The Islamic Approach in KSA Markets


Several financial institutions including commercial banks, investment banks, insurance companies, lending institutions among others, characterize the Islamic world. Although Islamic financial institutions had earlier provided similar products and services like those offered by conventional banks in western countries and other regions, currently, Islamic banks and other monetary institutions are providing differentiated products.

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Nevertheless, it is confirmed from a variety of sources that Islamic monetary institutions, including investment banks and commercial banks, are operating in a good number of non-Islamic countries including the United States. For instance, a University Bank, which is located in Michigan, is alleged to operate its activities under the Shariah Law. Currently, about US$900 billion of assets are under the control of Islamic economies. The US $900 billion is estimated at 0.5% of the world’s total assets. This percentage is a clear indication that Islamic laws and regulations guide about 320 financial institutions around the world.

According to the opinions of various scholars, it is estimated that Islamic financial institutions will grow at a rate of 14% per year in the future. Moreover, the performance will tend to either persist at that level or surpass it in the future. Such growth rate signifies that Islamic financial institutions are perhaps the fastest-growing institutions among other monetary institutions in other non-Islamic regions. According to various advisors and financial market experts, conservative Islamic financial institutions will serve as a healing factor amongst the ailing financial markets elsewhere in the world. To some degree, this belief appears to be true given the fact that financial crises have often occurred in the US and European financial markets. For a long time, Arab countries have remained stable, although they have experienced some consequences resulting from the global financial crisis.

The Middle East and Shariah Law

The Islamic community portrays several characteristics in its financial institutions as compared to its counterparts in the western countries and other regions. Islamic law, commonly known as Shariah Law, guides all financial institutions in Islamic economies. The majority of Islamic financial institutions have been discovered to comply with principles and regulations stipulated by the Shariah Law. The most distinguishing factor in this law is its strong stance about paying interest rates.

The interest rates are either fixed or floating. A floating exchange rate is one that changes in response to changes in several factors such as capital base, inflation rate, or changes in regulations and laws governing the financial institutions. The Islamic populace regards the interest rate as Riba. According to them, Riba is anything that is paid above the amount loaned to any individual or institution. The Shariah is also strict to individuals or institutions tending to invest in a business prohibited by the acts enacted by the Shariah.

Such individuals face law by being imprisoned for a certain period, according to the level of offense committed. However, the law also provides other kinds of punishments. Generally, practices prohibited by Shariah acts are commonly recognized as Haraam. Both private and public institutions comply with these regulations in their own operating capacities.

Islamic Financial Markets

The Islamic world is amongst the regions with the highest population in the world. Its population is estimated at 20%, which is approximately a fifth of the world’s population. Profits in monetary markets were more attractive during the 1980s and 1990s. Between 1981 and 1990, statisticians estimated that returns in the financial sector averaged between 16% and 19%. However, there was a slight drop from the year 1991 to 2000 since the returns averaged between 11% and 14% (Barbara, 2005). This had discouraged several investors in Islamic financial markets forcing most investors to switch to other attractive investments. However, a good number of investors remained in the market hoping that returns will appreciate in the future.

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Although the Islamic financial market is dominated by Islamic based banks, which operate by Shariah law, several foreign institutions also characterize the market. Amongst the banks based in the Islamic market includes Standard Chartered, Citibank, Hong Kong, and Shanghai Banking Corporation, ABN Amro Bank, among others. A number of these banks do not entirely comply with Shariah Law. In case of compliance, the institution will be doing so for-profit purposes and not for spiritual interests.

Changes in the Islamic financial sector between 1970 and 2010

In the 1970s, the financial market had several commercial banks. Commercial banks provided a variety of services to their customers including fixed deposit accounts, savings accounts, and current accounts. All accounts operated in line with the Shariah law. In the 1980s, the Islamic financial market expanded from the commercial banking sector to include project finance and syndications. Equity and Ijarah part entered the market in the 1990s.

