Funding Infrastructure Development through Islamic Finance: Issues and Challenges Ronald Rulindo, Ph.D. (Director of Islamic Finance Product Innovation, Financial Market Deepening and Infrastructure Development of KNKS) Delivered on BI-ADFIMI-KNKS joint CEO seminar on “ Islamic Structured Finance: Cases of Infrastructure Project Finance in IsDB Member Countries ” 1 National Islamic Finance Committee National Islamic Finance Committee
National Islamic Finance Committee is established to enhance the impact of Islamic fjnance on national economic development Functions CHAIRMA N Create Policy and Strategy Recommenda tions VICE Catalyst of CHAIRMAN Islamic STEERING Coordinat Provide BOARD economic e the Solutio Stakehold National Islamic Finance developmen ns ers t in Indonesia Committee Monitor EXECUTIVE MANAGEMENT EXECUTIVE MANAGEMENT and Evaluate 2
Agenda 01 The need for infrastructure development 02 Islamic Finance and Infrastructure Financing 03 Funding Infrastructure through Islamic Finance: Case of Indonesia Komite Nasional Keuangan Syariah National Islamic Finance 01 Committee The need for infrastructure development 3
Global infrastructure spending trends shows continuous improvement in terms of budget allocation across countries, dominated by electricity and road sectors bal infrastructure spending, 2007-2040 Average annual investment by sector , 2007-2015 Billion US$, based on 2015 prices and exchange rates investment by sector 3%3% 8% Electricity Road 35% 12% T elecoms Rail Water National Islamic Finance Port 12% Airport 29% Committee 4 Source: Oxford Economics
How can the world bridge its infrastructure gap other than government spending? The world invests $2.5 trillion The world needs to invest $3.3 annually in transport, power, trillion annually just to meet Find a way to water, and telecom as of growth forecast by 2030 attract more today alternative fjnancing sources Banks Infrastruct ure & Investment private Companies T o Improve National Islamic Finance equity Productivit funds y of Unlock fmow Endowmen Infrastructu of fjnance t & Insurance re Foundation Investment s Committee Sovereign Public & wealth private $120 trillion funds funds pension under management of 5 Source: McKinsey Global Institute
The State of Infrastructure Investment in OIC Member Countries varied from one to another T otal Infrastructure Investments Contribution towards GDP (T otal Infrastructure Investment - %GDP) 46.0% 37.1% 26.4% 23.8% 21.0% 20.7% 19.3% 17.8% 14.8% National Islamic Finance 14.7% 13.9% 9.8% Committee 0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0% 35.0% 40.0% 45.0% 50.0% TUNISIA TURKEY EGYPT COTE D'IVOIRE MALAYSIA SAUDI AR ABIA BENIN INDONESIA NIGERIA GUINEA SENEGAL MOROCCO 6 Source: https://infracompass.gihub.org/compare_countries. COMCEC OIC
Infrastructure spending needs and the funding gaps in several OIC Countries years ahead demonstrated the demands for more investments Infrastructure Gap in Selected OIC Countries 2016-2040 (USD billion 2015 prices and exchange rates) Infrastructure Spending Needs 2016-2040 Cumulative in Selected OIC Countries (USD billion, 2015 prices and exchange rates) 1642 INDONESIA 406 1712 569 SAUDI ARABIA 975 657 NIGERIA 878 445 EGYPT 675 230 221 499 TURKEY 613 191 417 BANGLADESH 608 125 355 114 PAKISTAN 480 84 77 70 383 MALAYSIA 460 36 19 208 18 KAZAKHSTAN 8 292 National Islamic Finance 210 MOROCCO 246 92 AZERBAIJAN 100 63 JORDAN 81 Gap Amount 61 SENEGAL Committee 80 Total Total 0 200 400 600 800 1000 1200 1400 1600 1800 Investment Infrastructur 2016 - 2040 Investment Need 2016 - 2040 Current T rend Needs till e Gap till 2040: US$ 2040: US$ 7,200 1,599 7 Source: GIH and Oxford Economics (2018), Global Infrastructure Outlook, Infrastructure investment needs 50 countries, 7 sectors to 2040. COMCEC OIC
Islamic Finance sector size and investment allocation in infrastructure sector Global Islamic Financial Sectors Size Total Islamic Finance Investments in (USD billion & Percentage) Infrastructure Sector (2017-2018, USD Billion) Islamic Banking T akaful Other IFIs Total Percentag Infrastructure Sukuk Islamic Funds assets e going to Investments by Sectors (USD Infrastruct Islamic Finance 1,589.0 72.6% billions) ure (USD Billion) Islamic 1,598.90 4.74% 75.8 Banking Takaful 42.5 2.00% 0.9 Sukuk 344.8 11.57% 39.9 National Islamic Finance 344.8 IDB Project 3.12 124.4 91.2 42.5 5.7% 15.7% Financing Committee 1.9% 4.1% US$ (2016) Total Value of Islamic Financial Industry: US$ Total 119.7 2,438 billion 8 Source: ICD – IsDB, Thomson Reuters (2017)
