islamc banking

8/7/2019 islamc banking

1/25

FOR A BETTER ECONOMICAL AND SOCIAL WORLD


2/25

"People think that Islamic Banking system is

based on faith, but it's based on justice. The

system is based on justice for the two partiesand how you get to the justice is extracted from

Islamic faith"


3/25

INTEREST IS ONE OF THE MAIN SOURCE OF BANKS EARNING

y A bank generates profit from the differential

between the level of interest it pays for depositsand other sources of funds, and the level of

interest it charges in its lending activities.


4/25

INTEREST A SOCIAL AND ECONOMICAL EVIL

y Samuelson states that Interest is the price of rental for the

use of money

y J.M. Keynes did not define interest but mentioned the rate of

interest as The percentage of excess of a sum of units of

money contracted for forward units of time over the spot or

cash price of the sum thus contracted for forward delivery


5/25

y Roy Harrod,regards the

abolition of interest is the only

way to avert a collapse of

capitalism. Not only this, but hespeaks with great admiration for

an interest-less society in his

work on Economic

Dynamics (London:Macmillan,

1973).


6/25

y In the Book, the FUTURE OF

MONEY, Bernard lietar, he

expertly highlights the intrinsic

danger of Interest and thenmentions how Islam has

admirably represented the last

bastion of resistance. He

illustrates how interest is direct

cause of inflation, wealth

imbalance contributing richgetting richer and poor getting

poorer.


7/25

INTEREST PROHIBITED IN HINDUISM & BHUDDAISMy The oldest references to usury are found in religious manuscripts of

India, dating back to 2000-1400 BC where the 'usurer' is associated with

any interest lender. In the Hindu Sutra (700-100 BC) as well as in the

Buddhist Jatakas (600-400 BC) there are many references to the payment

of interest, along with expressions of disdain for the practice.

y Vasishtha, a prominent lawmaker of the era, drafted a law that banned the high

caste Brahmans and Kshatryas from being usurers or money-lenders. In the

second century AD, the term usury becomes relative, meaning that interest above

the legal rate could not be charged; that would be a usurious loan. But usury in

some form or other has continued to the present day, and although in principle it

is condemned, the term 'usury' refers only to exorbitant interest,ie well above

socially accepted rates. The practice operates in most parts of the world.


8/25

INTEREST PROHIBITED IN BIBLE

y Do not charge your brother interest, whether on money or food or

anything else that may earn interest. (Deuteronomy 23:19)

Do not take interest of any kind from him, but fear your God, so thatyour countryman may continue to live among you. (Leviticus 25:36)

If you lend money to one of my people among you who is needy,do not

be like a moneylender; charge him no interest (Exodus 22:25)

The prohibition of usury was adopted as a major campaign by the earliest

Christian Church, following on from Jesus' expulsion of the money-

lenders from the temple.


9/25

y In the 8th century, under Charlemagne, usury was declared a criminal

offense.

y Pope Clement Vtotally banned the practice anddeclared null and void allsecular law defending it.

y In 1620, according to the theologian Ruston, 'usury passed from being an

offense against public morality, which a Christian government was

expected to suppress, to being a matter of private conscience, and a newgeneration of Christian moralists redefined usury as excessive interest'.


10/25

INTEREST PROHIBITED IN ISLAMThe word Riba is usedin the Holy Quran 8 times. In 30:39,4:161,3:130,

2:276,2:278 and 3 times in 2:275.

Those who devour usury will not stand except as stand one whom the Evil oneby his touch Hath driven to madness. That is because they say: "Trade is like

usury," but Allah hath permitted trade and forbidden usury. Those who after

receiving direction from their Lord,desist, shall be pardoned for the past; their

case is for Allah (to judge); but those who repeat (The offence) are companions of

the Fire: They will abide therein (for ever). (Quran 2:275)

O ye who believe! Devour not usury,doubled and multiplied; but fear Allah. that

ye may (really) prosper. (Quran 3:130)


11/25

THE INTEREST DEMONy This 'demon' governs current global relations, condemning

most of the world population to living under the sign of

debt: i.e., each person born in Latin America owes already

$1,600in foreign debt; each individual being conceivedin

Sub-Saharan Africa carries the burden of a $336debt, for

something that its ancestors have long ago paid-off. In 1980

the Southern countries' debt amounted to $567 billion; since

then,they have paid $3,450 billion in interests and write-offs, six times the original amount.


12/25

1,500farmers commit mass suicide in India

y Mr Sahu lives in a district that recorded 206 farmer suicides last year.Police records for the district add that many deaths occur due to debtand economic distress.

y In another villagenearby, Beturam Sahu, whoownedtwo acresofland wasamong those who committedsuicide. His crop isyettobeharvested,buthisson Lakhnu lefttotakeup a job as a manual labourer. Hisfamilymustrepayadebt of 3000 andthe cropthisyear ispoor.

y Bharatendu Prakash,from the Organic Farming AssociationofIndia,toldthePress Association: "Farmers' suicides are increasing due to a vicious circlecreated by money lenders. They lure farmers to take money but whenthe crops fail, they are left with no option other than death."


