Islamic Finance, CONVENTIONAL DEBT, SOCIAL WELFARE ACTIVITIES OF THE STATES, ECONOMICS AND RELIGION, ISLAMIC PRINCIPLES CAN MAKE THE DIFFERENCE, REGULATING TRADE AND BUSINESS

 

Islamic Finance

Islamic finance, islamic banking, or Sharia-compliant finance is banking or financing activity that complies with sharia and its practical application through the development of Islamic economics.Some of the modes of islamic banking /financing include Mudarabah, Wadiah, Musharaka, Murabah, and Ijara.

ECONOMIC SCENARIO IN THE NEOCLASSICAL FRAMEWORK

 

    Capitalist System

The capitalist system, canonized(based) at Bretton Woods in 1944, allowed a free hand to the capitalist countries and within them the firms and individuals to maximize their profits with minimal consideration of the human aspects, norms and ethics, the post-Bretton Woods system, based on excessive creation of monies(money), particularly the US Dollar, resulted in “oceans” of poverty around the world.

    Communism

Communism was the opposite of capitalism as far as the capitalization of resources was concerned, while ownership was hypothetical and control was centralized. Due to this extremist unbalanced behaviour, it had to go after completing its short cycle of less than a century.

 

“Greed” – the unbridled(uncontrolled) pursuit of wealth – has become the most popular slogan of individuals and particularly of the corporate world, leaving the masses to misfortune. Money created out of nothing has strengthened the exploitation mechanism and widened the gap between the haves and the have-nots. The resultant economic scenario has led to the following concerns for mankind:

•     human behaviour guided only by self-interest – no concern for behavioural aspects;

•     no discipline in the creation of high-powered money, leading to unjust and exploitative payment systems and illegitimate control over the resources of weaker individuals and nations;

•     contradictory policies – leaving the crucial functions of providing health, education and the basic needs of the masses to a market characterized by forces like “self interest”, liberalization and deregulation, under the banner of alleviating poverty and increasing literacy levels, etc. is clearly contradictory;

•     no or dubious(un certain) concern for human dignity and rights;

•     no care for the weak and the oppressed classes;

•     no concern for justice, fair play and equity;

•     the influential and the elite exploiting the weak – leading to a phenomenal concentration of wealth together with large-scale hunger and poverty;

•     unhindered unethical practices like deceitful advertisements to allure(attract) consumers, leading to hefty(heavy) salary packages for the marketing “experts” and leaving the real contributors to national and global production and the consumers at the mercy of market forces.

 

 

 

 CONVENTIONAL DEBT: A RECIPE FOR EXPLOITATION

The grim(brutal) situation briefly portrayed(discussed) above is not limited to the poor or the least developed countries in Africa, Asia and other areas of the planet. Inequity has become the hallmark and the most serious problem facing mankind in all societies. The interest-based financial system is a major hurdle in achieving distributive justice. It is creating unrepayable debt – making a class of people richer and leaving others poorer and oppressed.

Excessive debt and its servicing are the striking(prominent) features of the interest-based mechanism: yesterday’s debt can be repaid by taking out more debt today. It is not only stifling(constrained) economic growth but also crippling(paralyzing) the efforts made by the World Bank, IMF and other donors to reduce poverty in poor countries. It also distorts the payments systems, on account of which the concern for just and fair incomes and earnings is being accorded the least consideration. No one cares who is going to pay the debt: which future generations and from where? This kind of behaviour – avoiding the payment of currently owed debt – is not acceptable under any divine religion. In Islamic Shar¯ı´ah, debt liability is subject to strict accountability(answerability) on the Day of Judgement.

The economic problems of underdeveloped countries (UDCs) have emanated(emerge) largely from their excessive debt accumulation(acquisition). The cost incurred in the form of interest has to be paid by successive( governments through increasing rates, taxes and charges on consumption goods and utilities. For servicing the debts, governments raise taxes without providing any socioeconomic amenities(facilities) or quid pro quo(favor). This has led to business failures, unemployment and, ultimately, gross inequalities of income and wealth. It has exerted disastrous effects by reinforcing the tendency towards wealth accumulation in fewer hands together with large-scale hunger and poverty.