Equity dealt with sales and the purchase of equity shares. Shares included those of preferred and ordinary shareholders. Ijarah on the other hand dealt with the leasing of properties. Several real assets were leased to various individuals and institutional investors at a fee. Sukuk and structured institutions found their ways into the market the following decade. Sukuk, as referred to by the Islamic community, meant trading of corporate bonds in the financial markets. Long-term bonds were chiefly traded in capital markets while short-term bonds were issued at money markets (French, McNayr, & Escher, 2010). Additional liquidity management tools characterized the 2000 and 2010 in the financial market.

Current Islamic financial products


This is an asset-based product where a financial institution buys a commodity and later sells it at a higher price to the user. The higher price charged on the commodity is a justification of profit inclusion. The client normally agrees to pay the goods over a specified period in form of installments or as per the agreed terms. In a situation where a customer defaults to pay the agreed amount within the established period, he or she will not be charged anything above the agreed price. The contracted price is the amount he will be liable to pay.


Mudaraba is also an asset-based instrument. Mudaraba is a liability-based asset that relates to the contract existing between two or more parties. This contract is carried out by two parties where one party gives the entire capital for a given investment project. The other party is charged with the responsibility of controlling the project. In case of a loss accrual, the provider of the capital is the one that exclusively suffers the loss.

However, if the project generates profit, both the project manager and the financier of the project share the profit at a predetermined proportion, relative to the actual income generated. About Islamic banking, investors frequently provide funds to the bank where each investor provides a certain management fee. The bank later invests the amount provided by investors on some projects that promise high returns.


A bank purchases and leases out assets at a predetermined fee. The rental fee includes both capital costs and profits. The equipment is transferred to the lessee who agrees to use the property for a specified period upon which he or she will surrender the property to the lesser bank. However, during the period upon which the leaseholder uses the property, ownership remains with the lesser. Various equipment is leased either on finance or on an operating lease basis. The leasing of equipment is practiced regularly in the airline industry. The housing sector in the Islamic world also practices finance and operating lease.

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With this financial product, a bank agrees to come up with a certain product that is within the requirements provided, such as time horizon and specifications. The product is later delivered at a predetermined date and price. Considering that banks do not specialize in manufacturing, it is no doubt that a bank will contract one of the firms specialized in manufacturing the proposed product. Normally, a bank charges a specific price, which includes the amount of money charged by the manufacturer and a marginal profit. A fee is charged above the product price bearing in mind that the bank takes a risk of manufacturing assets.


This is an approach adopted by the bank in lending cash to individuals and other institutions. In this situation, a client purchases a certain commodity from a bank and then sells to a third party on cash but at a cheap price as compared to the purchasing price. As a result, the customer will be obtaining cash without taking a loan that is generally provided at a specified interest rate.


Musharakah is another financial approach where parties contribute funds to a certain business and later on manage its affairs jointly. The net profits are always shared on some predetermined ratios. However, losses are shared based on the proportion of capital contribution. Although contributions are made in cash, at times, the management considers paying in kind.


The Sukuk market is estimated at the US $80 billion worldwide. This makes it one of the influential markets at the international level. Sukuks are similar to ordinary bonds although assets back them. They always represent ownership of a certain value generated by the basic asset (Sherifa, 2005). Therefore, a Sukuk holder is entitled to a claim at a given ratio of value generated by an underlying asset.


This is a form of insurance where individuals contribute funds to a common pool from which they jointly provide and assist group members. Members always cooperate and take responsibilities on a mutual basis. Policyholders normally pay a given amount of subscription fee to assist members who are in need. Presently, the market for Takaful stands at US$ 5 billion.

Comparison between conventional and Islamic financial sectors

A comparison between non-Islamic and Islamic financial sector will give an exceptional impression of major differences and future trends displayed by these markets. It will therefore give an in-depth understanding of the Islamic financial sector. The research was done in GCC and Malaysia to give a good representation of both conventional and Islamic financial institutions.

Banking assets and deposits

In 2002, conventional assets were estimated at US$486.2 billion while Islamic assets were estimated at US$56.4 billion. By the end of 2005, conventional assets stood at US$678.2 billion whilst Islamic assets were evaluated at US$103 billion. Conventional assets represented a growth of 11.7% while conventional assets grew by 22.3%.