13/25

Difference between Islamic and conventional

bankingy Islamic banking only deals in halal products and services. Thus, all transactions

must be SHARIAH COMPLIANT i.e. must be in accordance with the IslamicJurisprudence.

yconsideration ofcollateral to be looked upon separately. However, if thetransaction is based on "joint-venture" basis, there should not be any collateral;

y

In a default or termination situation, the Bank (or financier) normally demandthe outstanding sale price. Generally, the sale price is fixed and comprise"principal and profits" predetermined upfront before a contract is signed.

y

compounding calculation i.e. to conventional practice of "interest upon interest"element is strictly prohibited under Islamic banking system.


14/25

SAHRIAH ADVISORY COUNCIL

y Islamic banks andbanking institutionsthatofferIslamic banking products andservices (IBS banks) arerequiredtoestablish a Shariah SupervisoryBoard(SSB)to advisethem andtoensurethattheoperations and activitiesofthebank complywith Shariahprinciples. Ontheotherhand,there are alsothosewhobelievethatnoform ofbanking canever complywiththe Shariah.Malaysia, the National Shariah Advisory Council, which additionally setup at Bank NegaraMalaysia (BNM), advises BNMon the Shariah aspectsof the operations of these institutions and on their products andservices. In Indonesia the Ulama Council serves a similar purpose.

y AnumberofShariah advisoryfirms (eitherstandaloneorsubsidiariesoflargerfinancial groups)havenow emergedtooffer Shariah advisoryservicestotheinstitutionsoffering Islamic financial services. Issueofindependence,impartialityand conflictsofinteresthave alsobeenrecentlyvoiced.


15/25

ISLAMIC BANKING TERMINOLOGY

y 1)Mudarabah (profit sharing)

Mudarabah is an arrangement betweenthebank,or a capital provider, and anentrepreneur,wherebytheentrepreneur can mobilizethefundsoftheformerfor itsbusiness activity. Profits madearesharedbetweenthebank andtheentrepreneur according topredeterminedratio. In caseof loss,thebank losesthe capital, whiletheentrepreneur loseshisprovisionof labor. It isthisfinancial risk,according tothe Shariah,that justifiesthebank's claim topartoftheprofit. Theprofit-sharingcontinuesuntil the loan isrepaid.

2)Musharakah (joint venture)

Musharakah is a relationshipbetweentwopartiesor more,ofwhom contribute capital to a business,anddividethenetprofit and lossprorata. This isoftenused in investmentprojects, lettersofcredit,andthepurchaseorreal estateorproperty

3)Qard hassan/ Qardul hassan (good loan/benevolent loan)

This is a loanextendedon a goodwill basis, andthedebtor isonlyrequiredtorepaythe amountborrowed. However,thedebtor may, athisorherdiscretion,payanextra amountbeyondtheprincipal amountofthe loan (withoutpromising it) as a tokenofappreciationtothe creditor.


16/25

Other Islamic banking terms are:y Sukuk (Islamic bonds),

y Takaful (Islamic insurance),

y Wadiah (safekeeping),y Ijarah thumma al bai' (hire purchase),

y Murabahah (cost plus)


17/25

Islamic equity funds

y Islamic investment equity funds market isoneofthefastest-growing sectorswithintheIslamic financial system. Currently,there are approximately100Islamic equity funds worldwide. Thetotal assets managedthroughthesefunds currentlyexceed US$5 billion and isgrowing by1215% per annum.

y Sincethe launchofIslamic equityfunds intheearly1990s,therehasbeentheestablishmentofcredibleequitybenchmarksbyDow JonesIslamic marketindex(Dow Jones Indexes pioneered Islamic investment indexing in 1999)andtheFTSE Global Islamic Index Series. The Website www.failaka.com

monitorstheperformanceofIslamic equityfunds andprovide acomprehensive listoftheIslamic funds worldwide.


18/25

WhyIslamic Banking Is Successful?

y Islamic Banking Principles And Sub-prime LendingThereligiousteaching underpinning Islamic finance is concerned with justiceinfinancial contractstoensurethatnoneoftheparties isbeing exploited.

y Riba( interest or usury) is one source of exploitation,especially, as inthe

caseofsub-prime lending,thehighestrates were chargedto lowerearners.Suchdiscriminatorycharging byconventional banks was justified asbeing areflectionoftherisks involved.

y Thoseon lower incomes, withpoorerprospectsoffinding new employment intheeventofredundancy, were less likelytobe abletoservicetheir interestpayments.

y Islamic housing finance involves risk sharing between the bank and the

client,ratherthantransferring all therisk tothe latter. Underthe mostcommonlyuseddiminishing musharaka (partnership) contract,thebank andthe clientform a partnership, withthebank providing upto 90 percentofthepurchaseprice, andthe client at least 10 percent.


