International Journal of Islamic and Middle Eastern Finance and ManagementEmerald Article: Customers' attitude toward Islamic banking in PakistanKun-ho Lee, Shakir Ullah

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To cite this document: Kun-ho Lee, Shakir Ullah, (2011),"Customers' attitude toward Islamic banking in Pakistan", International Journal of Islamic and Middle Eastern Finance and Management, Vol. 4 Iss: 2 pp. 131 - 145

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Kun-ho Lee, Shakir Ullah, (2011),"Customers' attitude toward Islamic banking in Pakistan", International Journal of Islamic and Middle Eastern Finance and Management, Vol. 4 Iss: 2 pp. 131 - 145http://dx.doi.org/10.1108/17538391111144524

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Customers’ attitude towardIslamic banking in Pakistan

Kun-ho LeeKDI School of Public Policy and Management, Seoul, South Korea, and

Shakir UllahInstitute of Management Sciences, Peshawar, Pakistan and

University of Southampton, Southampton, UK

Abstract

Purpose – The purpose of this paper is to examine the different motivational factors that lead tocustomers’ Islamic bank selection decision in Pakistan. In particular, it aims to look into the importanceof Shari’a compliance for Islamic banks’ customers and thereby the potential risk of depositswithdrawal in case of violations of Shari’a principles.

Design/methodology/approach – The paper presents descriptive statistics and cross-tabulationanalysis based on data collected from 357 customers.

Findings – The findings reveal that Islamic banks’ customers highly value Shari’a compliance in theirbanks and that non-compliance with Shari’a principles leads to disgruntled customers. An interestingpronouncement is that if an Islamic bank is involved in repeated violations of Shari’a, the customers areinclined to switch their banks. Nonetheless, the findings reveal that Shari’a compliance is not the onlysatisfaction yardstick for Islamic banks’ customers; they also expect their banks to be convenient,technologically advanced and provide security of their capital.

Practical implications – The paper has profound implications for Islamic financial institutionsoperating in Pakistan. Although Shari’a compliance is the most important factor that Islamic banksneed to observe, they also need to be competitive with conventional banks.

Originality/value – The paper is a unique contribution to Islamic banks’ selection criteria where theimportance of Shari’a compliance and conventional bank patronage factors has been explored.The paper’s has practical implications for Islamic banks’ owners and regulators.

Keywords Islam, Law, Finance, Banks, Shari’a compliance, Customer behaviour, Pakistan

Paper type Research paper

IntroductionIslamic finance has successfully paved its way into the mainstream financial system sinceits emergence a few decades ago (Lee and Ullah, 2007, 2008). There are currently more than300 Islamic financial institutions (IFIs) worldwide, managing a total of US$800 billion(Khan and Bhatti, 2008). The Islamic finance industry has become a favourite destinationnot only for the Muslim but also for the non-Muslim investors especially in this era offinancial crisis where it has become obvious that the Islamic finance industry has remainedintact from brutal brunt (Yeates, 2008). According to Yeates (2008), the industry is growingat an average rate of 15 percent per annum and is expected to exceed US$1 trillion in assetsby 2010. The insinuation for IFIs is that they are no longer considered as business entitiesaddressing the banking needs of the religious business community; rather they need tolook at the market dynamisms and attract a wider customer market.

Being one of the largest Muslim majority countries, Pakistan also started Islamicbanking in the late 1970s and is known for its pioneering position in formal Islamization

The current issue and full text archive of this journal is available at

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International Journal of Islamic andMiddle Eastern Finance and

ManagementVol. 4 No. 2, 2011

pp. 131-145q Emerald Group Publishing Limited

1753-8394DOI 10.1108/17538391111144524

of its banking system (Lee and Ullah, 2008). The IFIs in Pakistan currently managePKR278 billion (approximately US$3.4 billion) according to the Islamic Banking Bulletin(Said et al., 2009). Although this accounts for about 4.8 percent of the total banking industry’sassets in the country, it is interesting to note that this has grown from 0.5 percent in 2003.