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Deposits for conventional banks were US$369.7 billion by 2002 while that for Islamic banks was US$43.2 billion. Conventional deposits rose to US$512 billion by 2005. Islamic deposits reached US$74.8 billion by 2005. As a result, Islamic deposits grew by 20.17% while conventional deposits grew by 11.5% within the same period (Abu, &Faruq, 2010)

Equity capital markets and Return on Equity

Islamic equity was estimated at US$6 billion in 2002. By 2005, its equity had risen to US$13billion. This represented an increase in Return on Equity growth from 15.3% in the year 2002 to 24.3% in the year 2005. On the other hand, conventional equity rose from US$52 in the year 2002 to US$82 billion in the year 2005. This was a representation of an increase in Return on Equity from 13.5% in 2002 to 19.45% in 2005.

The largest bank in the Islamic world is ranked amongst the top 50 banks in terms of equity value. Al Rajhi has a market capitalization of US$27.9. Kuwait Finance House, Malayan Banking BHD, and Dubai Islamic Bank have a market capitalization of US$15.4 billion, US$13.65 billion, and US$8.1 billion respectively. Other Islamic banks as well have a considerable market capitalization (Abu, &Faruq, 2010).

Debt capital markets

Islamic total loan stood at US$39.4 billion in 2002 while that of conventional financial institutions stood at US$250.3 billion. By the end of 2005, outstanding loans for conventional commercial and investment banks were valued at US$377.3 billion while that of Islamic institutions was valued at US$74.9 billion. Generally, conventional outstanding loans grew by 14.7% while Islamic loans grew by 23.8%.

Although Sukuk market securities had a slight dominance in the debt market between 2000 and 2002, where it recorded losses at the debt market, Sukuk drastically rose to US$4.5 billion in 2003 (Abu, &Faruq, 2010). In December 2006, issuance of Sukuk at the global level stood at US$18.8 billion. From the year 2003 to 2006, Sukuk had increased in the market by 61%. This was an outstanding growth as compared to other bond markets elsewhere outside the Islamic market.

Insurance sector

A research that was carried out in the insurance sector revealed that the amount of money invested in life assurance by non-Islamic institutions was worth US$1388 billion in 2002. The amount rose to US$1940 billion by 2005. Life Takaful moved from US$28 billion in 2002 to US$40 billion in 2005. It is projected that Life assurance for non-Islamic institutions will increase to US$5,600 billion by 2015 while Life Takaful will rise to US$1,400 in the same period. Although Life Takaful is expected to grow at 34% annually while non-life Takaful 14%, it is unbelievable that Islamic countries account for 5% of global premium despite having a population accounting 25% of the world’s population.

Taxation and Legal Issues

Most of the Islamic financial products and services are regulated by several Shariah principles such as Ijarah and Musharakah. Financial intermediaries are required by law to form Shariah Supervisory Boards to ensure that their practices are in line with the regulations provided by the Shariah. Ijarah is an Islamic word meaning leasing or renting. Financial institutions sell the benefits of a given service to a customer at a fixed price.

On the other hand, Mushrakah refers to a situation where two or more individuals contribute capital in an enterprise at a given proportion from which profits and losses would be shared. Such appealing financial products have drawn diverse governments into the financial market expecting to obtain adequate taxes from various transactions that occur within this market (Sohrab, &Farhad, 2006). It is reported that several assets are traded more than once thereby enhancing taxation at every transaction. Although this has been a common trend in many countries, some countries such as the United Kingdom have made concerted efforts to defend what they call unfair acts.

Managing financial risks

The Islamic financial market is riskier as compared to other markets outside the Islamic region (Hirschey, Kose, &Makhija, 2004). Most Islamic financial institutions are not allowed to invest in the debt security market, derivatives, and other perceived forbidden markets. This makes Islamic conservative banks risky as compared to conventional banks. For instance, Islamic banks will tend to be risky since clients are likely to default paying the agreed amount on time upon which interest will not be levied. Fines or penalties are to be imposed by the Shariah Law.