Agenda 01 The need for infrastructure development 02 Islamic Finance and Infrastructure Financing 03 Funding Infrastructure through Islamic Finance: Case of Indonesia Komite Nasional Keuangan Syariah National Islamic Finance 02 Committee Islamic Finance and Infrastructure Financing 9
Islamic fjnance befjtting for Infrastructure Project Principles of Islamic Finance Infrastructure Project Returns should be linked to the Infrastructure projects allow risk to be shared profjt/earnings and derived from among the parties involved in the project, commercial risk taken by fjnancier including fjnanciers (in PPP) Islamic fjnanciers become partners in the Infrastructure projects allow Islamic fjnanciers to become a party to the project, not only as a project lender Transactions should be free from Infrastructure projects, by nature, should be free from speculation or gambling speculation or gambling ( maysir ) National Islamic Finance Existence of uncertainty in a contract is Project contracts are generally well defjned prohibited with certainty Investment relating to prohibited goods Infrastructure projects mainly exclude the areas Committee and activities are not permitted of the prohibited goods 1 Source: World Bank, IsDB 0
Islamic fjnance contracts vis-à-vis conventional for infrastructure fjnancing Islamic Finance Contracts for Project Conventional and Islamic Finance Contracts for Financing Infrastructure Financing Contract Conventional Islamic Finance Musharakah Categories Finance • Partnership fjnancing method in which all parties Equity provided by sponsors Equity provided by (ownership shares in the SPV) jointly contribute and bear losses sponsors (ownership —can take the form of shares in the SPV) musharakah or mudarabah Mudarabah Equity Infrastructure equity funds— • Profjt and loss sharing-contract based Infrastructure Equity the fund manager works as funds an agent ( wakil ) to manage the funds Istisna Loans with interest • Manufacture or build assets based on terms Sale-based instruments Debt specifjed by the buyer, at agreed price, within a (murabahah and istisna ) certain time National Islamic Finance Interest-based bonds Ijara While certain features such as convertibility of debt to Various structures • A lease for a specifjc rent for a specifjc period equity are allowed, other such as convertible structures such as preferred Committee Hybrid bonds, preferred shares are not permissible. Wakala shares, mezzanine Structures combining various fjnancing, etc. • Agency contract whereby a principal appoints an contracts such as istisna- agent to perform an act on its behalf ijarah , wakala-ijarah , etc. 1 Source: COMCEC OIC, Chu and Muneeza (2019) 1
Project fjnancing and implementation of Islamic fjnance contracts for Infrastructure PPP Projects Islamic fjnance instruments National Islamic Finance Committee Note: EPC = engineering, procurement, and construction; SPV = special purpose vehicle; O&M = operations and maintenance 1 Source: World Bank, IsDB 2
Possible challenges of Islamic project fjnancing implementation in infrastructure projects Mismatch in the duration between Islamic Understanding of Islamic fjnancial 06 fjnance transaction maturity and 01 transactions (contracts, shariah structure & infrastructure project fjnancing need compliance) Financial institution capability in conducting 07 Project preparation and readiness 02 project fjnance (Feasibility studies) Investor behavior and characteristics (risk 08 Financing scheme and process 03 and return appetite) National Islamic Finance 09 Understanding of infrastructure project 04 Government policies and regulations fjnancing Government support, guarantee and Committee 10 Cost of Islamic fjnance fund (source of 05 commitment (incl. incentives and level fund) playing fjeld for Islamic fjnance-related projects) 1 Source: Rarasati et.all (2019), EDP Sciences. 3
Agenda 01 The need for infrastructure development 02 Islamic Finance and Infrastructure Financing 03 Funding Infrastructure through Islamic Finance: Case of Indonesia Komite Nasional Keuangan Syariah National Islamic Finance 03 Committee Funding Infrastructure through Islamic Finance: Case of Indonesia 1 4
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