Even though Islamic finance has paved its way into the country, it has attracted littleattention from academic scholars. There is scarcity of academic writings on thisindustry in the context of Pakistan especially in the areas of bank patronage factors,customers’ satisfaction and the risk of withdrawal in case of unsatisfied customers.Bank patronage factors of Islamic banks’ customers have been researched in Malaysia(Haron et al., 1994; Haron and Ahmad, 2000; Ahmad and Haron, 2002; Sohail andShanmugham, 2003; Dusuki and Abdullah, 2007; Haque et al., 2009), Jordan (Erol andEl-Bdour, 1989; Erol et al., 1990; Naser et al., 1999), Kuwait (Othman and Owen, 2001a, b),Singapore (Gerrard and Cunningham, 1997), United Arab Emirates (Bley and Kuehn,2004) and Turkey (Okumu, 2005) but there is a dearth of literature on this topic inPakistan. We strongly feel that there is a need to investigate customers’ perceptions,particularly toward the Shari’a compliance of their banks.

The purpose of the paper is to measure customer patronage factors with particularfocus on Shari’a compliance. We also try to measure the potential risk of aversion if thebanks’ are not observing Shari’a principles. The following section reviews the existingliterature in the context of conventional and IFIs. Then we discuss our approach andmethodology adopted for this study. The next section consists of the findingsand discussions. The last section presents our concluding remarks and suggestions forfurther research.

Literature reviewBank patronage factors in the conventional contextGiven that the increasing competition has forced companies to attract new customers andretain existing ones (Bitner and Hubbert, 1994; Vavra, 1995), customer satisfaction hasbecome a focus of academic research since the past few decades. Customer satisfaction isimportant because, as research suggests, satisfied customers tend to repeat theirpurchases (Taylor and Baker, 1994; East, 1997) and are inclined to spread theirsatisfaction through word of mouth (Richens, 1983; File and Prince, 1992). Oliver (1980)argues that customers are satisfied – satisfaction is the belief about the perceivedperformance of product or service (Peter and Olson, 1996) – only when their expectationsare met completely. Some researchers (Masden, 1983; Mahoney, 1994) even suggest thatmeeting customers’ expectations is not enough, rather companies need to achieve “ServiceExcellence” by going beyond customers’ expectations. Agreeing with these authors,Jamal and Naser (2002) argue that the actual performance in excess of expectations (calledpositive disconfirmation) leads to customer satisfaction and vice versa.

In contrast to tangible products where quality is judged over a longer period of time,service quality is judged by the customers at the time of consumption by comparingtheir expectations with the actual service they receive (Gronroos, 1982). We believe thatcustomers’ satisfaction in the case of services is more crucial because of theco-occurrence of purchase and consumption. Furthermore, different services industrieshave their own satisfaction yardsticks. Obviously, the banking industry is one of themhaving a number of important satisfaction gauges. In the context of banking industry,Parasuraman et al. (1991) identifies two aspects of service quality namely:

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(1) contractual aspect, i.e. the internal features of a particular service; and

(2) process aspect which is related to service received from bank employees interms of responsiveness, empathy, etc.

They argue that customers judge total service quality by adding up these two dimensions.Jamal and Naser (2002) found that Islamic banks’ customers who take these two aspectsinto account (they termed these aspects are core and relational, respectively) are moresatisfied. Some other studies also support these findings for the banking industry(Levesque and McDougall, 1996; Naser et al., 1999). Jamal and Naser (2002) also reached aninteresting conclusion that customers who are experts in particular products and servicesof an Islamic bank tend to be less satisfied as compared to non-expert customers.

Literature has identified a number of satisfaction factors that are not only essential forattracting new customers but are also equally important for retaining the existing base ofcustomers. One such important factor referred to by many scholars is convenient locationof banks branching network (Kaufman, 1967; Mason and Mayer, 1974; Anderson et al.,1976; Riggall, 1980; Laroche et al., 1986; Javalgi et al., 1989; Kaynak and Kucukemiroglu,1992; Driscoll, 1999). Other such factors include family and friends referral (Mason andMayer, 1974; Fitts, 1975; Riggall, 1980), a wider network of automated teller machines(ATMs) (Riggall, 1980; Mylonakis et al., 1998; Almossawi, 2001), bank’s reputation(Kaynak, 1986; Erol and El-Bdour, 1989; Javalgi et al., 1989; Erol et al., 1990; Almossawi,2001), friendly customer relationship (Kaufman, 1967; Mason and Mayer, 1974; Fitts, 1975;Anderson et al., 1976; Laroche et al., 1986; Haron et al., 1994; Holstius and Kaynak, 1995;Driscoll, 1999), quality of service (Kaufman, 1967; Fitts, 1975; Anderson et al., 1976;Haron et al., 1994), etc. This is not an exhaustive list of factors; there are a number of otherfactors that are considered important in different demographic locations. For example,Javalgi et al. (1989), using analytic hierarchy process for assessing consumers’ bankselection decision, noted that safety of funds is the top-most important consideration forUS’ bank customers. In line with Laroche et al. (1986), they also found that high return ondeposits is also a key (second most) concern for the customers. Confidentiality ofcustomers’ sensitive information has also been pointed out by scholars as an importantconcern of customers (Erol et al., 1990; Haron et al., 1994). Availability of parking space,low service charges, easy access to credit and mortgage and efficiency have also beenfound to be important factors for customer attraction and retention.