Regulatory and disclosure of financial information

As compared to other non-Islamic nations, disclosing financial information is less strict in the Islamic world. However, there have been several problems with cross-border transactions. This tends to hide crucial information that is supposed to guide investors in making prudent decisions (Mamarinta, 2002). As a result, many international investors continue to avoid Arab financial institutions given the fact that such institutions do not disclose full information regarding their operations.

The threat of having high levels of liquidity in the economy

There is a high tendency of leaving the economy with huge amounts of cash. Liquidity level that is not appealing to the economy results from prohibiting debt security investment. The Islamic economy is not allowed to invest in hedging instruments such as put and call options, as well as future contracts. Transactions that are carried out between banks are very few since they involve a few types of transactions.

Fragmented small players

The Islamic world is dominated by a variety of small and disintegrated financial institutions that fail to compete successfully with other large international players. Large international players have remained competitive in financing large projects across the world. Only a few Islamic institutions have been able to fund relatively large projects. Development Bank of China leads the non-Islamic market in financing several projects in other foreign nations such as India (Schmitt, & Lane, 2009).

Aim of the study

This study aims to find out the principles governing Islamic banking and how these practices affect banking transactions.


Financial products provided by Islamic financial institutions in Saudi Arabia contrast those provided by the conventional financial markets across the globe. In the kingdom, laws regulating Islamic institutions do not put strict measures as regards disclosing full financial information. This can result in dishonesty like hiding crucial information.

Research questions

This sought to answer the following questions.

  1. What are the effects of Sharia Law on the performance of Islamic banking institutions?
  2. What is the position of Islamic banking as compared to conventional banks?
  3. Are Islamic financial products and services effective?

Objectives of the study

This research is set to explore business cultures practiced by some of the largest and most well-known financial institutions in Saudi Arabia.

The study objectives include:

  1. To examine the effects of Shariah principles on the performance of Islamic institutions.
  2. To compare the growth rate of Islamic and conventional financial institutions.
  3. To establish the quality and effectiveness of Islamic financial products and services.

The hypothesis of the study

Islamic banking contributes positively to the growth of both Islamic institutions and conventional institutions.

Limitations of the study

Language barrier: the original interviews were done in Arabic and were later translated into English. Some crucial information could be lost during translation especially where Arabic expressions that may not have exact equivalents in English were used.

Limited time: this research has conducted a part of course work. The time available for the research was limited. Therefore, the researchers opted to select a small sample for this study.

Literature Review

Islamic populace refers to the interest rate as Riba. According to them, Riba is anything that is paid above the amount loaned to any individual or institution. The Shariah Law is strict with individuals or institutions tending to invest in businesses prohibited by the provisions of Shariah (Clement, &Springborg, 2010). Such individuals face the law by being imprisoned for a certain period according to the level of offense they committed.

Generally, acts prohibited by Shariah principles are commonly recognized as Haraam (Abdurrahman, 2010). Both private and public institutions comply with these regulations in their entire financial practices.

It is estimated that over 300 Islamic financial institutions across the world operate following Shariah Law (Sohrab, &Farhad, 2006). These institutions, which range from investment banks to commercial banks and insurance companies, are located in 51 nations. Through various analyses and estimations, it has been concluded that Islamic financial institutions grow at an average rate of between 11% and 16% every year.

However, these institutions indicate a low level of participation in the bond market commonly referred to as the Sukuk market by Muslim investors (Abu, &Faruq, 2010). The Sukuk market has not been vibrant for the last decade given the strict law. Islamic investment equity funds market is rapidly growing and it will only be a matter o time before the other conventional equities join them. As equity markets grow other sectors of Islamic banking have recorded similar growth. The American Dow Jones established indices specifically for the Islamic equity funds market in response to this growth. Islamic banking is very lucrative it is expected to grow as innovative products that are sharia complaint are implemented. Islamic banking is well developed in some countries like Iran and Pakistan.

The Institute of Chartered Accountants of Pakistan issues Islamic Financial Accounting Standards (IFAS) for Islamic Mode of financing (IFAS, 2005). In theory, Islamic banking is supposed to be among the best financial products available. This is because it does not charge interest on money borrowed. This would enable such institutions to have huge reserves, enough to cushion them from collapse. However, in reality, this reserve capacity is lost making the institutions as vulnerable as the conventional financial institutions.

