Using Digital Solutions to Support the Growth of Islamic Banking

Recent years have seen sustainability and ethical choices bubble over into public consciousness, and they are increasingly influencing where consumers choose to bank. For this reason, many customers–even those who don’t subscribe to religious beliefs–are seeing the benefits of Islamic banking. In fact, the Islamic finance industry is projected to grow to USD 6.67 trillion by 2027.

However, providers looking to tap into the opportunity presented by Islamic banking models face unique challenges. Banks must strike a balance between delivering efficient customer-centric services and meeting strict requirements to comply with Shariah law. Emerging digital technologies can help. Online banking, artificial intelligence (AI), and blockchain ensure banks meet various needs, from enhancing liquidity management to expanding product offerings and enabling seamless banking experiences for Muslim populations.

Islamic Banking Explained

At its core, Islamic banking is based on the belief that money has no intrinsic value. In short, it follows the principle that people should not be able to simply make money from money.

Islamic finance differs from conventional banking systems by prohibiting interest (riba) and instead relying on profit-sharing and fee-based services. For instance, in Islamic home financing, the bank and customer jointly purchase the property, with the client gradually buying the bank’s share over time. Financial transactions must also be linked to tangible assets, like property, commodities, or services, and used to generate real economic value.  

Unlike in other models where it is transferred to the borrower, Islamic finance encourages the sharing of risks and rewards between the bank and the customer. For example, in a Musharrakah contract, the bank and the customer contribute capital and share profits or losses according to a pre-agreed ratio. The central principle is that money shouldn’t cause harm. Islamic financial service providers can’t invest in industries considered unethical, for example, businesses involved in alcohol, tobacco, gambling, or any pork-related products.

It’s no surprise that Islamic banking, like most financial systems, faces distinct challenges. In fact, financial institutions looking to tap into this market may find themselves at a loss for where to start. Careful consideration of any potential challenges, as well as how to overcome them, is critical.

Competition from Conventional Providers

One key problem in Islamic banking is that financial institutions face stiff competition from conventional providers, especially in markets where both models operate alongside each other. Islamic banks have to work harder to meet their customers’ expectations, not only delivering personalised services that will grant them a competitive edge but also making sure these offerings adhere to Shariah principles.

Using AI, data analytics, and cloud technology can give Islamic banks the strategic advantage they need. For example, banks can use AI-driven algorithms to offer tailored financial advice and guidance by analysing customer data to identify spending patterns or recurring outgoings such as bills or memberships. Similarly, implementing cloud technology enables banks to rapidly scale resources to onboard new customers or offerings, reduce costs, and increase their time-to-market.  

The power of digital banking platforms also cannot be underestimated in terms of the ability to compete with conventional service providers. Some 56% of young Muslims state they would use Islamic banking if it were more accessible. By using technology to enable digital banking apps and mobile wallets, banks can ensure that individuals can access their accounts and conduct transactions remotely. This increases inclusivity for Muslim communities who may not live near an Islamic bank. It also offers customers greater convenience and control over their finances, which could be the deciding factor in where an individual chooses to bank.

Unlocking the Power of Blockchain

Another challenge with Islamic banking is the lack of standardisation. Due to various interpretations of the Quran, what one bank considers Shariah-compliant, another may not. International organisations are trying to align Shariah interpretations and create a global standard to address this, but progress remains slow.

Fortunately, digital technologies like blockchain can be used to address the issue of standardisation. Blockchain could create a centralised database of Shariah-approved contracts that all banks can access. Banks from different countries can refer to the same repository instead of relying on fragmented local rulings, making it easier to align practices across borders.

The lack of Shariah-compliant instruments needed to provide access to liquidity is another long-standing issue in Islamic banking due to unsupportive regulation, limited standardisation, and the relatively small number of Islamic banks. Blockchain can also be used to overcome this by creating Shariah-compliant solutions for liquidity management. For example, smart contracts can help meet the need for transparency in Islamic finance by enabling banks to automate and enforce agreements openly. Blockchain can also be used in digital crowdfunding, providing an alternative way to raise and distribute funds without relying on interest-based methods.

The Untapped Potential of Islamic Banking

Islamic banking is gaining traction globally. As a result, financial institutions are seeing a growing opportunity to offer Shariah-compliant products to meet consumers’ changing needs. However, to take advantage of this opportunity, banks must build strong digital foundations that expand their product offerings, promote standardisation, and improve liquidity management.

The potential rewards of reaching this market are substantial. By embracing technologies like digital banking, AI, and blockchain, providers can enhance financial inclusion by delivering fast, customer-centric services to those who otherwise might be excluded from traditional banking systems. For banks themselves, diversifying their portfolio can act as a competitive differentiator, increasing customer loyalty while diversifying their market share—making them stand out in an increasingly crowded industry.