Issues of Islamic Finance - Essay Example

?Question Modern world is based upon the principles of Capitalism while communism was once considered counterpart to capitalism but sooner it failed to maintain its egalitarianism. Besides capitalism and communism, Nowadays Islamic principles and Islamic economic system has gained popularity among nations. Emergence of Islamic banking and economic system can be justified by the major economic failures of capitalism (BATRA, 1990). Decision making in capitalism if considered by individual’s opinion to rationalize his demands is definitely more in capitalism than communism. In capitalism individuals have more choices where individuals are free to make decisions about their life, family, political involvement and business. In socialism individuals are not in control of their own decisions. In contrast to capitalism and communism; Islamic system also allows free decision making to individual until Islamic teachings and principles are not violated. In Islamic economic system individuals are required to take care of Islamic norms and values that do their actions and decision justify Islamic teachings or not? If individual’s actions are acceptable according to Islamic values only then individuals can decide freely. Information provision in capitalism is not free but has certain cost. In capitalism government does not provide information, it is assumed that information is out there in the market while individuals are required to explore market and extract information. Though information is available in the market but it encourages exploitation of individuals who are not well aware of the prices. In contrast to capitalism; in communism and Islamic system information is freely provided to customers by the government. Under these systems government believes in protection of consumer rights and consider it the responsibility of state to keep people aware of market prices. Since capitalism delegates liberalization hence individuals have every right to own property. Individuals are free to buy and sell property anywhere in the world (LIODAKE?S, 2010). Similarly Islamic teachings preach equality, freedom and liberty by which individuals are free to buy and sell property but beside right to property individuals are bound to pay zakat for their property at the rate of 2.5% annually (AZHAR, 2010). Contrastingly in communism individuals have no right to own any property where as any property within the state is owned by the state. Individuals under communism are allotted piece of land according to their services and responsibilities yet they cannot declare ownership to that piece of land. In today’s modern world, incentives, innovation, goals, targets, profit, entrepreneur, innovation and growth are common to be heard in capitalism which indicate constructive and developmental nature of capitalism. Western life style can be quoted against where innovation, goals and incentives are deep rooted in their daily conscious. Capitalism promotes concepts of open economy (REDWOOD, 1993). No doubt communism brought enormous growth, incentives and progress to Russia but that cannot be announced open because all incentives were available to the ruling elites and to the party members while commoners were only the workers (RESNICK & WOLFF, 2002). Islamic system promotes equality where theoretically layman has the same rights and opportunities as of elites. Under Arabs, Islamic system got much popularity, growth and success but in modern world, Islamic system is hardly in practice to defend its theoretical principles (MIRAKHOR & ZAIDI, 1988). The role of government in the capitalistic economy has no existence but even in United States, this principle has never been truly practical. The idea of free market in reality means government rules and regulations because without regulations, capitalism can never exist (HEILBRONER, 1993). Free market economy is faced with some market imperfections that are needed to be corrected by external authority whereas government is the third party to fix the bugs. Unlikely in modern communism government has its active role in economy (POP-ELECHES & TUCKER, 2013). Government controls all decisions of economy as a central authority. Seemingly government in Islamic economy entails a limited role and intervene in the economic decisions when markets fail to operate efficiently on their own. Question 2: Islamic banking as the name states is based upon Shariah: The Islamic Law. These rules are the guiding principles used for transaction needs. Islamic banks derive these rules from the Holy Quran, the Sunnah and from Islamic scholars. In order to observe Islamic rules; all Islamic Banks usually designate a Shariah Committee consisted of experts, advisors and scholars (WARDE, 2010). Shariah principles can be divided into four main classes as fee based banking, profit and loss sharing, subsidiary principles and free services (YATIM & NASIR, 2007). These classifications further contain sub principles. Among all countries Islamic banks in United Arab Emirates have least principles implemented while Islamic Banks in Pakistan have implemented most principles of Shariah. In this regard to analyze principles of Islamic Banking; Principles followed by Islamic Finance, Malaysia have been reported. First category of fee based banking has three universally accepted principles consisting of fees on commission, fees on services and specially fees on mark up. Usually Islamic banks charge commission against transactions though the amount of commission vary with transaction size. Likely to conventional banking, Islamic Banks also charge for their services while last fee of mark-up operates through Murabaha (Profit on sale/ purchase of good), Ijara & Bai (Hire Purchase of goods e.g. Leasing and purchasing of a Car). Profit and Loss sharing applies through Musharaka (Joint Venture) and Mudaraba (Profit