A case study of Bank Al-Jazira

Bank Al-Jazira or Al-Jazeera Bank was founded in 1975. It is headquarters are in Jeddah Saudi Arabia. It is headed by a chief executive officer who oversees all the banking functions of the institution. It is regarded as one of the leading banks in Saudi Arabia.

Current practices

The bank switched to Islamic banking in 2007. It recently installed an internationally recognized electronic-based security system. The installation of this system has assisted it to position itself as a secure bank. This has had a positive impact on the bank. Following this installation, there was an increase in the number of international transactions.


The bank has experienced tremendous great in profit during the past few years. For example, in the year 2011, it reported that its profit had increased by 377 %. This is by no means a small achievement. The bank managers attributed this growth to a change in bank strategy. A case in point is its conversion to Islamic banking in 2007. This growth in profits can also be linked to two other factors. First, the company employs lean operation principles. The company runs a highly efficient system that leaves little to wastage. It can also be attributed to the fact that Saudi Arabia has been experiencing steady economic growth in the recent past.


It provides the following services and products to high-net-worth individuals and large co-operations: personal, business and investment banking services, telephone banking, utility payment, cash transfer, safety deposits, current account, 24-hour banking, banking services for women, corporate & commercial banking, financial institution & syndication, trade finance, treasury, and Islamic funding services, financial management, investment funds, international stock brokerage, local stock exchange and Islamic, investment.


This research will be carried out in Saudi Arabia.

Research Design

This research will assess the effects of regulations and principles governing Islamic banking. It will also explore the effectiveness of Sharia Laws in Islamic and non-Islamic banking environments. A descriptive study design was used to describe variables at a point in time.


The research will focus on Managing Directors, as well as Chief Financial Officers of several financial institutions in commercial banks, investment banks, and insurance companies. Ten financial institutions will be studied. This will include five commercial banks (Bank Al-Jazira, Al-Bank Al-Saudi Al-Francis, The National Commercial Bank, Saudi American Bank, And Saudi British Bank) three investment banks (Al-Rajhi Banking Investment Corporation, Saudi Investment Bank, The Arab National Bank and two insurance companies (Tawunyia, Al Rajhi Company for Cooperative Insurance).

Sampling technique

Purposive and convenient sampling methods were used to sample the banks and individuals to be studied. The top managers were chosen since the researcher expected them to know their institutions better low cadre employees.

Data collection

Data was collected using a structured questionnaire with open-ended questions.

Data analysis

Data collected were grouped analyzed for emerging themes. All the data generated were grouped based on a theoretical framework. The general themes generated were analyzed for measures of central tendency. Data was presented using pie charts and bar graphs.


After data analysis, the findings were as follows.

97 percent of banks reported strict adherence to sharia banking while 3 percent reported not to adhere to sharia law strictly. These were institutions that allowed non-Muslims to bank with them. Sharia compliance is compulsory in the kingdom some banks choose to ignore these rules. This may be in an attempt to attract non-Muslims who are not bound by religion. It appears as if these banks consider the nonconventional market more lucrative.

99 percent operated only sharia-compliant accounts while 1 percent operated other types of accounts on top of the sharia-compliant accounts. Sharia-compliant accounts do earn interest neither are they charged interest. They earn a profit instead.

The financial products offered by all the banks include Murabaha, mudaraba, ijara, Sukuk, istisnaa, tawarruq, musharakah, and takaful. Products are equivalent to those offered by conventional banks. The only difference is the governing principles. All the banks had these products owing to the predominantly Muslim target market.

Only 4 percent of the studied institutions reported a rate of return on equity less than 10 percent. This is a clear indication that sharia banking in the United Arab Emirates is profitable.

20 percent of the banks surveyed reported that they would like to explore the conventional markets in the future. They saw this as an opportunity for future growth.

All the banks listed on the stock exchange did not want to disclose the exact value of the bank. This information was therefore left out.

