London, Wednesday, March..6,2008 } LONDON—After taking a battering from the global credit crisis, London has a potential ace up its sleeve as it seeks to restore its reputation as a global financial center—its premier position in the Islamic banking industry.The British government will decide next week if it will issue a sovereign Islamic bond, or sukuk, a new avenue into a market that’s estimated to eventually reach $4 trillion by Standard & Poor’s.

“It will further underline London as an international Islamic financial center,” said Humphrey Percy, the chief executive of the Bank of London and the Middle East, one of four Islamic banks in the British capital.

“It will be the first hard currency, highly rated, government sukuk to be issued. These are all milestones,” Percy said at BLME’s headquarters in the capital’s financial district, where the bank opened for business just six months ago.

Islamic financing is increasingly seen as a key support to London’s reputation as a financial center, which took a beating recently due to the failure of Northern Rock PLC and criticism of proposals to raise taxes on wealthy expatriates living here.

“Islamic finance is a tool that the government realizes it has in its hand, which it can utilize to re-establish some clear blue water between themselves and Wall Street,” said David Testa, chief executive officer of Gatehouse Capital PLC. Gatehouse is expecting to receive its license to become the fifth standalone Islamic

bank in London within weeks.As the fallout from the U.S. credit crisis continues to take its toll on banking, interest is rising on banking which conforms to Shariah, or Islamic law. It forbids interest and requires deals to be based on tangible assets, which have provided some insulation from credit turbulence.

Shariah compliant products attempt to replicate the concept of interest through cost-plus transactions, leasing arrangements or by linking payments to returns on underlying assets. The process is normally blessed by a board of religious scholars affiliated with a bank.

While more than two-thirds of Islamic finance business is currently originated in the Middle East, the region is increasingly looking to international capital markets to finance the grander development projects. A $1.5 billion sukuk issue from Dubai Ports World and arranged by London-based Barclays Capital last year allocated 60 percent of its bonds to Western buyers.

A British government sukuk—which could be announced in next week’s annual budget—would increase liquidity in the market and expand the secondary commercial market in the takaful, or Islamic insurance, sector.

“Sukuk and other bonds would absolutely explode,” David Lewis, the Lord Mayor for the City of London, the capital’s financial district, told leading Islamic bankers at a meeting this week. “If we in London could promote such a market, there would be huge international interest.”

Unlike conventional bonds, a sukuk gives investors a share in an underlying physical asset, such as leased land, as well as the income that it generates. Takaful, where resources must be pooled, benefits because a sukuk offers a tradable fixed income component that was previously lacking.

The global sukuk market grew by 75 percent to reach $85 billion in the first half of 2007, the most recent figures available. The $24.5 billion raised in the first half alone nearly surpassed 2006 new issuance of $26.8 billion, according to the Islamic Finance Information Service.

The potential of the commercial sukuk market was demonstrated in December by the launch of a $300 million convertible bond for Tamweel, the second largest mortgage lender in the United Arab Emirates. Tamweel said its bond issue, managed by Barclays Capital, was oversubscribed within hours.

Rodney Wilson, chairman of the London-based Institute of Islamic Banking and Insurance, noted that some other deals had been put on hold—UAE-based Dana Gas postponed its $1 billion sukuk until September due to credit market weakness, while First Gulf Bank of the UAE and Bahrain’s Ithmar Bank deferred their issues.

“On the other hand, there is no Islamic financial institution which is in trouble,” said Wilson.

Wilson added that the British government is likely to go ahead with the sukuk even after a furor earlier this year over comments from Rowan William, the archbishop of Canterbury and the head of Britain’s Anglican Church, that a limited application of Shariah in Britain was inevitable.

“The sukuk would look very good in the interest of the Islamic finance altogether and U.K. Muslim community in particular,” said Wilson.

Britain has worked to position London to take advantage of the rapid growth in wholesale Islamic banking. It is the only Western country among the top 15 for Shariah-compliant assets, ranking ninth, according to industry group International Financial Services London.

Both retail and wholesale services have grown rapidly since the Islamic Bank of Britain became the first domestic bank to cater exclusively to the country’s 2 million Muslims just four years ago. There are now also some 23 conventional banks, including Lloyds and HSBC, offering Islamic products.

In contrast, France, with a Muslim population of more than 5 million, has just four conventional banks offering Islamic products.

The United States is the only other country that comes close to Britain, with around 20 Islamic banks, but those are so far predominantly focused on domestic retail operations instead of high finance.

London is also far ahead in training for the industry. The Islamic Finance Qualification offered by its Securities and Investment Institute is recognized around the world and the Chartered Institute of Management Accountants’ Certificate in Islamic finance is the first offered by a professional chartered accountancy body.

The burgeoning market is not without its problems, however. Shariah scholars disagree about what constitutes compliance with Islamic law.

One of the world’s leading scholars, Sheik Mohammed Taqi Usmani, recently rattled the market by saying 85 percent of sukuk are not Shariah compliant because they were too much like conventional interest-bearing bonds.

Wilson said that a consensus would likely evolve with time.

“I don’t really see any huge problems ahead,” he added. “I expect it will expand into other areas and more conventional institutions will join which is what we are seeing now.”