The Islamic Development Bank has met with the Asian Infrastructure Investment Bank (AIIB) to discuss the use of Islamic finance in the workings of the AIIB for Muslim and non-Muslim member countries. Of particular importance is the use of Sukuk (Islamic bond) products as a means of structuring investment into infrastructure development, as Sukuk have been recognized by the conventional financial sector as a successful financing structure for large-scale infrastructure projects.
Islamic finance as an industry is not isolated from the politics of the international economy and the establishment of the AIIB will inevitably affect significant segments of the global Muslim population in the coming decades. More importantly, the current 57 members represent over 1 billion Muslims with a disperse group of countries ranging from Indonesia, Iran, Saudi Arabia, Turkey, Pakistan, Uzbekistan, India and Egypt; suggesting Islamic Finance may well find a prominent role in the AIIB.
What is the AIIB?
The Asian Infrastructure Investment Bank (AIIB) was proposed in 2014 by the Government of China as an institution to fuel infrastructure investment for Asian countries. It has garnered more attention in the past few months as an increasing number of non-Asian countries have signed a Memorandum of Understanding to become Prospective Founding Members when the institution launches at the end of the year. These countries include Brazil, France, Germany, South Africa, and even the United Kingdom.
The significance of the AIIB as an institution is that it provides an alternative to the American led International Monetary Fund, World Bank, and World Trade Organization (collectively known as the Bretton Woods institutions), developed after the Second World War and which have been fundamental in shaping the current system of global trade.
US hegemony under threat?
The AIIB signifies the shift of global economic balance towards Asia led by China, whose economy is larger than the United States in Purchasing Power Parity. The organization seeks to address the financing needs to the fast developing Asia region. More importantly it seeks to address the lack of representation of Asian countries within the voting structure of its American led predecessor the Asian Development Bank (ADB).
The current voting structure of the ADB heavily favours the European Union (15.71%), Japan (12.83%) and the United States (12.74%). BRICS nations are disproportionately under-represented in their voting shares in comparison to their global economic standing; China (5.47%) and India (5.38%).
However, the voting structure for the AIIB has not been announced yet. Given that China is the founding member the organization should reflect proportionate interests of the global south and provide a counterweight to the Bretton Woods system. The United States and its ally Japan both have not signed to become Permanent Founding Members (PFM) of the AIIB, with commentators describing this as a symbolic gesture of defiance against the new organization.
Desertion in the ranks
The most public controversy of the AIIB occurred in March 2015 when the United Kingdom signed the MOU to become a Permanent Founding Member (PFM) of the AIIB, a move that the US government initially condemned claiming the UK government did not consult with the US prior to signing the MOU. President Barack Obama later commented that the AIIB “…could be a positive thing. But if it’s not run well, then it could be a negative thing.”
Nobel laureate economist Joseph Stiglitz has argued that the AIIB along with the New Development Bank is a new attempt to ‘mulitlateralise’ flows of assistance to developing countries that can positively impact global development by providing an alternative to the Bretton Woods institutions. Rather than viewing the AIIB as an erosion of American hegemony it should be seen as providing an alternative institution for many developing countries seeking to gain fairer terms of agreements from their lenders.
Islamic finance in AIIB
Given that there is a larger number of Muslims in Asia, Islamic finance is likely to see a greater role as a legitimate financing option in the AIIB. After the Global financial crisis in 2008, the effects of which are still felt today, the Islamic finance industry entered into the mainstream as an alternative lender for infrastructure products.
Islamic banks were not as exposed as conventional banks to the negative effects of the derivatives markets and sub-prime mortgages as a result of the prohibition of purchasing debt under the Sharia. Furthermore, the requirement that investment must be in tangible assets, or the ‘real economy’, means that debt is incapable of outgrowing the size of the economy. All this has resulted in Islamic finance becoming a proven and useful financing tool for developing countries to raise funds for much needed infrastructure investments.
The Islamic Development Bank is now in discussion with the AIIB to study the use of Islamic financing for its member countries. If the AIIB were to include Islamic finance within its mandate it would provide many Muslim majority countries the ability to access funding and to align economic and political interests at a multi-lateral institution spanning the global south.