May 2009 Every country in south-east Asia wants to be a "hub" for something. Logistics, air transport, the arts, education, information technology - governments are always announcing tax incentives or setting up development zones for the latest favoured strategy.

Malaysia's ambitions include being the hub for the region, and perhaps the world, for Islamic financial services.

It is one of the most industrialised and politically stable Islamic countries. There is a domestic market of 15m Muslims. Economic output per head is about three to four times that of the average for the developing world.

It is well located, too.

Neighbouring Indonesia is the country with the world's most Muslims - some 200m. Ironically, Indonesia's legal system, which grew out of Dutch colonial law, is not particularly friendly to Islamic investment.

Malaysians are becoming more wealthy and sophisticated in their financial needs. Having such customers at home helps Malaysian institutions develop skills and capabilities they can use when expanding abroad.

Back in 1991, the thenp-rime minister, Mahathir Mohamad, set out his vision for Malaysia to become a developed country by 2020. That included creating "a community with a fair economy" - and the government has played an important role in promoting the development of Islamic finance in order to reflect those ideals.

It set up the Malaysia International Islamic Financial Centre to be a one-stop shop for financial firms setting up in the country.

"A lot of development has been government-driven," says Jennifer Chang, a senior executive director with PwC in Kuala Lumpur, who specialises in the taxation issues that Islamic financing creates.

The government started the Islamic sovereign bond market when in 2002 it borrowed $600m through a global sukuk. In the same year, Guthrie, the state-linked plantation owner raised $150m through a pioneering global Islamic bond.

That impetus helped Malaysia become world leader for Islamic bond issuance. In 2008, there was $11.7bn raised through international Islamic issues, according to Thomson Reuters, and $4.6bn was in Malaysia - a market share of 39.1 per cent.

This year has started well. Issuance is running at twice the rate of 2008 - which was a bad time to borrow money whatever your religious beliefs - and has returned to levels last seen in 2007. Malaysia has accounted for $1.6bn of the $3.6bn of raised on Islamic fixed-income markets in the year to end-April.

Malaysia is also a big centre for Islamic fund management. PwC says there were 149 Islamic funds domiciled and managed in Malaysia by late last year, against 131 in Saudi Arabia.

Kuala Lumpur accounts for about 0.6 per cent of world stock market capitalisation, about the same size as stock markets in the Netherlands and Norway.

More than three-quarters of the securities listed on the Bursa Malaysia are sharia-compliant.

However, Malaysian companies are relatively small by international standards, with the result that few of them make it into leading Islamic equity global benchmarks.

Just 17 out of the 1,268 companies in the FTSE Sharia All-World Index are Malaysian, representing 1 per cent of capitalisation. Malaysia's capital, Kuala Lumpur, is home to the Islamic Financial Services Board, which sets international standards for Islamic banking, capital markets and insurance.

Of course the presence of the IFSB does not guarantee that Kuala Lumpur will become the world centre for Islamic finance; Basel in Switzerland is not the world centre of banking just because the Bank for International Settlements, the organisation for central banks, is there.

Nevertheless, just as Switzerland is important for banking, the IFSB's presence helps build up a network of expertise that other institutions can draw upon. Big Middle East banks have also set up in Kuala Lumpur. Bank Negara Malaysia, the central bank, is liberalising regulations.

It is taking applications for Islamic banking licences from further foreign banks with a minimum of $1bn in paid-up share capital. "It really helps the exchange of ideas if foreign banks set up here," says Ms Chang at PwC.

Malaysia does face competition. Neighbouring Singapore is much better-established as an international finance centre. Muslims may be in a minority in the city state, but that has not stopped the Singapore government from trying to expand the financial sector into Islamic products.

Hong Kong has signalled its intention to develop as a conduit for Islamic investment into and out of mainland China.

Ms Chang thinks it is inevitable that other financial centres will seek Islamic business, but none will dominate.

"London is trying to be the hub for western markets, and Dubai for the Middle East," she says. "I don't think it's realistic to say that any country could become the global hub."

By Andre omar 1.1:zy