Bridging the gap between Islamic finance and blockchain

By Khofiz Shakhidi, Chairman of Alif Bank

Khofiz Shakhidi, Chairman, Alif Bank

Islamic finance and blockchain are two sub-sectors of the global financial ecosystem rarely discussed in tandem. That doesn’t undermine their significance – on the contrary, blockchain and Islamic finance are regularly featured in the mainstream and trade media as they attract more interest from investors, consumers and businesses.

The value of the global Islamic finance sector is projected to reach $4.94 trillion by 2025, according to the Islamic Finance Development Indicator, maintaining an annual growth trajectory rate of 8%. At a time when Western economies are dealing with rising inflation, mounting public debt and cost of living pressures, these are positive growth figures to note.

The growth potential of blockchain has also been gaining traction. There are estimates the blockchain sector will be worth $163.83 billion by 2029, maintaining a CAGR of 56.3%. However, the high-profile collapse of FTX has sparked wider debate on the future of cryptocurrencies and other Web3.0 technologies including NFTs and blockchain. While there are clear areas of concerns when it comes to cryptocurrencies, it is wrong to assume blockchain falls into the same category. In reality, as the technology powering crypto transactions, blockchain is positioned to truly transform the global financial services sector.

Of all the similarities that can be identified between Islamic finance and blockchain, a common point of interest is their untapped potential. Both have established a firm foothold in the financial ecosystem, both are embracing existing technology and both are acquiring a bigger user base.

This is where we see exciting potential, with the integration of blockchain technology to power the next generation of Islamic finance applications. Such integration is being led by a new generation of Islamic fintech companies which are using existing technologies to empower Islamic communities who have yet to experience the full disruptive potential on offer from fintech.

Powering Islamic finance through blockchain

Blockchain should not be defined as a product. In actual fact, it is a technology focused on improving the speed, security and transparency of transactions between parties. In this sense, blockchain can be readily deployed to enhance any sector of the financial services instead of just being seen as a technology solely linked to the cryptocurrencies.

We are then led to question whether blockchain in any way could conflict with Sharia. This requires careful consideration. At a surface level, blockchain functions as a piece of technology which means there is no direct and obvious contention with Sharia. The complexity arises when we consider the potential financial transactions that blockchain could be facilitating which are themselves linked to non-Sharia compliant activities.

For Islamic fintech companies facilitating transactions through a blockchain, a review system must be in place to ensure the final output of the transaction is completely Sharia-compliant. This form of due diligence is already in place for Islamic fintech companies facilitating business to business, business to consumer payments via traditional rails.

If we then consider the Islamic finance transactions blockchain could help process, we immediately get a sense of the potential. Takaful, a co-operative system of reimbursement or repayment which essentially mirrors the concept of insurance, can use blockchain to quickly and accurately process claims. Waqf, or the donation of a fixed asset under Islamic law to produce a financial return, also stands to benefit from the transparency and visibility delivered through distributed ledger technologies.

We also know that in certain regions of the world with large Islamic populations, remittance payments are vital to economic growth. Yet the process of initiating and completing remittance transactions can be costly, complicated and slow, resulting in people instead relying on the physical exchange of cash. Fintech has a natural role to play here, and in Central Asia, Alif Bank has witnessed a notable increase of inward and outward remittance payments.

Blockchain can enhance the efficient processing of remittance payments, applying distributed ledger technologies for secure and responsive transactions, removing the need for an intermediary to facilitate such remittance payment flows. Ensuring these payments are Sharia-compliant is vital to fulfilling the long-term potential of these technologies.

Looking to the future, the coming years will see an increase in the global awareness of Islamic finance, particularly in Western markets. At the same time, the acceptance and use of blockchain as a tool to enhance existing financial products and services is also set to rise on a global scale. By linking blockchain and Islamic finance together, we will be able to unlock the full potential of both subsectors. Core to its success will be scaling fintech companies like Alif which lead on innovation and practically promote adoption of Islamic finance blockchain solutions.