Adherence to sharia law by the financial institutions.
Figure 1: showing adherence to sharia law by the financial institutions.
Types of accounts operated by the financial institutions.
Figure 2: showing types of accounts operated by the financial institutions.
Services and products offered by the financial institutions by popularity with customers
Figure 3: showing services and products offered by the financial institutions by popularity with customers.
Rate of return on capital of the studied institutions.
Figure 4: showing rate of return on capital of the studied institutions.


Adherence to sharia law is compulsory in this country. Any institution that is not compliant gets stiff penalties. In some extreme cases, a bank can be closed due to such malpractices. However, the results of this study indicate that up to 3 percent of financial institutions choose to ignore this fact. A possible reason for this may be due to the presence of certain preferred customers who demand it.

All the financial institutions studied offered a variety of sharia-compliant products. The products on offer include Murabaha, mudaraba, ijara, Sukuk, istisnaa, tawarruq, musharakah, and takaful. This can be explained by the fact that target clients of the banks are Muslims. Islamic religion demands that all the faithful follow certain principles when trading. Interest is unacceptable and is considered unlawful. Therefore, institutions that offer these products attract customers. The impressive rates of return on capital can be partly attributed to the fact that Islamic nations still have room for growth in terms of customer numbers. Another possible reason is the fact that Saudi Arabia has been experiencing impressive economic growth for some years now.


After analyzing the data and studying a case study the following conclusions can be arrived at;

  1. Sharia law plays an important role in the success of financial institutions operating in a predominantly Muslim country.
  2. Financial institutions in Saudi Arabia have good rates of return on equity. Indicating that these markets are profitable.
  3. Apart from a few banks, the majority of banks in Saudi Arabia offer sharia-compliant products.
  4. Saudi Arabia’s banking market still has room for growth.


The following recommendations can be drawn from the study.

  1. Islamic institutions should adhere to all the rules and regulations of the host country. That does not comply with sharia banking ran the risk of being caught by the authorities. Penalties imposed can cause massive losses to the institutions.
  2. Banking institutions who wish to diversify their products to include those offered by conventional banks should do so with a consultation with the authorities. If it is not possible to do it in Saudi Arabia they should consider opening branches in countries that allow conventional banking.
  3. To sustain the growth witnessed in this country banks should explore the possibility of expanding small towns.


Abdurrahman, Y. (2010). Shari’ a Law in Commercial and Banking Arbitration: Law and Practice in Saudi. Burlington: Ashgate Publishing.

Abu, U., &Faruq, A. (2010). Developments in Islamic Banking Practice: The Experience of Bangladesh. Florida: Universal Publishers.

Barbara, A. (2005). Shaping the Current Islamic Reformation. London: Frank Class Publishers.

Clement, M., &Springborg, R. (2010). Globalization and the Politics of Development in the Middle East. New York: Cambridge University Press.

French, J., McNayr, J., & Escher, F. (2010). Banking: Part 1: Banking Principles, Part 1. New York: Biblio Bazaar.

Hirschey, M., Kose J., &Makhija, K. (2004). Corporate Governance. Amsterdam: Emerald Group Publishing.

Mamarinta, P. (2002). The Role of Multinational Companies in the Middle East: The Case of Saudi Arabia. New York: Mamarinta.

Schmitt, J., & Lane, N. (2009). An International Comparison of Small Business Employment. Web.

Sherifa, Z. (2005). Saudi Arabia: Islamic Threat, Political reform, and the Global War on Terror. New York: DIANE Publishing.

Sohrab, B., &Farhad, N. (2006). Islam and the Everyday World: Public policy Dilemmas. London: Routledge.

The Institute of Chartered Accountants of Pakistan issues Islamic Financial Accounting Standards (IFAS) for Islamic Mode of financing (2005). Web.



  1. Does your institution adhere to Shariah Law?
  2. What types of accounts do you operate?
  3. What other services and financial products do you offer?
  4. What is the market capitalization of the firm?
  5. What is the rate of return on equity for the last one year?

Proposal format

The Islamic Approach in KSAMarkets withConventional Markets in the Past Decade

  • Introduction
  • Purpose
  • Objectives
  • Methodology
    • Research Design.
    • Population.
    • Data collection.
    • Data analysis.
  • Findings.
  • Discussion.
  • Recommendations.
  • Appendix.
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