These studies divulge that bank patronage factors have been investigatedextensively in different countries identifying almost similar criteria for customers’satisfaction. Still, it is important to note that this area of study has remained un-touchedin Pakistan and therefore needs researchers’ attention.

Bank patronage factors in the context of IFIsBeing the providers of financial services, IFIs address the same needs of customers asconventional financial institutions (CFIs) do, therefore, the same satisfaction yardsticksare applicable to IFIs to measure customers’ satisfaction. Studies conducted in this areaaddressing IFIs’ customer’s bank selection and satisfaction criteria reveal this fact.For example, the study conducted by Haron and Ahmad (2000) found that MalaysianIslamic banks’ customers give utmost value to, amongst other things, efficiency andfriendliness of staff. Similarly, convenient location and friends’ referral are important forBahraini Islamic banks’ customers (Metawa and Almossawi, 1998) while Jordanian

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and Malaysian customers consider efficiency, reputation and confidentiality as highlyimportant (Erol and El-Bdour, 1989; Erol et al., 1990; Haron et al., 1994; Naser et al., 1999).Even though Shari’a compliance is the important aspect for Kuwaiti customers, theyalso expect other criteria such as service quality, friendliness, tangible aspects,convenience, safety of funds, and reputation.

One may think that the IFIs perform the same functions as the CFIs and therefore thesame bank selection criteria are equally applicable to IFIs. In reality, the Islamic bankingindustry is based on its own set of principles and it is essential for an IFI to comply withthose principles. Given the fact that the recent surge in the Islamic banking industry got itsimpetus from the demand for Shari’a complaint banking products (Lee and Ullah, 2007),non-compliance with the Shari’a principles in their operations will blur the basic Islamicessence of IFIs, leading to the loss of depositors and investors confidence. Although Eroland El-Bdour (1989) suggest that religion is not an important bank selection criteria,still there is enough empirical evidence that supports the idea that Shari’a compliance isvery important for IFIs’ customers even at the expense of some return (Gerrard andCunningham, 1997; Naser et al., 1999). Gerrard and Cunningham (1997) found that62.1 percent of Singaporean Muslims would keep their deposits with an Islamic bank evenif it does not provide sufficient or compatible returns because of their (86.3 percent) beliefthat interest-free banking can lead to better welfare of the society. They also found that41.4 percent of the Muslims will deposit their abnormal earnings in an Islamic bank asagainst 6.2 percent non-Muslims who would do the same. Metawa and Almossawi (1998)found that Shari’a-compliance is the most important bank selection factor for Bahrainicustomers. However, friends’ and relatives’ recommendations also play a very importantrole in Islamic bank selection (Hegazy, 1995). Some other studies (Erol et al., 1990;Haron et al., 1994; Metawa and Almossawi, 1998; Naser et al., 1999; Othman and Owen,2001a, b) also support the findings of Metawa and Almossawi revealing that Shari’acompliance is a key selection criterion in IFIs.

Metawa and Almossawi (1998) conducted a study on the banking behavior of Islamicbanks’ customers in Bahrain and collected data from 300 respondents. They reached tothe result that half of the respondents were having their accounts with Islamic banks formore than six years and were satisfied with the banks’ products and services andespecially the personnel working in the banks. This is an obvious indication to the factthat customers are satisfied with their Islamic banks. Similarly, the study of Naser et al.(1999) revealed that even though most of the IFIs’ customers were highly satisfied withtheir banks, they still kept accounts in CFIs because their Islamic banks were unable togive them full satisfaction in terms of products, services, convenience, etc.

Even though these studies suggest that if IFIs do not comply with Shari’a principles,they are more likely to disgruntle their customers who might ultimately be forced toswitch their banks, still an important implication for IFIs is that they should not beoptimistic that Shari’a compliance is the only thing they need to observe in order to keeptheir customers satisfied. Rather they need to be competitive with CFIs with anadditional pledge of Shari’a compliance also being observed.