Sharing). Musharaka refers to starting business partnership based on profit and loss sharing against investment ratio. Mudaraba is the profit and loss sharing in a business based on investor and entrepreneur relationship against agreed profit sharing ratio while loss is grieved by capital provider. Most commonly accepted practice in Islamic banking under free services is provision of Qard Hasan (Easy Loan/ Charity). Qard Hasan is a sort of interest free loan provided to borrowers against easy payment condition though it has to be repaid as an obligation. Besides these principles, other activities of Islamic Banks are ancillary principles for which banks are free to either follow or neglect it. Question 3: Riba is an Arabic word mentioned in the Holy Quran which means an increase, an addition and growth. Riba if translated in English is called Usury (THOMAS, 2006). Usury is mostly explained as exploitative interest rate and it has been condemned by every religion in the world yet it succeeds in practice. Usury is declared exploitative because it entails unfair and abusive advantage from the borrower against principle amount and in Islamic Shariah, it has been strictly condemned by Allah and the sunnah (ARIFF & IQBAL, 2011). It is stated in Sahih Muslim as Hadith: “Gold with gold, silver with silver, wheat with wheat, barley with barley, dates with dates, and salt with salt; same quantity for same quantity, equal for equal; transaction being made hand to hand”. Riba/ Usury is prohibited because it violates equality, partnership and mutual cooperation. Usury encourages exploitation which is injustice to needy and is wrongful. Besides economic dealings are bound to be rational and equal while Riba creates inequality and promotes concentration of wealth. No doubt Riba is forbidden in Islam and in Islamic Banking but there is room for adjusting inflation margin. For interest borrower is bound to repay more than the principle amount but inflation works on different principle as it measures increased market prices in an economy over a period of time. If inflation is not counted along the saved/ borrowed amount; then in real terms individual will face loss. Solution to this crisis can be solved by Shariah principles. When someone deposits or borrows the amount, the bank should note its converted value in gold or silver and after many years suppose 5 years when the amount is taken out or is repaid. The total amount will principle added the increased or decreased value of gold. So that, both parties may survive the risk of economic fluctuations such as currency loss or inflation etc. Islamic banks work on the principle of profit and loss sharing. When an individual lend money from an Islamic Bank, both parties enter into a business contract (Musharaka or Mudaraba). According to this agreement borrower runs the business as entrepreneur and bank becomes the investor and overlook business affairs while at the end profit or loss is shared according to the specified ratio. Question 4: Like conventional commercial banks who have compliance department to maintain regulatory consistency within their operations, Islamic banks also have a compliance department known as Shari’ah Audit & Compliance department which is responsible to ensure compliance of all the departments to the Islamic banking procedures, policies, rules and regulations specified by the central banks and by Shariah (GRAIS & PELLEGRINI, 2006). Compliance department also guide its bank in decision making that all specified rules are followed. Compliance department of Islamic banks is also accountable to harmonize its operations in accordance to the Shariah Regulatory Framework, to facilate timely shariah compliance inspections, to implement capacity building programs for growth of Islamic Banking and to encourage national and international departmental interaction. With the emergence and increasing demand of Islamic banking, need for Shariah compliance has extended enormously but unfortunately the Islamic banking industry has not flourished consistent to demand. Experts on Islamic Banking issues are rarely found even in Islamic Banks too due to its unconventional nature of avoiding Riba. So, In short the primary objective of Audit and Compliance department is to ensure banking free of interest rates and consistent to principles specified by Shariah Supervisory Board. References ARIFF, M. & IQBAL, M., 2011. The foundations of Islamic banking: theory, practice and education. Cheltenham, U.K: Edward Elgar. AZHAR, R. A., 2010. Economics of an Islamic economy. s.l.:Leiden, Brill. BATRA, R. N., 1990. The downfall of capitalism and communism: can capitalism be saved?. Dallas: Tex, Venus Books. GRAIS, W. & PELLEGRINI, M., 2006. Corporate governance and Shariah compliance in institutions offering Islamic financial services. Washington, D.C.: World Bank, Financial and Private Sector Development Network. HEILBRONER, R. L., 1993. 21st century capitalism. New York: Norton. LIODAKE?S, G., 2010. Totalitarian capitalism and beyond. Farnham, England: Ashgate. MIRAKHOR, A. & ZAIDI, I. M., 1988. Stabilization and growth in an open Islamic economy. Washington, D.C.: International Monetary Fund. POP-ELECHES, G. & TUCKER, J. A., 2013. Communist socialization and post-communist economic and political attitudes. Electoral Studies. REDWOOD, J., 1993. The Global marketplace: capitalism and its future. London: HarperCollins. RESNICK, S. A. & WOLFF, R. D., 2002. Class theory and history: capitalism and communism in the USSR. New York, London: s.n. THOMAS, A. S., 2006. Interest in Islamic economics understanding riba. London: Routledge. WARDE, I., 2010. Islamic finance in the global economy. Edinburgh: Edinburgh University Press. YATIM, M. N. M. & NASIR, A. H. M., 2007. The principles and practice of Islamic banking & finance. Selangor, Malaysia: Prentice Hall/Pearson Malaysia Sdn Bhd. Read More