Vol. 1, No. 13 (August 1, 2008)

’Guerilla Islamic finance:’ Islamic banking the Azerbaijani way

Fuad Aliyev
Project Manager & Research Fellow
Azerbaijan Diplomatic Academy

Despite government suspicions about the threat any religion-based activities may have for secularism, an increasing number of Azerbaijanis are exploring ways to introduce Islamic banking into the country, within the existing legal and normative framework, however unfriendly to such efforts those arrangements are.  This article considers some of the challenges these efforts face and analyzes what some call “Guerilla Islamic Finance” as a possible harbinger of future trends.  
At the present time, there are two levels in Azerbaijan’s banking system, a central national bank (NBA) and a number of commercial private banks.  Both are regulated by national legislation, with the banks performing most of the functions familiar to students of banking in Western countries and banned from getting involved in trade, manufacturing and other businesses as owners or operators.  The system has suffered on occasion through the lack of sufficient prudential regulation and supervision, but the government has gradually moved to tighten its monitoring of liquidity and liabilities in line with Basel principles and thus improved public confidence in banks.
Could Islamic banking fit into this system?  In principle, yes, because Islamic banking represents a system of financial intermediation that avoids interest-based transactions based on Islamic teaching concerning halal and haraam and intended to ensure justice and equity.  By so doing, such banking makes use of profit and loss sharing (PLS) transactions, an arrangement that can allow Islamic banks to function alongside non-Islamic ones. 
Although there were attempts to set up such banks as early as the late 1950s in Pakistan and in Egypt in 1963, the beginning of the period of modern Islamic banking dates to 1975 when the Islamic Development Bank (IDB) was established to provide development financing.  That bank and its successors use a number of banking “modes,” many of which are unfamiliar to those who know only about Western banking system.  
These include Ijara, a form of leasing, which involves a contract where the bank buys and then leases an item to a customer for a specified rental over a specific period; Mudaraba where there is a contract between two parties, one of which provides the funds and the other provides the expertise while both agree to the division of any profits made in advance; Murabaha which takes the form of a contract for purchase and resale and allows the customer to make purchases without having to take out a loan and pay interest; Musharaka which is a partnership that involves placing one's capital with another person and both sharing the risk and reward; and Qard ul-Hassana, a kind of loan free from profit but where service fees may be involved. 
There are currently four kinds of modern Islamic banks: first, Islamic banks and financial institutions that operate in a fully-fledged Islamic banking system such as Iran, Sudan and Pakistan; second, Islamic banks and financial institutions that work in a dual banking system; third, Islamic banking activities undertaken by conventional banks; and fourth, international financial institutions such as the IDB which operate on the basis of Islamic principles.
Islamic banking is spreading in many post-Soviet states, but it faces some particular obstacles in Azerbaijan.  Among them are the absence of any regulatory-legislative basis for Islamic banking, the NBA's unfriendly attitude, the lack of the necessary legislative and supervisory framework, the absence of an interest-free financial marketplace, and the lack of linkage institutions to provide those entering this sector with information and support. 
Nonetheless some progress in this sector has been made, progress that we can call “Guerilla Islamic Finance” – banking activities “hidden” under the forms of conventional banking and thus accepted by the regulators.  Of four above-mentioned types of Islamic banks two are in principle possible in Azerbaijan: Islamic banks and financial institutions that work in a dual banking system and Islamic banking activities undertaken by conventional banks. 
Some elements of Islamic finance have been introduced into Azerbaijan via the activities of the Kovsar Bank, which positions itself as an Islamic bank; the collaboration of local banks, including the International Bank of Azerbaijan with the Islamic Development Bank (IDB), and the activities of the Caspian Invesment Bank. 

The Kovsar Bank uses mudaraba and musharaka, and also from the sale of bills of bank analogous to sukuk.  But it remains unclear how this bank is able to do this given existing regulations, because the bank is not open to the public and because it releases little information.  Consequently, just how much of a contribution it has made in this direction is uncertain. 
The situation regarding collaboration of local banks with the IDB is clearer.  Several Azerbaijani banks work with the IDB.  According to the project coordinator Mr. Behnam Qurbanzadeh under this project IBAR allocated six million USD through ijarah, ijara thumma al bai' and installment sale.  These operations do not contradict the Azerbaijani legislation and could be “hidden” under the accepted terms of conventional banking.  Local banks can thus open “Islamic windows” and render bank services and products to the client segment, but such a partial Islamic banking does not cover so called “passive” banking operations dealing with deposit accounts.
And finally there is the case of the joint Caspian Investment Company set up in November 2007 by the Azerbaijan Investment Company and the Islamic Corporation for the Development of the Private Sector.  Because it is not technically a banking institution it will be easier to implement the investment activities and various projects based on Islamic financial principles although it will not be allowed to render banking services or collect deposits.
There are thus several ways in which Islamic banking may be introduced in Azerbaijan.  While the future of any of those remains uncertain even for those prepared to engage in such operations, some local experts drawing on the international expertise suggest that promoting “Islamic windows” within local banks would be the most plausible way to go though this would require greater involvement on the part of the local banking system and deeper collaboration with the IDB. 


Aliyev, Fuad (2007). “Islamic Revival in Azerbaijan: the Process and Its Political Implications,” The Caucasus and Globalization, 1 (2).

Raquib, Abdur (2007). Principle and Practice of Islamic Banking, Dhaka: Panam Press. 

Warde, Ibrahim (2000). Islamic Finance in the Global Economy, Edinburgh University Press.