Islamic Finance
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Islamic banking & finance is an offshoot of Islamic economics, although the former has for sometime started behaving like a run-away child of the latter. The de-linking of Islamic economics and Islamic banking & finance is becoming rapidly visible, with an ever-increasing focus of Islamic financial institutions on "Sharia compliance" only without giving much consideration to ethical side of doing business in conformity with Sharia. I must clarify my point at the outset that it does not necessarily mean that Islamic financial institutions are not ethical. As an Islamic economist who is involved in Sharia advisement, I have yet to come across any Islamic financial institution who does not conform to a set of ethical rules but, equally, I have yet to see an Islamic financial institution which is more ethical than Islamic. I hope I am making sense here!
I have many a times stated in my speeches delivered all over the world that consideration of ethical investing in Islamic finance is by and large a Western influence. It is brought to my attention that my this argument sometimes confuses people who think that Islamic banking & finance is very much ethical by its very nature and, hence, it is not fair to attribute ethical influence to the West. Probably they are right but I refer to Western ethical investing movements - socially responsible investing (SRI) or corporate social responsibility (CSR) - which are primarily Western initiatives. Islamic banking & finance has by and large failed to come up with a new model of ethical banking. It is, however, introducing certain CSR-related practices in its operations as a direct or indirect influence of some Western or secular practices. For example, the contemporary ban on investing by Islamic funds in tobacco is a Western influence, otherwise there is no widespread consensus amongst scholars of Islam on the strict prohibition of tobacco. Similarly, inclusion of weapons industry in sectoral screens used by Islamic equity index providers has no strict Islamic background. Moreover, provision of microcredit by some Bangladeshi Islamic banks is influenced by the success of Grameen Bank1.
Having said that, Islamic banking & finance has grown beyond expectations of many those observers who considered it a fad or a consequence of the new "free" money (petrodollars) enjoyed by Arabs. Contrary to these views, Islamic banking & finance has proven to be a sustainable way of doing financial business and is not necessarily linked with the rise of petrodollars - admittedly helped by the increase in oil prices. While the GCC Arabs are still playing an important central role in the development of Islamic banking & finance, the Far Eastern Muslims led by Malaysia have also contributed to growth & development in this field. Islamic banking is growing significantly in other countries like Bangladesh, Indonesia and Pakistan but somehow these developments do not get mentioned in the Western media probably because of relatively less openness of (or less interest in) these regimes for (by) the Western banks. This is in particular true in case of Sudan that remains one of the least attractive destination for Western banks, despite it being a centre for Islamic banking and finance. In fact, now Islamic banking & finance has become a global phenomenon. The British government is not only taking a keen interest in Islamic banking & finance but is also playing an instrumental role in its development in the UK, which will have positive effect on growth of Islamic banking & finance in the wider European markets. Other governments like Singapore and Hong Kong are also active or started to be actively involved in this phenomenon.
This brings us to a multi-million question. Is Islamic banking a religious phenomenon? Perhaps it is but not entirely. It is a multi-faceted phenomenon, which has economic, social, political and religious roots. As stated earlier, Islamic banking & finance grew out of Islamic economic doctrines as developed by a genre of Muslim economists who prefer to call themselves "Islamic economists." These economists, while influenced and motivated by religious teachings are, however, not clergies. One of the greatest Islamic economists, Muhammad Umer Chapra2, for example studied at conventional schools and universities (B.Com and M.Com from the University of Karachi in Pakistan and PhD in economics from the University of Minnesota in USA). He is probably the most influential Islamic economist in the world, who has written numerous books, academic papers and has spoke on Islamic economics all over the world. He represents contemporary Islamic intellectual leadership in matters related with economics, banking and finance. Other great personalities in Islamic economics include Khurshid Ahmed, Nijatullah Siddiqi, Muhammad Anas Zarka, Rafic Al-Misri and many others3. Most of these scholars do not have traditional Islamic background, i.e., they did not attend traditional Islamic seminaries or Madrassas. As an outgrowth of Islamic economics, Islamic banking & finance is thus influenced by a non-traditional Islamic intellectual thought led by Islamic economists. This is very interesting, as it represents a shift in Islamic intellectual leadership away from the clergy. Even when we look at the Sharia scholars involved in Islamic banking & finance, most of them are not actually clergies but experts of Islamic economics, Sharia & law and other Islamic disciplines, who received their education from modern universities. More importantly, these Sharia scholars prefer to stay away from Islamic political movements. This can be seen as emergence of a non-political leadership in Islamic intellectualism.