MethodologyWe adopted a survey approach in this paper where the questionnaire consisted of foursections in addition to some initial questions regarding the personal profile of therespondents. In an attempt to make sure that each respondent had the power or enough

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influence to switch the bank in case of dissatisfaction, we included some initial screeningquestions. Sections 1 and 2 were used to measure this initial suitability of therespondents for our research. Those respondents who did not meet the initial suitabilitycriteria of power/influence were not interviewed further. There were a total of22 questions in Sections 3 and 4 used to measure the bank selection criteria for IFIs.The Likert (1952) scale was used in Section 4 to measure the 14 variables regardingShari’a compliance and the potential withdrawal risk. The Likert scale used a range of1-10, where 1 corresponds to least important and 10 corresponds to most important.

Primary data were collected from Islamic banks’ customers in the Pakistani cities ofPeshawar and Islamabad. The selection of these cities was based on the fact that Peshawaris the most religious city while Islamabad is the most liberal. The split of the sample wasbased on the relative population of the two cities. Since the questionnaire was developed inEnglish, we trained two business students to collect the data in order to reduce anypotential comprehension bias and language noise. The interviewers visited differentbranches of Islamic banks in different working hours and the account holders who visitedthe banks were randomly interviewed. Questions were asked in the mother tongue of therespondents and the resulting data were directly fed into the questionnaires by the trainedinterviewers. A total of 450 questionnaires were filled in, some of which were found to beunfit for analysis as some important questions were not answered. After removing suchquestionnaires, we were left with 357 valid questionnaires accounting for a valid responserate of 79 percent[1] – sufficient for statistical generalization (Dusuki and Abdullah, 2007).The data were then fed into Statistical Pakage for the Social Sciences for statistical analysis.

The data were analysed using descriptive statistics and cross-tabulation. Sincethere were a total of 22 variables, we combined the descriptive statistics into relevanttables in order to reduce the number of tables and make them easily understandable.

Findings and discussions1. Survey respondentsMore than 90 percent of the respondents have either current or savings accounts in theirIslamic banks, and only 2.2 percent have deposit accounts. Not surprisingly, types ofinvolvement are largely personal and/or business transactions. About half of therespondents concurrently have accounts in conventional banks, probably because theyare not satisfied with some aspects of their Islamic banks and hence keep their accountsin conventional banks to avail those facilities. Naser et al. (1999) also reached theconclusion that the Islamic banks’ customers maintain their accounts in conventionalbanks for the same reason. The fact that more than half of the respondents maintain anaverage balance over PKR100,000, suggests that Islamic banks attract middle andupper-middle class depositors. All the survey respondents claimed that they have theauthority or influence to switch banks indicating they can switch if they are not satisfiedwith either the services or Shari’a compliance of their banks (Table I).

2. Banking motivesMost respondents answered that they are customers of Islamic banks because they believethat being a good Muslim is important for them, suggesting that the customers considertheir Islamic banks as religious business entities and hence will expect them to be compliantwith Shari’a (Table II). As could be expected, more than 95 percent answered that banks’compliance with Shari’a principles is important at least to some degree. This findingsupports previous literature on Shari’a compliance and customer satisfaction in IFIs.

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For example, Metawa and Almossawi (1998), Naser et al. (1999) and Othman andOwen (2001a, b) reached to the conclusion that compliance with Islamic principlesis the most important consideration for Islamic banks’ customers in Bahrain, Jordan,and Kuwait, respectively. The very high importance given to Shari’a compliance in our case

CityPeshawar 311 (87)Islamabad 47 (13)Missing 0 (0)Total 357 (100)Type of accountCurrent 200 (56)Saving 149 (42)Deposit 8 (2)Total 357 (100)Type of involvementPersonal/business 290 (81)Borrowing 28 (8)Missing 39 (11)Total 357 (100)Account balanceUp to 100,000 146 (41)Above 100,000 207 (58)Missing 4 (1)Total 357 (100)Account in conventional bankYes 168 (47)No 189 (53)Missing 0 (0)Total 357 (100)Decision powerMain decision maker 303 (85)Recommender 18 (5)Influencial 36 (10)Total 357 (100)

Note: Percentage values are given in parentheses

Table I.Characteristics of thesurvey respondents

Not importantSomewhatimportant Important

Highlyimportant Missing Total

Being a good Muslim 7 (2.0) 29 (8.1) 55 (15.4) 253 (70.9) 13 (3.6) 357 (100.0)Compliance withShari’a principles 11 (3.1) 33 (9.2) 46 (12.9) 261 (73.1) 6 (1.7) 357 (100.0)Competitiveness aswell as Shari’a 15 (4.2) 51 (14.3) 54 (15.1) 233 (65.3) 4 (1.1) 357 (100.0)Future security 7 (2.0) 25 (7.0) 64 (17.9) 256 (71.7) 5 (1.4) 357 (100.0)Latest bankingtechnology 7 (2.0) 24 (6.7) 57 (16.0) 261 (73.1) 8 (2.2) 357 (100.0)