19/25

Islamic Financial Stability

y Islamic banksenjoya built-instabilizertohelpthem cope witheconomicdownturns, as insteadofpaying interesttodepositors,those with investmentmudaraba accountsshare inthebanksprofits. Thus, ifprofitabilitydeclines inaneconomic downturn,depositorsreceive lowerreturns,but ifprofitsrisetheyenjoyhigherreturns.

y Thisprofitsharing reducesrisk forthebanks and meanstheyare less likelytobecome insolvent. However asthebanksbuildup a profitequalizationreserve,

which canbeusedtofinancepay-outsduring difficultyears,depositorsbenefitfrom someprotectionoftheirreturnsduring economic downturns.


20/25

Prospects for Islamic Finance

y There are already five whollyIslamic banks in London, andthe first Islamic bankwill open in France in 2009. According tothe conservativeestimatesofthe Banker inOctober 2008,Islamic financial assets globally exceed $500 billion,a figure thatcould easily double over the coming decade. TheexperienceofIslamic banking inthe

United Kingdom hasbeenextremelypositive. Islamic Bank of Britain has beenoperating as a retail bank for over four years, and has attracted over 40,000customers. HSBC Amanah, the Islamic finance subsidiary of HSBC, has beenoperating for ten years in London, focusing mainly on institutional clients andbusiness finance.

y Alburaq, the Islamic finance subsidiary of Arab Banking Corporation, has

become the market leader for shariah compliant home finance in the UnitedKingdom. None of these institutions has been affected by the global financialcrisis, and their resilience bodes well for the future.


21/25

Feasibilityof Islamic banking in India

y Islamic banks in India do not function under banking regulations. TheyarelicensedunderNon Banking Finance Companies Reserve Bank Directives 1997 RBI(Amendment) Act 1997, andoperateonprofit and lossbasedonIslamic principles. AlltheIslamic bankshavetobe compulsorilyregistered with RBI.

y The financial institutions in India comprises of Banks and Non Banking Financial

Institutions. Banks in India are governed through Banking Regulation Act 1949,Reserve Bank of India Act 1934, Negotiable Instruments Act 1881, and Co-operativeSocieties Act 1961.

y Certainprovisionsregarding this are mentionedbelow

y Section 5 (b) and 5 (c)ofthe Banking Regulation Act, 1949 prohibitthebanksto invest

onProfit Loss Sharing basis-the verybasisofIslamic banking.y Section 8 ofthe Banking Regulations Act (BR Act, 1949)reads, "Nobanking company

shall directlyor indirectlydeal inbuying orselling orbartering ofgoods"

y Section 9 ofthe Banking Regulations Actprohibitsbank touse anysortofimmovablepropertyapartfrom privateuse this is againstIjarahforhomefinance

y Section 21 ofthe Banking Regulations ActrequirespaymentofInterest which is against

Shariah.


22/25

India's first Islamic bank started in Kerala in 2010

y The project raised an initialcapital ofRs 500 crore (Rs 5 billion) fromleading non-residentIndians andIndianbusinesshouses. According tosourcesclosetothedevelopment, leading NRIbusinessmensuch asMohammed Ali,MA YusufAli, CK Menon andother Kerala-based industrialistssuch as AzadMooppan have initiatedthis venture.

y Kerala State Industrial Development Corporation, which is thedesignated agency for the formation of the bank, holds 11 percent stakein the banking company.


23/25

AMU started a new course on Islamic banking

y The Central Board of Secondary Education (CBSE) had recentlyasked the university to start an undergraduate programme inislamic finance.

y Vice-Chancelloroftheuniversity,ProfAbdul Aziz,told TheIndianExpress:Indian banking system is gradually becoming aware ofthe Islamic banking. Indian students should be exposed to thetopic that holds considerable potential. We hope to begin thec

ourse in the next ac

ademic

session.


24/25

LIST OF ISLAMIC BANKSy Australia,Islamic Investment Company,Melbourne.

y LiechtensteinArinco ArabInvestment Company,Vaduz,Islamic Banking System Finance S.A.Vaduz.

y Switzerland

Dar alM

al al Islami, Geneva,Islamic Investment CompanyLtd, Geneva.ShariahInvestment Services,PIG, Geneva.

y U.K.Albarakah International Ltd, London,Albaraka Investment Co. Ltd, London.Al Rajhi CompanyforIslamic Investment Ltd, London.Islamic Finance HousePublic Ltd Co., London.


25/25

SUGGESTED READING

y MuhammadNejatullah Siddiqi (2004), Riba, Bank

Interest, and The Rationale ofIts Prohibition

y MuhammadNejatullah Siddiqi Banking WithoutInterest

islamc banking

Documents