The banking sector plays a vital role ingrowth-supporting factor for economic growth in the developing countries’economies like Ethiopia. Recently, Interest free banking has become anincreasingly popular method for alleviating poverty, financial inclusion andeconomic development around the world. Its importance is highly needed indeveloping countries such as Ethiopia.TheBanking industry in Ethiopia has been operating in the country for over acentury but interest-free banking had never been practiced even though around a third of Ethiopiansidentify as Muslim. They had been excluded themselves from dealing with conventionalbanking activities due to its acceptability of interest.The idea of creatingan infrastructure to support Islamic banking in Ethiopia has gained moresupport in recent years though, and in 2008, a proclamation and in2011,directives, by theNational Bank of Ethiopia (NBE);there is now flexibility for conventional banks toestablish Islamic banking windows and launch Islamic financial products.
Recently, many conventional banks likeAbay Bank, Commercial bank of Ethiopia,Cooperative Bank of Oromia, Enat Bank, Nib International Bank, Oromia international bank, United Bank and WegagenBankhave started using Interest freebanking transactions, tools and techniques in their banking operations.Allthese are really encouraging and motivating for the Banking industry as awhole, particularly interest free banking since about 78% ofadult populationdoes not have access to formal banking because of either unavailability offormal banking framework or paying or receivinginterest prohibited in the religious or other social ethos. However, theInterest free banks and Interest free banking system, like any other system,has to be seen as an evolving reality and it is facing a lot of issues andchallenges in its steady journey towards the lofty goal of capturing the lion?sshare of the banking services industry. Islamic windowsallowed conventional banks to offer Islamic services directly from theirexisting network; bypassing the cost and overhead associated with setup ofseparate Islamic operations. However, they are facing some criticism with a sense of suspicion among the Islamicscholars and the Islamic banking clients on the authenticity, clearance of monitory system, etc.Somescholarsargue thatconventional banks should not be permissible to open Islamic windows,as their sources for fund is unlawful.
Hence they are not complying with Shariah at first place exploiting the Musliminvestors and unfairly competing with Islamic institutions.On the other hand, there is a group ofcontemporary scholars who permit this type of banking service as long as thesharia conditions laid down for them are satisfied and fulfill certain requiredconditions such as: complete segregation of funds; the existence of a Shariasupervisory board; management committed to Islamic financial concepts; safeguardingMuslim investors’ funds from negligence, trespass, and fraud; and compliancewith the standards of the Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI).Besides, Islamic banking is a system but not a religiousinstitute, so it can provide banking services to the non-Muslim clients (Zainulet al., 2008).Many Islamic bankingclientsalsobelieve that conventional banksare involved in immoral – from an Islamic Sharia point of view. Hence,there isstill a sense of suspicion and mistrust amongst the majority of Islamic bankingclients with regards to these “Islamic windows” and their Islamic products.
Thisexplains the reluctance from numerous Islamic banking clients to deal withIslamic windows and their financial products.The most essential element ofan Islamic window is that all of its operations are in strict compliance withShariah. Proper Shariah compliance is a matter of great concern in the windows.So that,it is very important for the management of Islamic banking to ensure thatall the transactions and products of Islamic banking are accordance to theprinciples of Shari’ahat all timesand at all cost.
This is due to the fact that Shari’ahrequirements are the backbone of Islamic banking which isto adhere to. Moreover,according to experts, the formation of Islamic banking underthe bank is like forming a new bank, because the service provided is quiteseparate from the conventional banking system. It is not like launching oneservice under the bank. It means forming an additional independent financialinstitution under the bank; therefore, it needs more preparation and adifferent and separate office that operates the interest-free banking. So that,conventionalbanks established separate divisions within, namely Islamic Banking Divisionsunder which Islamic windows were opened. These divisions are independent andappointed religious bodies (Sharia Supervisory Committees) supervise theiroperations and authorise and inspect their financial products. They alsohave their own principles, tools andtechniques of operation. Therefore, the funds of Islamic banking windows arekept separate from those funds, which have not been mobilised by followingSharia provisions.
The funds mobilised through Islamic windows are notcommingled with the funds of the deposits mobilised through conventionalbranches. This is done through maintaining separate accounts, books, andrecords and this compliance is disclosed to the customers through annualreports, prospectuses, websites and other promotional materials. Conforming tothese standards will help Islamic windows avoid confusion, misunderstanding andambiguity and ensure clarity and sound Islamic banking practices.A significant amount of theoretical and empirical research onIslamic banks has been undertaken throughout the world.
