Islamic Banking Growth in Bangladesh Stalls: Fitch Report

The Islamic banking market in Bangladesh is facing significant liquidity challenges, making it more vulnerable compared to its conventional counterparts. According to the latest report by Fitch Ratings, this sector, although sizeable, has seen stagnation in recent years. As of the end of 2023, Islamic banks held 25.3% of industry deposits and 28.9% of industry financing, slightly down from the previous year.

Liquidity Issues In the Islamic Banking Market

Islamic banks in Bangladesh have struggled with liquidity, as highlighted by the drastic drop in their liquidity coverage ratio (LCR). By the end of the third quarter of 2023, the LCR had plummeted to 58.7%, well below the regulatory requirement of 100% and the industry average of 154.6%. This decline is attributed to several factors, including deposit flight, governance issues, and more lenient prudential requirements for Islamic banks.

Stabilization Efforts

Despite these challenges, there are signs of potential stabilization. Fitch Ratings notes that liquidity profiles may improve in 2024 and 2025, supported by central bank initiatives like the Islamic Bank Liquidity Facility and Mudarabah Liquidity Support. These measures are designed to bolster the liquidity of Islamic banks and cater to the persistent demand for Sharia-compliant deposit products.

Market Dynamics

The market dynamics for Islamic banking in Bangladesh are influenced by the sector’s significant share of the domestic banking market. With Bangladesh holding the eighth-largest Islamic banking market globally by the end of 2022, total assets were valued at approximately $45.3 billion. The Islamic banking market share, in terms of industry loans, rose to 29.1% by mid-2023, up from 28.5% a year earlier.

Regulatory and Structural Challenges

The Islamic banking sector continues to grapple with key structural challenges. There is a noticeable lack of Shariah-compliant investment options, including sukuk, which hampers liquidity management. Furthermore, gaps in human capital development and an outdated Islamic finance regulatory framework pose additional hurdles.

Bangladesh’s Islamic finance industry holds significant untapped potential, with 62% of the population unbanked, according to World Bank data from 2021. This presents an opportunity for growth, especially with conventional banks expanding their Islamic banking windows and branches to meet rising demand. Islamic banks’ deposit growth has slowed, but central bank support and public interest in Islamic financial products suggest a positive outlook for the sector.

The Islamic banking market in Bangladesh is at a critical juncture. While it faces considerable liquidity and regulatory challenges, efforts by the central bank and the inherent demand for Sharia-compliant products offer a path to stabilization and growth. Continuous improvement in governance standards and the development of more Islamic liquidity management instruments will be crucial for the sector’s future resilience and expansion.