Note: Percentage values are given in parenthesesTable II.Key values in banking

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can be translated into high dissatisfaction in case the banks do not observe it. It is interestingto note that the prime importance of Shari’a compliance is not limited to depositors inPeshawar – the more religious city – because all the respondents from Islamabad – themore liberal city – answered that Shari’a compliance is important to some degree (Table III).Thus, we can claim the generalization of our findings to the whole country in terms of theimportance of Shari’a compliance as the key patronage factor for IFIs.

Of course, this does not necessarily mean that competitiveness of banking isnot important. As one can see in Table II, most depositors do expect their banks to beShari’a compliant as well as competitive in terms of security, i.e. safety of their funds andbanking technologies. Our findings support previous literature (Javalgi et al., 1989)claiming that safety of funds is the top-most consideration for US bank customers.Similarly, other studies (Riggall, 1980; Almossawi, 2001) found that a wider network ofATMs is important for the Islamic banks’ customers.

We believe that a more important question should be whether depositors are willing tosacrifice competitiveness in exchange for Shari’a compliance. Table IV shows that theyare, i.e. Shari’a compliance is more important than competitiveness in terms of return andconvenience. This confirms the findings of Gerrard and Cunningham (1997) who foundthat Singaporean Muslims were willing to sacrifice return for Shari’a compliance.

Given the answers in Table IV, it is very likely that the banks face withdrawal risk incase they are caught in violations of the Shari’a principles. Table V shows that morethan 90 percent of the respondents exhibited some degree of willingness to withdrawtheir deposits in case they found Shari’a-noncompliance such as interest payments orinvestments in Haram businesses or interest-bearing securities in their banks. All thesefindings suggest that Islamic banks may face significant withdrawal risk when they donot behave as true Islamic banks. The findings carry an important implication for IFIs:although they must not compromise Shari’a compliance for competitiveness rather theyshould strive to compete with their conventional counterparts while keeping Shari’acompliance intact in all circumstances. We believe that customers are inclined to switchtheir banks if they observe breaches of Shari’a principles and hence Shari’anon-compliance is a potential risk for IFIs.

Importance of compliance with Shari’a principles

CityNot important

(%)Somewhat important

(%)Important

(%)Highly important

(%)Missing

(%)Total(%)

Islamabad 19.1 10.6 70.2 100.0Peshawar 3.3 7.6 13.3 73.8 2.0 100.0Total 2.9 9.2 12.9 73.3 1.7 100.0

Note: Significant at: *0.1

Table III.City *importance of

compliance withShari’a principles

Do not agree Somewhat agree Agree Strongly agree Missing Total

Returns 16 (4.5) 33 (9.2) 64 (17.9) 242 (67.8) 2 (0.6) 357 (100.0)Convenience 26 (7.3) 28 (7.8) 56 (15.7) 244 (68.3) 3 (0.8) 357 (100.0)

Note: Percentage values are given in parentheses

Table IV.Willingness to sacrifice

in exchange forShari’a compliance

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3. Depositor behaviorAs we have shown in Table I, slightly less than half of all respondents have accounts inconventional as well as Islamic banks. This suggests that, even though depositors inIslamic banks put prime importance on Shari’a compliance, they may consider otherfactors when they select to bank with specific banks. Table VI helps to better understanddepositors’ motivation in selecting specific banks. Although the prime motivation forselecting an Islamic bank was compliance with Shari’a principles, most of the customerscurrently do not bank with their Islamic bank for the only reason of Shari’a compliance,but also for convenience and easy access to credit as also revealed by Table VII. Thisimplies that the IFIs should not keep other factors such as convenience, tangibles, etc.aside and just adhere with Shari’a principles because customers demand other aspectsin addition to Shari’a compliance. However, the good news for the IFIs, as also revealedby Metawa and Almossawi (1998) and Naser et al. (1999), is that most of the customersare satisfied with their products and services.