Itis the conclusion of many studies ( Sanusi, 2011; Iqbal et al. 1998; Dusuki andAboizaid, 2007;Malik et al. 2011; Ariss and Sarieddine, 2007; Njamike, 2010;and Iqbal, 2001) that the establishment of Islamic banking in any country be itMuslim or non-Muslim faces a number of challenges. These challengescould be institutional or operational, but they are not without remedies.
Institutional challenges are those challenges that are unique to Islamicbanking institutions such asinappropriateinstitutional framework, inadequate legal framework, lack of equityinstitutions, poor supervisory framework, disparity in accountingstandard, lack of secondary financialmarkets and lack of short-term financialinstruments andwhile the operational challenges are those challengesconfronting the operations of Islamic banking.Which is in the form of religiousand cultural differences, lack ofinnovations in financial products, lack of profit sharing finance, Sharia’hrelated issues, inadequate manpower with the requisite knowledge, lack ofawareness and competition. Moreover, studies in literaturehighlighted many challenges and barriers to a successful CB conversion into andIslamic bank model.
Majority of studies (e.g., Alani, 2012; Al-Oqool, 2011; Al-Atyat, 2007; Mustafa, 2006; Al-Martan, 1999) evidenced thathuman resources, regulations and legislation, shari’ah compliance and Islamicbanking products are the major barriers that affect the CBs conversion toIslamic banks. Added to this, factors that determine successful conversioninclude resistance to conversion and leadership rule. The challenges is compounded by thefact that the environment in Ethiopia differs from that of other Middle Easternand GCC countries, even some African countries such as Kenya….in that Ethiopiadoes not have ample experienced in dealing with IFB. In other words, the IFB isa new event in Ethiopia as Evidenced by only conventional banks offeringinterest free banking products and services along with conventional products inthe past seven years.
Therefore, the practices and operations of IFB is a processriddled with obstacles and challenges that are distinct from other countriesthat have been pioneers in applying Islamic banking system for the past fivedecades or more. In the context of Ethiopia, the information on the practicesand challenges of interest free banking and findings on different issues ofinterest free banking have been made available through limited researchactivities only in recent years. For example,Debebe(2015) in hisstudy entitled as Factors Affecting Customers? to Use Interest Free Banking inEthiopia showed that perceivedrelative advantage, perceived compatibility, customers’ level of awareness andsubjective norm have a significant positive impact on the attitude towardsinterest free banking in commercial bank of Ethiopia. Also, Teferi(2015),inhis study entitled asContributionof IFB to economic development and its prospects in Ethiopia.
IFB plays a vitalrole inidle monetary resource mobilization and allocation, inviting to usebanking system, creating employment opportunity, supporting GDP growth andassisting in stabilizing crisis and arresting inflation. Moreover,IFB is deemedto play an integral role in Ethiopia in catalyzing the economic developmentsubject to adequate awareness creation about its governing principles,compliance with prohibitions, familiarity with operating philosophies,expertise capacity building of operators-bankers, experience sharing fromIslamic banking-pioneering countries, and devising enabling regulatoryenvironment.Moreover, studies on Challenges ofInterest free banking in Ethiopia. Majority of studies (e.
g., Mohamed, 2012;Kerima, 2016; Akmel, 2015; MercyC., 2014) evidenced that lackof bench mark and frame work for IFB products, lack of sharia Supervisoryboard, inadequate public awareness, andinadequate human resource are the major challenges of banks which has beentaken as the case study.Since the concept of Islamic windows byconventional banking is new, there is deficiency in literature especially inthe context of Ethiopia. Identifying existing and possible challenges andissues will be beneficiary for the development of the service as an industryand lesson for banks currently offering the service and those banks intended tooffer the service in the future. To the best of my knowledge, thisstudy provides the first empirical analysis of the practices and challenges ofinterest free banking in Ethiopia, particular reference to interest freewindowsof the commercial banks, Unlike previous studies, which either focuses on thechallenges and prospect of establishing full-fledged Islamic banking orchallenges of customer using IBF or case study on the challenges of IFBparticular conventional bank.
This studywills an attempt to know the issues,challenges, and role of Islamic windows managed by conventional banks in Ethiopiaand to evaluate them critically.