Dr Ndiamé Diop leads World Bank’s high-level strategic dialogue as well as the institution’s financial and technical and advisory programmes in Brunei, Malaysia, Philippines and Thailand.
AS Malaysia pursues its goal of achieving high-income status, the nation confronts a spectrum of complex policy objectives. Key among these is fostering robust economic growth to elevate household incomes and expand the middle class. Simultaneously, Malaysia is tasked with addressing the pressing challenges of climate change and environmental sustainability.
These critical priorities are highlighted in the 12th Malaysia Plan and the Madani Economy framework, necessitating substantial investments and mobilising public and private capital. Traditional economic policies have not fully addressed social development and justice. In Malaysia, Islamic finance has taken centre stage toward contributing to meaningful socioeconomic impact.
The establishment of Tabung Haji, showcased how innovative financial models can promote inclusion for low-income citizens and act as a modern investment fund. As of the end of 2023, Tabung Haji boasts approximately 9.15 million depositors with RM89bil worth of savings. By integrating Islamic finance into its agenda for inclusive and sustainable growth, Malaysia sets a compelling precedent for global communities. To leverage Islamic finance for a transformative impact will require continued policy reforms, the development of innovative financial services, and stronger institutional coordination.
Continued policy reforms
The government and financial regulators have made strategic efforts to create a robust Islamic finance ecosystem supported by strong legal and regulatory frameworks. For example, the Financial Sector Blueprint 2022-2026 and Capital Market Masterplan 3 have outlined initiatives intended to continue fostering a complementary and competitive dual financial system. Today, Islamic finance comprises nearly half of the banking sector and two-thirds of the total capital market (Figure 1).
Encouragingly, Bank Negara and Securities Commission Malaysia (SC) have been proactive in refining policy and regulatory frameworks to transform Islamic finance and drive a more significant impact. In 2017, Bank Negara introduced “Value-based Intermediation” or VBI, and in 2023, SC launched Maqasid Al-Shariah Guidance for Islamic Capital Market.
These initiatives are pioneering efforts among Islamic finance regulators to articulate maqasid al-Shariah (objectives of Islamic law) and provide guidance on integrating sustainability principles into Islamic finance practices and product offerings.
Reforms in financial education strategies are also critical to increasing awareness and literacy of Islamic finance solutions. For example, promoting behaviour change to encourage investors to direct funds toward social finance and mitigate any potential negative effects, such as reduced efforts by recipients, would be paramount. Thus, inculcating desired behaviours by embedding social finance modules in financial education programmes would be paramount and should be given appropriate focus in the relevant financial education and literacy strategies.
Innovative financial services
Malaysia offers several good examples of how Islamic finance principles, deeply rooted in principles of justice, fairness and transparency, can resonate across a multicultural population.Given Islamic finance’s reach to the underserved, the potential to provide innovative solutions utilising its varied Shariah-compliant financial structures, like profit-risk sharing models and leveraging Islamic fintech, should be further unleashed. The Islamic finance industry is compelled to move beyond mere Shariah compliance, which often replicates conventional products and innovate in ways that fulfill the broader objectives of Shariah.
Figure 1. source: Bank Negara Malaysia (BNM) and securities commission Malaysia (sc)
One example is iTekad, an innovative Islamic financing programme combining commercial funds with philanthropic capital to offer seed capital and structured training to underserved microentrepreneurs. With over 3,000 participants benefiting and close to RM10mil in philanthropic capital mobilised, the programme demonstrates how Islamic social finance can transcend financial assistance by fostering empowerment and inclusion.
Scaling up innovative Islamic finance solutions requires demonstrating their impacts to ensure credibility and transparency. Establishing an effective impact monitoring and evaluation framework will enhance accountability, build trust and improve visibility and access to funds by mitigating the risk of “impact washing.”
Figure 2. source: Department of statistics Malaysia (DosM) and Department of Awqaf, Zakat dan Hajj(JAWHAR)
It will allow us to know if these initiatives are helping include the most vulnerable in the financial sector and, if not, being able to rapidly change the course of action to improve what is not working.
Stronger institutional coordination
The mainstreaming of Islamic social finance instruments such as zakat (alms) and waqaf (endowment) in Malaysia is hampered by fragmented regulations and governance mechanisms that apply at state levels.
Mobilising these resources effectively requires improved institutional governance and data to determine better funding needs, capacities and gaps, which may vary between states (Figure 2).
A World Bank report, Maximizing Social Impact Through Waqaf Solutions, recommended reviewing existing waqaf legislation and improving governance by having qualified professional experts involved in waqaf management. An integrated approach involving the government, financial regulators, state Islamic religious councils (SIRCs) and Islamic financial institutions is essential in formulating a comprehensive action plan to address gaps in governance and expertise.
Malaysia’s integration of Islamic finance principles exemplifies a pioneering approach to catalyse private sector investments for social harmony, economic empowerment and sustainable development. Initiatives like VBI and iTekad highlight the potential transformative power of Islamic finance. However, to fully leverage this potential, Malaysia must continue to focus on policy reforms, innovation and enhancing institutional coordination, offering valuable insights for other nations exploring value-based finance.
Dr Ndiamé Diop is World Bank country director for Brunei, Malaysia, Philippines and Thailand. The views expressed here are the writer’s own.