Do notagree

Somewhatagree Agree

Highlyagree Missing Total

Bank pays interest on deposits 33 (9.2) 43 (12.0) 62 (17.4) 216 (60.5) 3 (0.8) 357 (100.0)Bank invests in Harambusinesses 38 (10.6) 36 (10.1) 68 (19.0) 211 (59.1) 4 (1.1) 357 (100.0)Bank invests in interest-bearingsecurities 39 (10.9) 40 (11.2) 64 (17.9) 211 (59.1) 3 (0.8) 357 (100.0)

Note: Percentage values are given in parentheses

Table V.Willingness to withdrawon finding certainbanking practices

Motivation for selecting Islamic bankShari’a compliance 270 (75.6)Higher returns 18 (5.0)Convenience 45 (12.6)Easy access to credit 21 (5.9)Missing 3 (0.8)Total 357 (100.0)Reason for banking with this bankShari’a compliance 185 (51.8)Convenience 101 (28.3)Higher returns 18 (5.0)Better services 49 (13.7)Others 4 (1.1)Total 357 (100.00)Satisfaction with products and servicesNot satisfied 10 (2.8)Somewhat satisfied 26 (7.3)Satisfied 79 (22.1)Highly satisfied 242 (67.8)Missing 0 (0.0)Total 357 (100.0)

Note: Percentage values are given in parenthesesTable VI.Banking motives

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(1) Shari’a compliance. Table VII shows that more than 75 percent of the respondentswere motivated to select an Islamic bank because of Shari’a compliance while the otheraspects were not taken seriously. Only a quarter of the respondents answered that theychose to bank with Islamic banks not because they are Shari’a compliant but because ofother banking merits like convenience, easy credit, or higher returns. This is consistentwith results shown in Table II.

Convenience is the second most important motivation for selecting a bank, and onemay argue that 12.6 percent of the depositors may have chosen Islamic banks simplybecause of easy access to nearby branch. Table VII supports this claim by showing thatmore than one third of those who chose Islamic banks for convenience answered thatShari’a compliance is either not important or only somewhat important. Similarargument can be made regarding easy access to credit.

In Table VI, return was the least important factor for selecting an Islamic bank,revealing that depositors do not give much significance to returns. Given the fact thatabout half of the respondents have accounts in conventional banks, it can be argued thatmany people maintain accounts in Islamic banks simply to be a good Muslim and useconventional banks for convenience and better services. This is in line with the finding ofTable I where only 2.2 percent respondents have deposit accounts with the Islamicbanks. Table VIII shows that deposit-account holders are in fact putting less emphasison Shari’a compliance than current and savings account holders.

(2) Convenience and services. Table VI also shows that, when we asked about thereason to choose a specific bank, only 52 percent answered that they are currently bankingwith specific Islamic banks only because of Shari’a compliance. This suggests that

Importance of compliance with Shari’a principles

Motivation forselecting IB Not important (%)

Somewhatimportant

(%)Important

(%)

Highlyimportant

(%)Missing

(%)Total(%)

Shari’a compliance 1.5 3.8 13.2 79.6 1.9 100.0Higher returns 31.2 12.5 56.2 100.0Convenience 8.9 26.7 8.9 55.6 100.0Easy access to credit 10.5 21.1 21.1 42.1 5.3 100.0Missing 33.3 66.7 100.0Total 2.9 9.2 12.9 73.3 1.7 100.0

Note: Significant at: *0.1

Table VII.Motivation for selecting

IB *importance ofcompliance with Shari’a

principles

Importance of compliance with Shari’a principlesType of accountwith the IB

Not important(%)

Somewhatimportant (%)

Important(%)

Highlyimportant (%)

Missing(%)

Total(%)

Current 4.1 6.2 13.8 72.8 3.1 100.0Savings 7 13.1 11.0 75.2 100.0Deposit 12.5 12.5 25.0 50.0 100.0Total 2.9 9.2 12.9 73.3 1.7 100.0

Note: Significant at: *0.1

Table VIII.Type of account with the

IB *importance ofcompliance with Shari’a

principles

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convenience and better services are also sought-after aspects but this does not mean,as discussed previously, that customers are willing to sacrifice Shari’a compliance. One mayeven go one step further and argue that many of the depositors might be willing to sacrificebank’s competitiveness for its Shari’a compliance although they might be disgruntled ifthe bank swaps Shari’a compliance for competitiveness. Of course, such compromise maynot be tolerated by those who consider Shari’a compliance to be highly important.

