Islamic finance has progressed steadily on the European continent since its initiation in the early 1980s. The momentum has picked up post global financial crisis in view of Islamic finance’s sustained growth and increasing global traction. The development of Islamic finance has been beneficial for multiple stakeholders, both within and outside of the region. For example, the offering of Islamic banking products and services in Europe has made it possible for the Muslim population in the region to bank in a Shari’a compliant manner.

Although the overall magnitude of Islamic finance is still limited and fragmented, Islamic banking and Islamic funds sectors have made considerable progress in the region. Particularly, in recent years, Islamic funds have been gaining greater interest, and several European financial centres have taken a number of steps to facilitate the sector. Islamic funds domiciled in Europe hold approximately USD14.6bln in AuM as at 17 March 2014, accounting for 19.8% of the global Islamic funds’ AuM. Key factors contributing to the growth of the Islamic funds sector in the region are the long-standing European expertise in asset management, as well as the regulatory advancement and the operational efficiency. Going forward, the European Islamic funds sector is expected to receive a further boost from the region’s continued strides in ethical or socially responsible finance, with this trend potentially attracting a wider client base for Islamic fund managers from both within Europe itself and across the border from Islamic jurisdictions.

The sukuk market has also stepped into the limelight recently owing to sovereign issuance plans announced by the UK and Luxembourg that are vying for the spot of the first non-Islamic sovereign sukuk issuer in the world. The sukuk announcements by these countries have been welcomed by the global Islamic finance community: since both the governments are AAA-rated, it is hoped that their sovereign sukuk will widen the pool of quality investment opportunities for Islamic investors around the world in general and for Islamic financial institutions in particular. It is also likely that these issuances will raise the awareness of sukuk as a viable alternative capital raising mechanism among sovereign and corporate issuers in Europe and elsewhere, for the region’s current share of the global sukuk market is exceedingly small: as at 1Q14, the total sukuk outstanding in Europe (USD345.2mln) accounted to just 0.13% of the global aggregate. 

The region is an important listing destination for international sukuk of both Asian and Gulf issuers. Established European exchanges such as the London Stock Exchange (LSE), the Irish Stock Exchange (ISE) and the Luxembourg Stock Exchange (LuxSE), have been able to attract Islamic issuers with their efficient and transparent listing processes and attractive trading liquidity profiles. The LuxSE listed its first sukuk in 2002, followed by the ISE’s first sukuk listing in 2005 and the LSE’s in 2007. 

While it is commonly recognised that Islamic finance has made remarkable progress in Europe over the past decade, there remain challenges on the way of the industry’s wider penetration into regional financial marketplaces. The principle obstacle relates to Islamic finance regulation, supervision and taxation in Europe. In this regard, a primary difficulty arises due to peculiar methods in which Islamic financial institutions mobilise and deploy funds. For example, Islamic banks in the course of their operations may be involved in asset management which is not conventionally practiced in commercial banking. Formulating proper regulatory and supervisory firewalls between the two financial activities is a vital process requiring proper planning on the part of European regulators. In terms of taxation, Islamic financial transactions are normally concluded through the execution of several contracts and hence may require multiple transfers of ownership. To avoid the resultant issues of transfer and double taxation, among other issues, special adaption of tax systems is necessary: for instance, through tax neutrality measures such as those that have been introduced by the UK, Luxembourg, France and Ireland for Shari’a compliant transactions that are similar in substance to conventional.

An additional tangible challenge to Islamic finance in Europe is the inadequate level of Islamic financial education among corporate and institutional entities. Expanding the range of tailor-made corporate banking offerings and innovative investment structures should go a long way toward propping up the demand for Shari’a compliant products and services from big clients in Europe, in particular from those with vested interest in advancing business relations with Asian and Middle Eastern partners.

In the future, Islamic finance as a whole and its constituent parts individually will be supported in their growth across the European continent by several principal factors: (1) the improving economic situation in Europe; (2) the favourable demographic dynamics in Europe; (3) the growing interest in alternative financial solutions in Europe; (4) the various country initiatives toward greater regulatory facilitation of the Islamic finance industry; (5) the substantial appetite in Europe for attracting liquidity from emerging markets; (6) the strengthening trade links between Europe and major Islamic finance jurisdictions; and (7) the exploration of halal food market opportunities by European producers. However, the potential of these growth drivers can only be unlocked if Islamic finance manages to project itself within the region more assertively as an ethical industry that offers competitive and innovative financial services and products.