The Challenges and Potential of Economy-Wide Islamic Finance - The Case of Pakistan

Efforts for transforming the interest based to interest free financial system at national levels were made in the early 1980s in Pakistan, Iran and Sudan. In Pakistan, a gigantic move for Islamization of economy culminating into a system based generally on ‘bai‘al‘inah and sale and purchase of debt instruments. That system was declared un-Islamic by the country’s Shariah Court. As from 2002, the government switched to the dual system of conventional and Islamic banking, leaving other areas of finance, almost unattended. Since then, Islamic banking in Pakistan evolved in faith-sensitive market in terms of deposits, assets, financing and profitability. Of course, this growth was coupled with an increasing identity gap as Islamic banks replicated almost all products that conventional banks used under lesser regulatory requirements, particularly on deposits side. At global level as well, focus during last three decades had been at promoting Islamic banking operating parallel with the conventional banking. A little research has been conducted on the possibility, potential and implication of economy-wide introduction of Islamic finance, also including the money creation and monetary policy. This qualitative paper is aimed at discussing the potential of expanding the scope of Islamic banking and finance to the economy-wide operations / at national levels in the backdrop of the Judgment of the Federal Shariat Court, Pakistan (April 28, 2022).  It presents an evaluation of the progress made in terms of achieving the objectives of introducing Islamic finance, taking Pakistan as a case study. It then suggests some major policy and regulatory steps and strategy to be implemented if the objective of transformation of the system is to be achieved. The suggested strategy can be used for other OIC member countries, with some changes specific to every economy, particularly the countries that have gained sufficient experience and have visible presence of Islamic banking and finance.