Green Economic Transformation (GET) - Role of Islamic Finance

SDGs and the Ecosystems Restoration Decade

June 5 was the World Environment Day. It is very pertinent to note that the next ten years will be celebrated by the UN as Ecosystems Restoration Decade. These are the 10 years left in the timeline of UN sustainable development goals (SDGs). It signifies the basic fact that restoration of the ecosystem is the precondition for achieving the SDGs.

HDIs and EFs Divergence

SDG 17 is in fact a call for coordinated effort by the stakeholders. The other 16 SDGs are related to two overarching global policy themes that have diverged historically. These are: a) the UN Human Development Index (HDI) and b) Ecological Footprint Indicators (EF) (see here global network). The HDI from 0.8 to 1.0 is considered the highest to be targeted by all countries. All developed and some emerging countries like Malaysia for example, have achieved this level of high HDI. Most least developed countries have HDI lesser than 0.5. Pakistan’s HDI for example, is slightly higher at 0.557.

Fig 1 World HDI and EF mapping

However, what is more concerning is that the EF of the developed countries and emerging countries is much more than their one earth capacity. On the other hand, the EF of the least developed and developing countries is within the one earth capacity. Pakistan’s EF is for example at 0.79 is lower than its one earth capacity. Figure-1 summarizes the HDI and EF data for different countries of the world signifying this divergence between HDI and EF. Developed and emerging countries have achieved high HDI at the cost of depleting the global public asset - the earth's ecological capacity, because of waste driven growth policies, material footprint of resource extraction, CO2 emissions, deforestation, and climate change.

Green Economic Transformation

What is green economic transformation (GET)? In Figure-2 we reproduce Fig 1 to explain the global policy target of GET. GET is the realignment of HDI and EFs by adopting right policies of economic growth within the boundaries of the one planet earth. GET is healing ecology through economy. Most developed countries must drastically reduce their EFs, indeed without letting their HDIs to suffer. Most least developed and developing countries must enhance their HDIs without worsening their EFs by exceeding the one earth capacity.

 Fig 2 Aligning HDIs and EFIs

Top Six Reforms We Need to Pursue

GET requires significant reforms in many areas. Here we pick six that we consider are of critical importance. We mention these in context of Islamic economics and finance, but these points are of general relevance.

1.      Adapt a new economic paradigm.

Aligning HDIs and EFs requires reducing material footprint by eliminating waste and reducing emissions by green energy transition and restoration of the ecosystems also requires reforestation etc. A fresh approach to dealing with externalities is needed. A new cash flow accounting is needed by incorporating the interests of future generations. For short, a new economic paradigm, modalities and practices of businesses, curriculum and pedagogy reforms and upgrading private and philanthropic sector strategies, and policies, and regulation.

Elsewhere, we suggested to anchor the new paradigm with zero-waste, zero-emissions and zero-financialization. We urged Islamic finance to adopt the Circular Economy paradigm as it is consistent with Mizan (universal balance), prohibition of Israf (waste), tabzir (extravagances and indulgences), Riba (commercialization of lending and financialization) and echo Maqasid of legislation and men’s responsibilities in the role of stewardship (see, “reforming Islamic finance to achieve SDGs”

2.      Curriculum and pedagogy reform

The foremost critical area of change is educational curriculum and pedagogy at all levels. At the Hamad Bin Khalifa University during 2018 we introduced a PhD Program centering on circular economy (see “the role of CIS in innovating transformative higher education pedagogy”).

Graduate programs at Istanbul Zaim University are sustainability focused and the university has won several international awards in this regard. Sustainability management and reporting must constitute a core part of graduate programs in Islamic economics and finance to provide the required leadership and fill the gap in human resources needed for the GET.

3.      The ecological footprint of Islamic finance

More than 80% of Islamic finance originates from Iran, GCC countries, Malaysia, and Indonesia. The average ecological footprint of these countries is 5.5 earth which is extremely high in comparison to the safe boundaries of one earth (see here for details). As these countries and their institutions share greater part of the responsibilities towards climate change and restoring the world’s ecosystem. The countries have already recognized the imminent energy transition and are working towards clean energy technologies such a carbon capturing and clean hydrogen. Energy transition will bring unprecedented economic transformation including product lines and supply chains and the resultant financial risks. Naturally, all segments of Islamic finance must respond.

1. Islamic banking must study value-based intermediation system introduced by Malaysia and reflect on the “principles of responsible banking” introduced by UNDP. There is a race to responsibility in the banking business which also threatens the value proposition of Islamic banking which poses strategic business risk for Islamic banks.
2. The Takaful segment must study the “the Principles of Sustainable Insurance” of UNDP and must respond to the responsibilities and strategic business risk the transformation of insurance services poses.
3. Funds (insurance, pension, mutual, reserve etc.,) management must study and respond to the UN “Principles of Responsible Investments” and must respond to the responsibilities and strategic business risk posed as such.
4. Sukuk (private, parastatal, sovereign, and municipal) must avoid green washing and make genuine attempts to support green projects, initiatives, and businesses.
5. The Islamic commercial and social finance (green Waqf) must introduce joint initiatives by blending their own specific mandates for supporting green SMEs, low-cost green energy housing, educational, sanitation and other critical services needed for green transition.
6. Regulators must set criteria for green businesses, whether SMEs or publicly listed companies for sustainability disclosures and how the businesses are contributing to restoring the ecosystem.
7. IFSB and AAOIFI need to revisit their standards. For example, AAOIFI needs to go to the extent of setting ecological footprint of individual contracts and respond to Global Integrated Reporting Initiative. The IFSB must make PRIs and PRBs as part of its concerns while setting prudential and disclosure standards.

4. National Green Transition Strategies

Countries must adopt national strategies for circular economy/green transition. Most OECD countries have already adopted such transitions. The European Green Deal and EU Taxonomy Regulation for sustainable finance are good examples to adapt by countries after taking care for their own national priorities and realities. The Standing Committee for Economic and Commercial Cooperation of the Organization of the Islamic Cooperation (COMCEC) is in best position to take a lead in establishing a dialogue with countries in this regard.

5. Technology for Green Transformation

The use of technology in different facets is being rightly being highlighted in different platforms. AI, Big Data, DLT, Fintech, Greentech are all relevant indeed. However, the basic focus needs to be the GET and ecosystem restoration.

6. Apex Strategic Body

Islamic Development Bank Group, Islamic Financial Services Board, OIC Fiqh Academic, COMSEC, Accounting and Auditing Organizations for Islamic Financial Institutions, Islamic Financial markets, International Islamic Liquidity Management Corporation, The General Council of Islamic Banks and Financial Institutions, Islamic Rating Agency, International Islamic Centre for Reconciliation and Arbitration are important institutions catering for the architecture and infrastructures of Islamic financial services. A similar global association institution needs to be established for Awqaf Organizations. These institutions, however, so far don't have the culture to talk to each other. There are significant opportunities for coordination between the institutions under the umbrella of a new Apex Global Islamic Board, addressing the challenges and opportunities of the GET.