 

GROWTH PERSE MAY NOT LEAD TO SOCIO-ECONOMIC JUSTICE

Growth Perse(Growth itself,Growth base)

For about half a century, the major objective of economic policy has been to promote growth in the overall pursuit(search) of development and happiness of the population. However, it has been observed that because of rising inequality, growth alone is not a reliable indicator of socio-economic development. Despite(regardless of) growth in many parts of the world, a large number of people are unemployed, half-fed and ill-treated as a result of unhindered(unobstructed) market forces. Steady-state growth models and “trickle-down” theory have demonstrated conclusively that they enhance inequalities of asset distribution by enabling the powerful and better-endowed(awarded) groups to grow at an even faster rate than which they were growing before, leaving the masses(people) in deeper misery(discomfort/anxiety).

Trickle Down Theory;

A theory that states ,financial benefits given to big businesses will in turn pass down to smaller businesses and consumers.

John Perkins, in the preface to his book, Confessions of an Economic Hitman, while analysing the dangerous world situation, writes: “The idea that all economic growth benefits humankind and that the greater the growth, the more widespread the benefits, is of course erroneous(wrong).It benefits only a small portion of the population may result in increasingly desperate(dangerous) circumstances for the majority. When men and women are rewarded for greed, greed becomes a corrupting motivator.” He also points to the problems arising from fallacious(false) concepts about economic development.

A number of emerging economies are showing impressive growth rates. But economic growth under neoliberalism(a political approach that favors free-market capitalism and reduction in government spending) is not serving the welfare function; rather it is enhancing poverty because the benefits do not trickle down by themselves, due to distortions created by vested interests in a free market functioning without proper surveillance(supervision), disclosure(expose) and transparency that, in truth, reinforces skewed(direction) income distribution patterns. China, one of the fastest growing economies with a growth rate in double digits, is facing the same problem. The lot of the country’s poor, particularly in rural areas, has got worse, as the previous communist system guaranteed certain basic needs including food, health care and primary education. The support systems have collapsed due to the shift to a market-based economic system.

In cases where the wealth and assets are concentrated in big business and industrial segments in urban areas and the countryside is feudalistic(jageer darana), even the impressively high growth rate of the economy and sectors like industry and agriculture will not lead to better income distribution and poverty alleviation. As such, experience has proved that poverty does not reduce even by governments spending on health, education or infrastructure, because the basic tools of exploitation continue to work and such spending is not directed to the fulfilment of the basic needs of the masses(people). The resultant large-scale poverty is a hurdle to industrial investment and growth, as it lessens the consumers’ demand for manufactured goods due to high inequitous income distribution. There must, therefore, be a revolutionary redistribution of assets and income prior to stabilization if the growth is desired to reduce asset distributional inequalities.

 

SOCIAL WELFARE ACTIVITIES OF THE STATES

Almost all present governments spend huge amounts of money on social security nets, but that expense does not tend to mitigate(reduce) the ill effects of the injustice inflicted(imposed) by the tools of conventional economics and finance and the resultant inequitous distribution of income and resources by unhindered market forces. Imbalances created by the system as a whole cannot be corrected only by a government’s selective spending; it rather leads to moral hazard in a number of socio-economic directions. Compared with the problems created by the system, such social welfare activities cannot cater(fulfil) to the needs of the millions of poor or the vulnerable(weak) groups in any society. In addition to strengthening, restructuring and expanding the social safety nets to provide support to the deserving segments of society, there must be a big change in the system at a broader level so that weaker groups can get their due share at the stage of production and distribution of wealth and assets among various factors of production.

