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Stronger GCC relations a boon to Turkey’s Islamic banks

Turkey's President Erdoğan on a recent visit to the UAE, during which the UAE government commited to investments totalling $51bn over three years Handout via Reuters
Turkey's President Erdoğan on a recent visit to the UAE, during which the UAE government commited to investments totalling $51bn over three years
  • Turkish Islamic banks worth $90bn
  • Banking sector target of 15% for 2025
  • UAE purchasing $8bn sukuk

Improving relations between Turkey and the GCC could lead to more investment in the country’s Islamic banking system, which the government is keen to expand.

The Turkish authorities have set a target for Islamic banks to reach 15 percent of total sector assets by 2025, up from 8.5 percent this year. Top-down support has been evident by the entry of three state-owned Islamic lenders. 

Bashar Al Natoor, managing director, global head of Islamic finance at Fitch Ratings, said in a research note: “We expect strengthening relations between Turkey and GCC countries to positively affect the Islamic finance market and help the government attract foreign direct investments.”

In July, the Turkish government obtained financing commitments from the UAE totalling $51 billion over three years, including the purchase of an $8 billion sukuk. 

Sukuk are sharia-compliant bonds developed as an alternative to conventional bonds, which are not considered permissible by many Muslims as they pay interest and may finance businesses involved in activities not allowed under Islamic law.

A number of GCC banks have ownership stakes in Turkish Islamic banks that aim to diversify their investments. Dubai Islamic Bank also entered the Turkish digital banking sector last month.

Fitch Ratings said the Turkish Islamic finance industry crossed $90 billion in assets in September, part of a global sector worth about $3.3 trillion. 

The global Islamic finance industry is expected to grow by 10 percent this year, according to a report by the ratings agency S&P Global.

Turkey is suffering from currency weakness and high rates of inflation, which topped 61 percent in September, after a credit binge ahead of elections. Last week the central bank raised interest rates for conventional banks to 35 percent.

Analysts have warned of the exposure of Gulf banks to Turkey as the value of bounced cheques soars and personal loan and credit card defaults hit 2023 highs.

Nonetheless, Islamic banking, known as participation banking in Turkey, is becoming a significant part of the financial system and is the seventh-largest Islamic banking market globally in terms of assets, Islamic Financial Services Board data shows.

Fitch rates six Islamic banks in Turkey, all of which have a long-term foreign currency issuer default rating of “B-“. Some of these banks are owned by highly rated parents, but are capped at “B-” because of Fitch’s view of government intervention risk. 

In September, Fitch revised the outlooks of 16 Turkish banks, including a number of Islamic banks, to stable from negative, after the revision of the sovereign outlook.

Fitch said there was a sizeable untapped potential for the industry, because just over a quarter of Turkey’s adult population did not have a bank account in 2021, according to the World Bank. Fifteen percent of the unbanked population cited religious reasons as a barrier. 

However, the limited distribution network and product gaps, along with low awareness, sharia-sensitivity and confidence, are hurdles, Fitch said. 

In 2019, the government reported that 60 percent of the surveyed population in Turkey did not understand the meaning of participation banking.

Islamic banking assets contributed more than 70 percent to the total Islamic finance industry size as of September, with the balance mostly in outstanding sukuk (28 percent) while takaful (Islamic insurance) had a 4 percent sector share.