Bridging economies: benefits of Islamic finance for CPEC

Synergy between Islamic finance and CPEC presents opportunities for sustainable development, economic integration

KARACHI:

The China-Pakistan Economic Corridor (CPEC) stands as a testament to the evolving landscape of international trade and economic cooperation.

Spanning infrastructure projects, energy ventures, and economic zones, CPEC aims to bolster connectivity and development between China and Pakistan, while also potentially benefiting neighbouring regions. It is predicted that CPEC will result in the creation of upwards of 2 million direct and indirect jobs by 2030, and could add up to 2.5 percentage points to the country’s annual economic growth. At present, the estimated interest-based loan component of CPEC payable to Chinese commercial banks is around $10 billion, while bilateral Chinese loans on conventional terms are close to $13 billion.

Amidst this ambitious endeavour, Islamic finance can play a pivotal role in reshaping the financial architecture of CPEC projects and fostering sustainable growth grounded in ethical principles that are in line with the belief system of the local population.

Islamic finance, guided by Shariah principles, embodies ethical and equitable financial practices. Central to Islamic finance are concepts such as risk sharing, asset ownership and the prohibition of interest, exploitation, and uncertainty.

Financing transactions under Islamic modes can be based on profit-sharing investments, equity partnerships, and leasing of real assets like infrastructure projects and industrial plants, ensuring alignment with ethical and moral values.

The innovative modes can help in avoiding fixed interest loans or debt-based lending where the borrower is bound to pay interest irrespective of the profit generated by the business or even when a project or infrastructure is still not usable. Thus, selecting the right Islamic finance can help in reducing the typical risk of conventional finance where the borrower is exposed to the burden of project risk.

From a strategic point of view, Islamic financing offers several distinct benefits to countries like Pakistan to fund CPEC projects as compared to the conventional financing methods.

Further, it can benefit China as shifting to Islamic modes reduces the reputational risk related to interest-based funding including over-indebtedness, earning interest while projects are not delivering, religious misalignment with local beliefs, and it will also align the financing with the constitutional requirement.

The option of Islamic finance within the framework of CPEC can catalyse inclusive and sustainable development. Its principles resonate with the socio-economic objectives of CPEC, fostering transparency, fairness, and risk sharing.

Islamic financial instruments, including Sukuk and Islamic project financing, offer alternative avenues for funding infrastructure projects, accommodate diverse investor preferences and ethical considerations. Infrastructure development and industrial development lie at the heart of CPEC’s objectives, with the aim of enhancing connectivity and promoting economic growth. Islamic finance offers a unique approach to financing infrastructure projects by leveraging Sukuk to mobilise capital while adhering to Shariah principles.

Sukuk issuances, backed by tangible assets, attract both Islamic and conventional investors, diversifying funding sources and mitigating financial risks.

Furthermore, Islamic project financing models, such as Istisna (construction contracts) and Ijarah (rental arrangements), provide flexible structures tailoured to the needs of infrastructure ventures. By aligning financial transactions with real assets and economic activities, Islamic finance fosters accountability and efficiency in project execution, which can ultimately enhance long-term sustainability of infrastructure development under CPEC. Energy cooperation constitutes a significant component of CPEC as it is aimed at addressing Pakistan’s energy deficit through the development of power plants and renewable energy projects.

Islamic finance plays a pivotal role in funding energy ventures, offering Shariah-compliant financing solutions like Green and Sustainable Sukuk based on risk-sharing and equity participation modes not only to support cleaner energy initiatives and environmental sustainability but also to reduce debt burden of the country by converting debt into investment and long-term asset ownership.

Beyond infrastructure and energy, Islamic finance can contribute to inclusive growth and social development within CPEC corridors. Through Islamic microfinance initiatives and Zakat-based funding mechanisms, Islamic finance channels resources towards marginalised communities, which fosters entrepreneurship and poverty alleviation.

Moreover, Islamic social finance instruments, including Waqf (endowment) and Sadaqah (charitable giving), can support social welfare programmes and community development projects along the CPEC route. By integrating ethical considerations into financial practices, Islamic finance promotes equitable distribution of wealth and social justice, reinforcing the socio-economic objectives of CPEC.

While Islamic finance presents a compelling framework for financing CPEC projects, challenges persist, including regulatory harmonisation, and capacity building of Chinese financial institutions. Addressing these challenges requires collaboration between stakeholders, including governments, financial institutions, and Shariah scholars, to ensure the integrity and effectiveness of Islamic finance within CPEC.

Nevertheless, the synergy between Islamic finance and CPEC presents significant opportunities for sustainable development, economic integration, and cross-cultural collaboration.

Therefore, it is imperative that policymakers at both ends of the border evaluate the option of shifting to Islamic finance to foster collaboration between China, Pakistan, and beyond.

The writer is the Director of IBA Centre for Excellence in Islamic Finance

Published in The Express Tribune, May 27^th, 2024.

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