Islamic banking as an engine of growth in Islamic intellectual thought
Modern Islamic banking & finance is in fact bringing a lot of new practices in the realm of Sharia compliant trade and commerce. Given the economic reality in the world, including the Islamic world, Islamic banking & finance is bringing tolerance and acceptance of some of otherwise prohibited activities (or business practices). For example, the Sharia screening methodologies used for investing in the publicly listed companies allows Islamic funds (or Muslims) to invest in companies that may have borrowed on interest basis. The threshold for interest-bearing debt for such companies is 33 percent of equity or in some case of total assets. This is a very interesting "exception" which Islamic funds enjoy. The question arises: is this exception going to pave way for acceptance of interest up to 30 or 33 percent per annum in individual financial transactions? Probably not but there is already 5 percent tolerance for interest (or any other prohibited income) as percentage of total income of the company. In the Middle East, it is insisted that this component of the income should be purified, i.e., given away to a designated charity, while in the Far East, it is not a strict requirement. Similarly, imposing a penalty charge on late payment or default of debt has now (after a long debate) been accepted by Sharia scholars with the insistence that the penalty amount must be spent on a charitable cause. In Malaysia, however, Islamic banks can retain the penalty. In the past Bank Negara Malaysia (the central bank) fixed 1 percent as the maximum penalty that Islamic banks could charge and retain but recently the amount has been revised upwards to 8 percent of the amount of loan outstanding.
Recent innovations in Islamic finance
Islamic finance has recently witnessed a new wave of innovation in which I have played a role. Most conservative Muslims have problems with innovation. Any thing new is somehow seen with suspicion. I am increasingly getting convinced that Muslims' identity crisis is going to hinder further development of Islamic banking & finance. A strong urge amongst conservative Muslims to differentiate themselves from other communities is a factor responsible for slow innovation in Islamic finance. Such Muslims are not willing to accept any thing developed by non-Muslims or what is known as conventional in Islamic banking and finance. Some extremists believe that financial intermediation in the form of banking is incompatible with Islam. Hence, they reject the very notion of Islamic banking. Others who somehow accept Islamic banking as a desirable phenomenon stress that it should be based on profit loss sharing rather than on principles like Murabaha, Ijara and Salam, which can be used to replicate economic effects of conventional products - in a Sharia-compliant way.
I have played a role in the development of Sharia-compliant swaps, based on a simple concept called Wa'd - or promise. A promise involves an option, as in Islamic law promises may be binding on promisor, if promisee calls upon it . When one party A promises to sell an asset to another party B for a specified price P on a future date T, this involves an option for the promisee (party B). If on T, the then market price of the asset is higher than the promised price P, party B will not call upon the promise given by party A, as it makes no economic sense for party B to sell an asset cheaper to party A when it can otherwise sell it in the market for a higher price. However, if on T, the then market price of the asset is lower than the promised price, B will call upon the promise given by A to sell the asset to A to make a profit equivalent to the difference between the promised price and the market price of the asset on date T.
This principle has revolutionalised the practice of Islamic banking & finance but somehow conservative Muslim mind is unwilling to accept it because it may allow Islamic banks and financial institutions to structure financial swaps similar (in economic effect) to conventional swap contracts. I tell these guys that if you don't accept such financial arrangements which attempt to replicate economic effects of conventional products, then bring me an Islamic marriage contract that does not involve sex, to differentiate it from the Western practice of co-habitation.
More to follow...
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1 It is interesting to note that Islamic banking started as an institutional response to lack of credit available to the rural poor in Egypt. This was essentially the focus of Islamic banking in 1960s, which gradually started drifting away in 1970s, especially after 1975 when Dubai Islamic Bank started its operations in an urban centre. While Islamic banking was moving away from the rural poor, Grameen Bank was taking shape as a microcredit institution offering credit to the Bangladeshi poor. Founder of Grameen Bank, Professor Muhammad Yunus, received world-wide recognition and received Nobel Peace Prize in 2006. Islamic banking & finance continues its search for a true social identity. 2 For further details on Dr Chapra, visit his website http://www.muchapra.com. 3 A detailed list to be included later.
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