The table also shows that about 90 percent of the respondents are satisfied withcurrent products and services of Islamic banks: 67.8 percent of the respondents arehighly satisfied and 22.1 percent are satisfied. Although such a high level of satisfactionof depositors may indicate that Islamic banks provide competitive products andservices, one may argue that it might not necessarily mean that the products and servicesare as competitive as conventional banks. Table I showed that about half of therespondents have accounts in CBs in addition to accounts in IBs. When we asked aboutthe motivation for concurrently having conventional accounts, more than two-thirdpointed out to convenience and better services as the main factors (Table IX). Hence,we may still argue that convenience and service quality of Islamic banks are not ascompetitive as those provided by conventional banks. It can be further argued thatIslamic banks are lacking behind their conventional counterparts in terms ofconvenience because of small branching network of Islamic banks.

(3) Indifference to return. It is interesting that higher return does not seem to be a veryimportant factor affecting depositors’ selection of specific bank. In Table VI, only 5 percentof the depositors have their accounts with Islamic banks for higher return, and only 5 percentchose specific Islamic banks for higher return. In Table IX, only less than 20 percent of therespondents chose higher returns as a main motivation for banking with conventionalbanks. Although 19.6 percent is significantly higher than 5 percent, higher return is not astrong motivation for selecting a conventional bank to most of the respondents (Table X).

It can be argued that most depositors are simply putting their money in banks foravailing banking services and not for earning returns, and that they have otherattractive venues for investments. As one can see in Table XI, depositors having anaccount balance of PKR100,000 and above are primarily looking for Shari’a compliancewhile also giving due importance to convenience. Consideration for higher returnsis still negligible. The depositors in the lower cadre are seeking all aspects, i.e. Shari’acompliance, convenience and better services while still giving the most importance

Convenience Higher returns Better services Salary or other reasons Total

75 (44.6) 33 (19.6) 40 (23.8) 20 (11.9) 168 (100.0)

Note: Percentage values are given in parentheses

Table IX.Reason for havingaccounts inconventional banks

Importance of compliance with Shari’a principlesAccount inconventional bank

Not important(%)

Somewhatimportant (%)

Important(%)

Highlyimportant (%)

Missing(%)

Total(%)

Yes 3.7 13.7 9.9 70.2 2.5 100.0No 2.1 5.3 15.5 75.9 1.1 100.0Total 2.9 9.2 12.9 73.3 1.7 100.0

Table X.Account in conventionalbank and importanceof compliance withShari’a principles

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to Shari’a compliance with less emphasis than the depositors in the upper cadre.Alternatively, one may argue that indifference to return may come from religiousbackground. About half of the respondents have accounts have accounts in conventionalbanks primarily for availing convenience. The table might suggest that many depositorsget convenience and services mostly from conventional banks but simultaneously haveaccounts in Islamic banks simply to become good Muslims. As shown in Table XI, morethan 93 percent of the depositors who have accounts in conventional banks answeredthat Shari’a compliance is important to some degree – a result that is not much differentfrom answers by depositors who have accounts only in Islamic banks.

4. Withdrawal riskGiven depositors’ strong emphasis on Shari’a compliance and willingness to withdrawfrom banks when they find violations, one may expect that depositors of Islamic banksmonitor behaviors of their banks closely in order to make sure that they are in factShari’a compliant. Table XII shows otherwise.

Table XII shows that even though more than two-thirds of the respondents believe thattheir Islamic banks are Shari’a compliant, actual knowledge of the bank’s behavior is onlylimited. Thus, it can be argued that most depositors have trust in the IB’s Shari’a boardsleading to a blind trust on the banks’ Shari’a compliance. Hence, it is important tounderstand whether Islamic banks are in fact Shari’a compliant and what the depositorsactually do in case they found that their banks are not. Tables XII and XIII show thedepositors’ belief that most of the Islamic banks are reasonably compliant with the Shari’aprinciples, but also suggests that one cannot ignore the potential for noncompliance.

Account balanceConvenience

(%)Shari’a compliance

(%)Higher returns

(%)Better services

(%)

Upto 100,000 34.30 44.80 1.40 18.20100,000-1,000,000 23.80 60.60 6.90 7.50Above 1,000,000 21.40 47.60 11.90 19.00Total 28.10 52.40 5.20 13.20

Table XI.Preferences of large

and small depositors

Belief that the bank is Shari’a compliantDo not believe 22 (6.2)Some what believe 44 (12.3)Believe 39 (10.9)Highly believe 247 (69.2)Missing 5 (1.4)Total 357 (100.0)Sufficient knowledge about the bank’s investmentNo knowledge 63 (17.6)Somewhat knowledge 47 (13.2)Enough knowledge 65 (18.2)Expert 179 (50.1)Missing 3 (0.8)Total 357 (100.0)