That is why, despite heavy spending by governments and high levels of technological and industrial development, even the countries with massive resources have been unable to realize their normative goals, due mainly to the fact that there is a conflict between the operative tools of conventional economics and their normative goals. The interest-based system of creation and allocation of funds and market-based monetary policy have been viciously(brutally) antipoor and an important cause of unemployment and asset and income distributional injustice at national and global levels. Governments and central banks are becoming more and more passive to the fate of the masses in all economies, facilitating profit maximization by the corporate sector and those who are already rich.

THE MAIN CULPRIT

Obviously, there has been a long list of factors responsible for the failure of the global economic system in amicably(friendly) solving the economic problems of mankind and ensuring justice, equity and fair play. However, the main two factors are the inefficient modus operandi(doing same work again and again) of economic management with practically no concern over poverty or exploitation of the weak, and the functioning of money, finance and the financial markets that play the most strategic role in creating, distributing and transferring resources and wealth at national and global levels. Governments, in a bid(offer) to allow free interaction of market forces, have not been properly fulfilling their overseeing function with the objective of protecting the main stakeholders and vulnerable segments of society. As a result, vested interests have been creating distortions in the markets to artificially control and determine the supply of goods and transfer of resources to the privileged classes.

As the major tool in the hands of governments is money, one factor that has to be taken care of to realize the overall objective of equitable and sustainable economic growth for welfare of mankind is the area of money and finance. The institution of interest, on the basis of which governments and the public and private sector corporations borrow funds, creates parasites in society and thereby the gap between the rich and the poor keeps on widening. According to the late Yusuf Ali (the eminent translator of the Holy Qur’an into English):¯ “Whereas legitimate trade or industry increases the prosperity and stability of men and nations, dependence over usury(illegal high interest rate) would merely encourage a race of idlers, cruel bloodsuckers and worthless fellows who do not know their own good and therefore are akin(same) to madmen” (translation of verse 2: 275). It is a ground reality that the interest-based system, irrespective of the rate, is creating “idlers” and “cruel bloodsuckers”.

The prohibition of interest in all revealed religions that we shall discuss in the following chapters essentially implies that there can be no gain without risk-sharing, which implies that if someone wishes to get a return, he must also be liable for the loss, if any. “No risk, no gain” is actually the basic juristic principle of Shar¯ı´ah and a normative rule of justice. The liability to bear a possible loss can motivate investors to be more careful in making their investments. This can help remove the moral hazard that is associated with risk-free gains on financial investments and, thereby, inject greater discipline into the financial system.

THE NEED OF THE HOUR

 A vast majority of Muslim jurists and scholars believe that the ultimate cause lies in disregarding the prohibition of interest, which is an important teaching of all major religions.

The state of affairs in the global economy and glaring inequalities both at inter and intra national levels necessitate(make necessary) the evolution of a system that could lead to a balanced, sustainable and equitable economic order in the world at large. This requires economists and policymakers to develop an economic system based on the ideals of socio-economic justice and fair play. By fulfilling this mission they would be giving to humanity the message of peace, happiness, welfare and prosperity.

The major element creating injustice is “interest”. Replacing this with a risk-related capital and investment mechanism could help solve many socio-economic ills. There are a number of other benefits that can be derived from the prohibition of interest. Among these are the injection of a moral dimension into the financial system along with greater equity and market discipline to make the financial system more equitable, healthier and stable

ECONOMICS AND RELIGION

 

Whether economics should be mixed with religion is a significant question these days. More specifically, can Islam be helpful in economic development or it is a drag on economic growth?

While discussing the role of religion in economics one must distinguish economics as a science from an economic system. An economic system has to be discussed as a thought based upon any ideology, while economic science should be considered as a science which deals with the creation of wealth. An economic system relates to management of wealth distribution in a society that tends to solve economic problems of various groups by enabling or restricting them from utilizing the means of production and satisfaction. Thus, the system comprises the following three main elements:

1.    Ownership of property, commodities and wealth.

2.    Disposal of ownership.

3.    Distribution of wealth among the people.

Commodities are possessed for their benefits, which represent the suitability of a commodity to satisfy any human need. Goods/assets are possessed as a result of work, inheritance, purchasing/obtaining property for sustenance, governments granting possession of something to the citizens and transfer payments or goods granted as gifts (without giving anything in exchange). From this perspective, the Islamic economic system is different from the other systems only to the extent of ownership and distribution of resources among the factors of production and various groups of society, with a defined role of the State to ensure that injustice is not done to any of the individuals, parties or groups.

