The most attractive step was taken by the government in 2013. The permission has given to public conventional banks to open Islamic subsidiaries. In addition, "World Bank Global Islamic Finance Development Centre" was opened at Istanbul Stock Exchange. All of these supports effects the development of Islamic finance in Turkey one of the countries has the highest potential.
5. Conclusions
Islamic finance had a rapid growth in 1970s when Islamic countries exporting petroleum gave current account surplus. Several Islamic finance and investment institution founded and many conventional banks opened “Islamic windows” for getting a share from rising new market. The development of Islamic finance in Turkey is actually the same as in the world. It had developed slowly in the beginning. But by the new government’s support since 2001, the development has gathered speed. With this support, the changes in law and regulations and the restructuring process effect the development of Islamic finance in Turkey in two ways: a) through the increasing market share and b) through the entrance of the good variety of instruments to the sector. The new steps are taken to get a big share from global Islamic finance market.

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 Acknowledgements

I am pleased to extend greetings Prof.Dr. Osman Okka from KTO Karatay University-Turkey. Prof.Dr.Raif Parlakkaya from Necmettin Erbakan University-Turkey and Assoc.Prof.Dr. Mikail Altan from Selcuk University-Turkey  and to Participation Banks Association of Turkey for data.