Note: Percentage values are given in parentheses

Table XII.Depositors’ beliefsand knowledge of

banks’ behavior

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Although detected Shari’a noncompliance is rather infrequent, one may argue that theactual level of noncompliance might be significant given the inadequate level of depositors’knowledge on banks’ investment activities. In other words, the table may suggest thateither the banks’ Shari’a compliance is reasonably good, or that the depositors cannotdetect violations because of their blind trust in the banks’ Shari’a boards. If the latter is thecase, recent decrees[2] against the current Islamic banking system by some Shari’ascholars can prove to be a drastic set-back to the Islamic banking industry.

The table also shows that half of the depositors who actually found Shari’anoncompliance did not react at all. Given that, in earlier tables, more than two-thirds ofthe respondents answered that Shari’a compliance is the major motivation to bankingwith Islamic banks, there is some discrepancy between what people believe in and howthey behave. Still, an interesting fact is that 20 percent of the depositors who foundShari’a noncompliance did close their accounts. This suggests that withdrawal risktriggered by Shari’a noncompliance is not insignificant. Of course, the claim may be alittle weak because we have only four cases. In this regard, however, it is noteworthy thatanother 30 percent registered a complaint either with the branch manager or with thebank’s headquarters. One can argue that those who complained to the banks are morelikely to withdraw their deposit if Shari’a noncompliance remained uncorrected for anextended period. The case might be that because switching banks is not an easy task tomany depositors, they are willing to forgive the bank for a few instances of Shari’anoncompliance. Repeated violations of the Shari’a principles, however, will eventuallylead these disgruntled depositors to close their accounts in the bank. In line with thisargument, one may expect that even those who did not take any action against theShari’a noncompliance are not necessarily happy with it. They can also be included inthe disgruntled customers’ category who can take serious action at any point in caseShari’a noncompliance persists. We argue that what really counts is the fact that, asshown in Table IV, more than 90 percent of the depositors are willing to sacrifice higherreturns and convenience for the sake of Shari’a compliance. This is also supported by thefact that most of the depositors are not even interested in higher returns.

Concluding remarksIslamic banking has emerged to meet the banking needs of the Muslim community lookingfor banking services that do not violate the Shari’a principles. Thus, it is important for IFIsto adhere to its core principles of Shari’a compliance even at the expense of some return.This paper and some previous literatures (Gerrard and Cunningham, 1997) suggest that

Did you notice Shari’a non-compliance in your bank?Yes 20 (5.6)No 337 (94.4)Total 357 (100.0)Reaction to Shari’a non-complianceClosed account 4 (20.0)Complained to the branch 5 (25.0)Complained to the head office 1 (5.0)No reaction 10 (50.0)Total 20 (100.0)

Note: Percentage values are given in parentheses

Table XIII.Shari’a non-complianceand depositor reactions

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customers are also willing to forgo some of their monetary returns for Shari’a compliance.Even though customers also seem to forgive their Islamic banks for a few instances ofShari’a noncompliance, the implications for IFIs is that Shari’a compliance is a coresatisfaction criteria for their customers and repeated violations will lead to unsatisfiedcustomers.

However, customers also seem to pay due consideration to other bank patronagefactors like convenience, better technology and better services. This observation carriesimportant repercussion for IFIs. Although most of the customers start banking with anIslamic bank mainly because of Shari’a compliance, they are also expecting the banks tooffer competitive services as those of the conventional banks. The Islamic banks, thus,have to meet two fold bank patronage factors; Shari’a compliance and competitivenesswith the conventional banking system in terms of convenience, services, products,friendliness, tangibles, technology, safety of funds, returns, etc.

Although originally motivated by the demand for Shari’a complaint products, theindustry is now becoming a major alternative to the conventional financial system. It ismost probable that the depositors of the Islamic banks might not only be interested inShari’a compliance but may also be attracted to Islamic Banks because of theirprofitability and socially responsible activities. Although we have reached interestingconclusions in this study, we believe that further research is required in this area tohighlight the key patronage factors to the IFIs especially looking at Shari’a complianceand the potential risks of non-compliance with Shari’a principles.

Notes

1. 100*357/450 ¼ 79.

2. A Fatwa was issued by Darul Uloom Binoria Town on August 28, 2008 which declared thecurrent Islamic banking system as a violation to the Shari’a principles.

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Corresponding authorShakir Ullah can be contacted at: shakir_fla@hotmail.com

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