An Islamic Brexit?
Article 50 has been triggered. So we are now on a countdown to leaving the EU. But what is Brexit likely to mean for those engaged in Islamic Finance here in the UK?
The huge potential for domestic Islamic investment in the UK should not be understated. Around 5% of people in the UK are Muslim, many of whom consider the Islamic compliance of their funding arrangements to be paramount. Both Muslim and non-Muslim entities here in the UK are also increasingly using Islamic Banks and their products both for reasons of availability and pricing.
In terms of the impacts of Brexit on this domestic investment market, the significant majority of this investment is made by UK based investors on projects here in the UK. So there seems to be little reason why Brexit in itself should cause a negative impact on customer demand. However, the wider impacts of Brexit on the economy and general investor sentiment, of course, remain to be seen.
Overseas investment remains central to the continued growth of Islamic Finance in the UK. A large proportion of overseas investment comes from Muslim countries, including for example, the Gulf Cooperation Council member states. A weather vane of overseas investor sentiment is often considered to be London's superprime real estate market. This has continued its precipitous decline over the past year. However, there are doubts as to whether this is a sign that Brexit is scaring overseas investment away. What is more likely is that recent increases by the UK Government in stamp duty when combined with a tightening of inheritance tax rules on non-domiciled purchasers have been taking a heavy toll.
Despite this, Knight Frank recently described the UK generally as a "magnet for the super-rich despite Brexit" (1st March 2017 (Guardian). Indeed, the UK continues to operate a political and taxation regime that is arguably more friendly to Islamic investors than its competitors including France or Germany. London's connectivity and general desirability as a place to live also continue to be a draw. This is particularly true for those lucky enough to be so wealthy that they are likely to regard any additional costs caused by Brexit as being relatively inconsequential. The recent decline in sterling also presents an opportunity for overseas investors, particularly from countries like the UAE and Saudi Arabia whose currency is pegged to the dollar.
A large number of Islamic Banks are funded by overseas investment from Muslim countries. So the question remains as to whether Brexit will make the UK market less attractive to them and encourage their relocation to the EU or elsewhere? This largely depends the extent to which their investment in their UK operations has been so that they can be used as a springboard for investment into the EU. In this case, the potential loss of bank passporting rights and the related ability to freely invest in the wider EU would clearly give rise to concern. However, whilst there is certainly some evidence of this, the significant majority of Islamic Banks have looked to establish in the UK for its own investment opportunities (notably in the real estate and corporate sectors) rather than as a route into the EU. So, for these Islamic Banks at least, Brexit would seem to be of limited effect.
Certain key underlying factors in the Islamic Banks decision to invest in the UK also remain unchanged. The UK Government continues to operate a taxation regime that is arguably more friendly to Islamic investors than its competitors including France or Germany. The reputation of the English courts and English law also remains a key advantage of operating here, and the UK Government is likely to be increasingly mindful of the need to incentivise additional overseas investment in the post Brexit world. There is also no assurance of the wider knock on effect that Brexit will have on the EU. France seems to have escaped the contagion, but German elections in the autumn could once again throw the EU into turmoil making it an unattractive place to invest.
However, what is likely to be more impactful on the decisions of Islamic Banks to invest in the UK, is the impact that Brexit may have on the direct investment opportunities in the real estate and corporate sectors. If Brexit causes a hiatus or even a decline in economic growth then those opportunities will naturally decrease, at least in the short term. And what currently is perhaps of greater negative impact than Brexit, is the disproportionate costs of regulatory compliance on small banks generally. Lacking the economies of scale of larger clearing banks, these costs can weigh heavily on a small Islamic Banks expense sheet.
On the face of it, prospect of Brexit appears to be having only a limited effect on the Islamic Finance market in the UK. However, predators lie in wait for the complacent. Luxembourg is now home to over 100 Islamic funds with Ireland now hosting around half that number. The UK Government are not the only Government to realise the huge potential of the Islamic sector.
Further taxation and regulatory restrictions that may negatively impact on Islamic compliant investment in the UK would clearly be undesirable. The UK Government needs to maintain its focus on Islamic Finance as we approach Brexit and, even more importantly, thereafter. After all, despite all this talk of Brexit, the real crunch will only come when Brexit actually occurs.
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