ISLAMIC BANKING

FOR A BETTER ECONOMICAL AND SOCIAL WORLD

PRESENTED BY-SOOBIAN AHMED

"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 parties and how you get to the justice
is extracted from Islamic faith"
INTEREST IS ONE OF THE MAIN SOURCE OF BANK’S EARNING

A bank generates profit from the differential between

the level of interest it pays for deposits and other sources
of funds, and the level of interest it charges in its lending
activities.
INTEREST A SOCIAL AND ECONOMICAL EVIL

Samuelson states that “Interest is the price of rental for the

use of money”

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”
 Roy Harrod, regards the abolition
of interest is the only way to avert
a collapse of capitalism. Not only
this, but he speaks with great
admiration for an interest-less
society in his work on Economic
Dynamics (London: Macmillan,
1973).
 In the Book, the FUTURE OF
MONEY, Bernard lietar, he
expertly highlights the intrinsic
danger of Interest and then
mentions how Islam has admirably
represented the last bastion of
resistance. He illustrates how
interest is direct cause of inflation,
wealth imbalance contributing rich
getting richer and poor getting
poorer.
INTEREST PROHIBITED IN HINDUISM & BHUDDAISM
 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.

 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.
INTEREST PROHIBITED IN BIBLE

 “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 that
your 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.
 In the 8th century, under Charlemagne, usury was declared a criminal
offense.

 Pope Clement V totally banned the practice and declared null and void all
secular law defending it.

 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 new
generation of Christian moralists redefined usury as excessive interest'.
INTEREST PROHIBITED IN ISLAM
The word “Riba” is used in 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 one by
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)
 THE INTEREST DEMON
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 $1,600 in
foreign debt; each individual being conceived in Sub-Saharan
Africa carries the burden of a $336 debt, 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.
1,500 farmers commit mass suicide in India

 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 debt
and economic distress.

 In another village nearby, Beturam Sahu, who owned two acres of land was
among those who committed suicide. His crop is yet to be harvested, but his
son Lakhnu left to take up a job as a manual labourer. His family must repay a
debt of 3000 and the crop this year is poor.

 Bharatendu Prakash, from the Organic Farming Association of India, told the
Press Association: "Farmers' suicides are increasing due to a vicious circle
created by money lenders. They lure farmers to take money but when
the crops fail, they are left with no option other than death."
Difference between Islamic and conventional
banking
 Islamic banking only deals in “halal” products and services. Thus, all transactions
must be SHARIAH COMPLIANT i.e. must be in accordance with the Islamic
Jurisprudence.

consideration of collateral to be looked upon separately. However, if the 

;transaction is based on "joint-venture" basis, there should not be any collateral

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

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

 Islamic banks and banking institutions that offer Islamic banking products and
services (IBS banks) are required to establish a Shariah Supervisory Board
(SSB) to advise them and to ensure that the operations and activities of the
bank comply with Shariah principles. On the other hand, there are also those
who believe that no form of banking can ever comply with the Shariah.
Malaysia, the National Shariah Advisory Council, which additionally set
up at Bank Negara Malaysia (BNM), advises BNM on the Shariah aspects
of the operations of these institutions and on their products and
services. In Indonesia the Ulama Council serves a similar purpose.
 A number of Shariah advisory firms (either standalone or subsidiaries of larger
financial groups) have now emerged to offer Shariah advisory services to the
institutions offering Islamic financial services. Issue of independence,
impartiality and conflicts of interest have also been recently voiced.
ISLAMIC BANKING TERMINOLOGY

 1) Mudarabah (profit sharing)

Mudarabah is an arrangement between the bank, or a capital provider, and an entrepreneur,
whereby the entrepreneur can mobilize the funds of the former for its business activity. Profits made
are shared between the bank and the entrepreneur according to predetermined ratio. In case of loss,
the bank loses the capital, while the entrepreneur loses his provision of labor. It is this financial risk,
according to the Shariah, that justifies the bank's claim to part of the profit. The profit-sharing
continues until the loan is repaid.
2) Musharakah (joint venture)
Musharakah is a relationship between two parties or more, of whom contribute capital to a business,
and divide the net profit and loss pro rata. This is often used in investment projects, letters of credit,
and the purchase or real estate or property
3)Qard hassan/ Qardul hassan (good loan/benevolent loan)
This is a loan extended on a goodwill basis, and the debtor is only required to repay the amount
borrowed. However, the debtor may, at his or her discretion, pay an extra amount beyond the
principal amount of the loan (without promising it) as a token of appreciation to the creditor.
Other Islamic banking terms are:
Sukuk (Islamic bonds),
Takaful (Islamic insurance),
Wadiah (safekeeping),
 Ijarah thumma al bai' (hire purchase),
Murabahah (cost plus)
Islamic equity funds

 Islamic investment equity funds market is one of the fastest-growing sectors

within the Islamic financial system. Currently, there are approximately 100
Islamic equity funds worldwide. The total assets managed through these
funds currently exceed US$5 billion and is growing by 12–15% per annum.

