'Islamic' bonds draft law ignites controversy

Ahram Online investigates Morsi government's first major Islamic finance initiative, which supporters say could boost Egypt's economy

A recent draft law that would allow Egypt's finance ministry and state-run administrative bodies to issue Islamic bonds (sukuk) that are in compliance with Islamic sharia has stirred controversy.
Opposition figures have criticised the move, and Al-Azhar University, Egypt's Sunni religious authority, has also contested it. Proponents, however, argue that it has the potential to save Egypt's faltering economy.
Islamic bonds are a financial tool in the form of deeds that represent the value of a public asset owned by the state or a private entity.
"The term ‘Islamic' implies that the bonds would be compliant with Islamic sharia and that revenues will not be linked to interest rates but rather to company profit margins," professor of finance at the Canadian University in Cairo, Doha Abdul Hamid, told Ahram Online.
"The main advantage is that growth would be achieved without burdening the state, as the public budget would not be affected."
Under the proposed system, investors would buy bonds to finance a specific project and shares the profits and losses. Each bond contract will specify the terms of sharing the fruits (or the losses) of the venture.
"There are types of sukuk that are very similar to regular equity stocks, and others that are similar to regular debt bonds," Omar El-Shenety, economist at the Cairo-based House of Wisdom for Strategic Studies told Ahram Online.
The draft law allows for different types of sukuk including 'mudaraba', or bonds based on equity partnerships, which entitle the investor to a proportion of the profits.
Another type is murabha, where investors pay the cost of an asset inexchange for an agreed-upon profit margin. The bill would also allow for sukuk 'ijara' which are lease-based, implying that the bondholders are owners of the asset and are entitled to receive revenues when the asset is leased.
“A main difference between regular financing and sukuk is that the latter must be tied to a specific project or asset that needs to be financed,” El-Shenety explains.
Regular bonds, on the contrary, are always profitable for their owners as the issuer is obliged to repay bondholders with the amount they have previously credited, and holders benefit from yearly interest unrelated to the company's profit rates.
Islamic bonds, however, imply that bondholders are not guaranteed to get returns on their bond holdings.
Issuing governmental bonds is widely practiced worldwide and considered advantageous on the macro-level, as the profit generated is divided among the community of bondholders and thus a percentage of state capital is absorbed into the market, which consequently trims down monetary demands and price inflation.
The draft law which was presented to Al-Azhar states that bonds would be sold through public offering and traded in the stock market.
"The idea of bonds is not new, and does not necessarily have an Islamic frame of reference, as it is currently practised in Japan, the Czech Republic and Russia", Abd El-Moneim Said, director of Al-Ahram Center for Political and Strategic Studies in Cairo commented in an article entitled "Islamic Bonds and the new Constitution."
Controversial bill
The sukuk, which would, according to the Egyptian government, help finance the country's growing budget deficit, are considered by some to be the first serious step to promote Islamic financial practices since President Mohamed Morsi came to power.
Members of the Islamic Research Academy, an institute affiliated with Al-Azhar, previously said they rejected the bill on Islamic bonds mainly because it "affected state sovereignty" and was non-compliant with sharia practices.
"We are worried that the draft law could allow foreigners to own key strategic assets; in addition that the way the law was drafted indirectly allows usury," Al-Azhar Grand Sheikh Ahmed El-Tayyeb said in a press statement commenting on the draft law.
While some observers were appalled that a religious institute had a say in purely financial matters, Islamist forces blame the former finance minister, a seasoned bureaucrat, for the current rejection of the first Islamic bonds bill.
Islamist forces endorsing the draft law, including the ruling Freedom and Justice Party (FJP) and the Salafist Nour Party, blamed the cabinet and ex-finance minister Momtaz El-Said's administration for the rejection of the bill, and the media for stirring controversy around the proposal.
"Ex-minister Momtaz El-Said and his team did not have sufficient expertise in the area of Islamic financing; the draft law they presented had many technical fallacies and was absolutely different from what was previously agreed with Al-Azhar ,” Ayman Farouk, Islamic finance expert and ex-member of the Salafist Nour Party told Ahram Online.
"The media unfortunately played a shameful role as they distorted the concept of Islamic bonds and propagated falsified information such as that Islamic bonds would lead to the loss of strategic assets such as the Suez Canal," said Abd El-Hafez El-Sawy, member of the FJP's finance committee.
Newly-appointed finance minister El-Morsi Hegazy, a professor of Islamic finance, announced shortly after he assumed office last week that the draft law on Islamic bonds would be amended and he expected the bill to be approved by Al-Azhar soon.
Similar proposals under Mubarak
Bonds were previously proposed in Egypt in 2010 by the ex-minister of investment Mahmoud Mohieldin under the name of "popular bonds" as a method to get rid of the burdensome and "inefficient" public sector companies.
Mohieldin's initiative planned to set up a bonds market to mobilise savings and convert them into investments, with the same official aim of stimulating growth and curbing budget deficit as the proposed "Islamic bonds."
"Popular bonds" were widely criticised at the time because they were perceived as transferring public ownership of strategic assets to potential foreign investors.
"Mohieldin's project is in essence very similar to the proposed bill by the FJP; the only difference as it is allegedly compliant with Islamic sharia, in the sense that issued bonds will not involve projects that would involve religiously illegitimate activities", Ahmed Ghoneim, professor of economics at Cairo University told Ahram Online.
Islamist forces have repeatedly rejected the comparison between Mohieldin's initiative and the recently proposed sukuk bill.
"Our bill has nothing to do with Mohieldin's popular bonds; the ex-regime aimed at privatising what is public, while Islamic bonds aims at protecting state assets and promoting communal support for the Egyptian economy," Abdallah Shehata, head of the economic committee of the FJP, told Ahram Online.
"This kind of criticism is purely political and has no economic backing," said Islamic finance expert Ayman Farouk.
Malaysia started to issue sukuk in 2001; the bonds are sold to individual investors and are traded on the local stock exchange. Malysian and international investors are able to buy and sell bonds through the over-the-counter (OTC) market and without governmental monitoring.
The bond market in Malysia constituted almost 40 per cent of the total market size in 2011.
"The main reason behind the Malaysian economy's boom, and it being on the way to becoming one of the world's strongest emerging economies, is its successful 'sukuk' experience. Egypt needs to learn from this experience," Abd El-Hafez El-Sawy, member of the FJP's finance committee, told Ahram Online.
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