KARACHI: With less than two years left before a constitutional deadline to eliminate interest-based banking, Pakistan’s government has published a detailed strategy outlining how it intends to overhaul the country’s financial system without triggering economic disruption.
The document, titled “Post-2027 Financial System in Pakistan,” responds to two binding legal mandates: the Federal Shariat Court’s April 2022 ruling that riba (interest) must be “absolutely” eliminated from the financial system, and the 26th Constitutional Amendment of October 2024, which fixed the deadline at January 1, 2028.
Building on an Established Base
Unlike many countries attempting Islamic finance reform from scratch, Pakistan already operates a hybrid system. Islamic banks and conventional banks offering Islamic banking branches have coexisted since the early 2000s, and by the end of 2025 the Islamic Banking Industry held PKR 14,467 billion in assets, 23 percent of the banking sector’s total, with deposits of PKR 11,037 billion, representing 28 percent of system-wide deposits and 38 percent of financing.
The paper argues this gives Pakistan a head start: a significant share of the equity market, pension schemes, Modarabas, and non-bank financial companies are already Shariah-compliant, while Islamic banks have posted stronger asset-quality metrics than their conventional peers, including a 2.4 percent non-performing financing ratio and capital adequacy of 17.5 percent.
No Forced Conversions, No Broken Contracts
Officials have built several safeguards into the plan to avoid market shocks. Existing conventional contracts will be honored through to their original maturity dates, both domestically and with international creditors.
Banks majority-owned by foreign shareholders are exempt from mandatory conversion and may continue running conventional and Islamic operations side by side. Domestically owned institutions, by contrast, are expected to transition to fully Islamic models once the necessary legal, tax, and liquidity infrastructure is in place.
From 2028 onward, the government plans to fund all new domestic borrowing through Shariah-compliant instruments, while allowing conventional securities already in circulation to remain usable for bank liquidity management until they mature.
The Sukuk Engine
Central to the plan is a newly developed “hybrid Sukuk” structure blending Ijarah and Murabaha contracts, which received approval from the State Bank of Pakistan’s Shariah Advisory Committee.
The structure lets the government issue Sukuk worth nearly double the value of the assets backing them — a mechanism the first transaction already put to use, raising PKR 109 billion across one-year and ten-year tranches on April 17, 2026.
To keep that pipeline supplied, the government is moving to set up an Assets Registry Company, a Finance Division-housed entity that will catalogue non-current federal assets eligible for use as Sukuk collateral. Agencies will continue using their assigned assets normally; only the financial designation changes. Cabinet approval for the company is still outstanding.
Central Bank Tools Taking Shape
The State Bank has already activated Shariah-compliant open market operations and a Shariah-compliant standing ceiling facility for liquidity management. A matching liquidity-absorption floor facility awaits a larger supply of sovereign Sukuk before it can be operationalized.
Deposit protection and lender-of-last-resort facilities for Islamic banks are already running, though the broader bank resolution framework still needs updating to reflect the new system.
The strategy also tackles a politically sensitive technical issue: what becomes of retained earnings when conventional banks convert. A State Bank-led working group of Shariah scholars and bank finance chiefs has produced several compliant mechanisms to let banks preserve these reserves after conversion, with some already cleared by the Shariah Advisory Committee.
Legislative and Institutional Groundwork
A review of banking laws against the Federal Shariat Court’s judgment is largely finished, producing what the paper calls “minor” amendments. A broader review of commercial and financial legislation is due to wrap up this year, ahead of parliamentary enactment in 2027. On the technology side, banks have told regulators that an IT switch poses limited risk, since most already run the systems needed for Islamic banking through their existing windows.
Risks the Government Is Watching
The paper is direct about where the biggest obstacles lie. Converting Pakistan’s existing conventional public debt stock into Shariah-compliant instruments tops the list, with the Assets Registry Company and a planned annual Sukuk issuance calendar positioned as the primary tools to manage it.
Developing shorter-tenor Sukuk, three- and six-month instruments, is flagged as a second key challenge, though the State Bank says work on these structures is at an advanced stage. Large-scale staff training across the banking sector rounds out the list of risks the strategy aims to mitigate through its capacity-building programs.
The Bigger Picture
The plan rests on coordination among the federal and provincial governments, the State Bank, the Securities and Exchange Commission of Pakistan, and other regulators, organized around seven workstreams spanning legislation, public finance infrastructure, foreign financing arrangements, regulatory alignment, financial safety nets, monetary policy, and public awareness.
Whether the transition meets its own standard of being “gradual, smooth and without any major disruption” will likely depend on execution over the next eighteen months, particularly on how quickly the Assets Registry Company gets off the ground and how deep a market develops for the short-tenor Sukuk that banks say they need most.