 Since the launch of Islamic equity funds in the early 1990s, there has been the
establishment of credible equity benchmarks by Dow Jones Islamic market
index (Dow Jones Indexes pioneered Islamic investment indexing in 1999)
and the FTSE Global Islamic Index Series. The Web site www.failaka.com
monitors the performance of Islamic equity funds and provide a comprehensive
list of the Islamic funds worldwide.
Why Islamic Banking Is Successful?

Islamic Banking Principles And Sub-prime Lending

The religious teaching underpinning Islamic finance is concerned with justice
in financial contracts to ensure that none of the parties is being exploited.
Riba( interest or usury) is one source of exploitation, especially, as in the
case of sub-prime lending, the highest rates were charged to lower earners. Such
discriminatory charging by conventional banks was justified as being a
reflection of the risks involved.
Those on lower incomes, with poorer prospects of finding new employment in
the event of redundancy, were less likely to be able to service their interest
payments.
Islamic housing finance involves risk sharing between the bank and the
client, rather than transferring all the risk to the latter. Under the most
commonly used diminishing musharaka (partnership) contract, the bank and
the client form a partnership, with the bank providing up to 90 percent of the
purchase price, and the client at least 10 percent.
Islamic Financial Stability

 Islamic banks enjoy a built-in stabilizer to help them cope with economic
downturns, as instead of paying interest to depositors, those with investment
mudaraba accounts share in the banks profits. Thus, if profitability declines in
an economic downturn, depositors receive lower returns, but if profits rise they
enjoy higher returns.

 This profit sharing reduces risk for the banks and means they are less likely to
become insolvent. However as the banks build up a profit equalization reserve,
which can be used to finance pay-outs during difficult years, depositors benefit
from some protection of their returns during economic downturns.
Prospects for Islamic Finance

 There are already five wholly Islamic banks in London, and the first Islamic bank
will open in France in 2009. According to the conservative estimates of the Banker in
October 2008, Islamic financial assets globally exceed $500 billion, a figure that
could easily double over the coming decade. The experience of Islamic banking in the
United Kingdom has been extremely positive. Islamic Bank of Britain has been
operating as a retail bank for over four years, and has attracted over 40,000
customers. HSBC Amanah, the Islamic finance subsidiary of HSBC, has been
operating for ten years in London, focusing mainly on institutional clients and
business finance.

 Alburaq, the Islamic finance subsidiary of Arab Banking Corporation, has become
the market leader for shariah compliant home finance in the United Kingdom.
None of these institutions has been affected by the global financial crisis, and
their resilience bodes well for the future.
Feasibility of Islamic banking in India
 Islamic banks in India do not function under banking regulations. They are
licensed under Non Banking Finance Companies Reserve Bank Directives 1997 RBI
(Amendment) Act 1997, and operate on profit and loss based on Islamic principles. All
the Islamic banks have to be compulsorily registered with RBI.

 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-operative
Societies Act 1961.

 Certain provisions regarding this are mentioned below

 Section 5 (b) and 5 (c) of the Banking Regulation Act, 1949 prohibit the banks to invest
on Profit Loss Sharing basis -the very basis of Islamic banking.
 Section 8 of the Banking Regulations Act (BR Act, 1949) reads, "No banking company
shall directly or indirectly deal in buying or selling or bartering of goods…"
 Section 9 of the Banking Regulations Act prohibits bank to use any sort of immovable
property apart from private use –this  is against Ijarah for home finance
 Section 21 of the Banking Regulations Act requires payment of Interest which is against
Shariah.
India's first Islamic bank started in Kerala in 2010

 The project raised an initial capital of Rs 500 crore (Rs 5 billion) from
leading non-resident Indians and Indian business houses. According to sources
close to the development, leading NRI businessmen such as Mohammed Ali,
MA Yusuf Ali, CK Menon and other Kerala-based industrialists such as Azad
Mooppan have initiated this venture.

 Kerala State Industrial Development Corporation, which is the

designated agency for the formation of the bank, holds 11 per cent stake
in the banking company.
AMU started a new course on Islamic banking

 The Central Board of Secondary Education (CBSE) had recently

asked the university to start an undergraduate programme in
islamic finance.

 Vice-Chancellor of the university, Prof Abdul Aziz, told The Indian

Express: “Indian banking system is gradually becoming aware of
the Islamic banking. Indian students should be exposed to the
topic that holds considerable potential. We hope to begin the
course in the next academic session.”
LIST OF ISLAMIC BANKS
 Australia, Islamic Investment Company, Melbourne.
 Liechtenstein
Arinco Arab Investment Company, Vaduz,Islamic Banking System Finance S.A.
Vaduz.
 Switzerland
Dar al Mal al Islami, Geneva,Islamic Investment Company Ltd, Geneva.
Shariah Investment Services, PIG, Geneva.
 U.K.
Albarakah International Ltd, London,Albaraka Investment Co. Ltd, London.
Al Rajhi Company for Islamic Investment Ltd, London.
Islamic Finance House Public Ltd Co., London.
SUGGESTED READING
Muhammad Nejatullah Siddiqi (2004), Riba, Bank
Interest, and The Rationale of Its Prohibition

Muhammad Nejatullah Siddiqi Banking Without

Interest