Islamic economics, in fact, can promote a balance between the social and economic aspects of human society, the self and social interests and between the individual, family, society and the State. It can effectively address issues like income distribution and poverty alleviation, which capitalism has not been able to address. At the global level, it may be helpful in eliminating the sources of instability, thus making the world a happier place with harmony among followers of various religions.

In the contemporary world, we have macro-level evidence of distributive justice and development. The trickle-down theory (TDT) adopted in Malaysia during 1957–1970 failed miserably and resulted in the tragedy of 13th May (1969) race riots in the country. Then the Malaysian government adopted a policy which applied the core value of Islam, i.e. justice with fairness, that has contributed significantly to the country’s miraculous achievement in the last three decades.

 

ISLAMIC PRINCIPLES CAN MAKE THE DIFFERENCE

The above discussion implies that problems have emanated(emerged) from

1.    The unchecked creation of money.

2.    A reliance(dependence) on market forces without any ethical limits.

            An emphasis on growth and profit per se without regard to the distribution aspect.

3.    The negative role of the State and the regulators in allowing the pursuit of greed andunchecked profit

Islamic principles of economics and finance provide checks for all these factors. They focus on clarity and lack of ambiguity (uncertainty), just and fair treatment for all and care for the rights of others. But these principles are necessarily ethical and, as a ray of hope for mankind. These principles need to be adopted for the relief of mankind.

The fundamental feature of Islamic economics and finance is socio-economic and distributive justice. It also has a comprehensive system of ethics and moral values. Under the effective supervision of the government, markets can function freely under a competitive price mechanism, transparency and disclosures, subject to the condition that they are not distorted by the influential and stronger segments of a society. Within this overall framework, individuals have the right of ownership and freedom of enterprise, and can get return or profit by creating additional value and sharing gains and losses. The Islamic economic system prohibits commercial interest, excessive uncertainty, gambling and all other games of chance and emphasizes a social welfare system based on mutual help, character building, behavioural changes, the system of Zakat (the religious obligation of every Muslim who has wealth in excess of his consumption needs at the nonprogressive rate – generally 2.5% of net wealth or 5 or 10% in the case of agricultural produce above a minimum limit – Zakat money has to be distributed among the have-nots and the needy as per the tenet of the Holy Qur’an given in verse 9: 60) and care and dignity for the poor.¯ It accepts the right of capital to enjoy a just return with the condition that it also bears the liability or risk of any loss. Any entitlement to profit or return comes from value addition and bearing the business risk, the nature of which will be different in different business contracts or transactions based on partnership, trading or leasing.

The main principle governing permission to trade/exchange, subject to fulfilment of certain rules, and prohibition of Riba (interest), games of chance or gambling(juwwa) and other illegal contracts is that all gains and receipts in exchange transactions must be accompanied by any consideration stipulated(decided) with free will and mutual consent of the parties.According to islamic concept of loan, Loans are granted for timely help of the needy and the debtor cannot be charged any amount over the amount of loan or debt. However, a loan has to be repaid one way or the other until the creditor gives relaxation or the debtor is declared insolvent. Accountability of loans or debts in the Hereafter remains intact(barqarar), even in the case of insolvency, until the creditor waives (give up) the amount of debt.

REGULATING TRADE AND BUSINESS

 

Islam recognizes the role of markets and freedom of individuals in business and trade. Trade and business practices have contributed a lot to the development of the economies.

Economists and policymakers should concentrate mainly on two areas; First, the role of government, which has been a highly conteste (challenged) issue between the neoclassical/liberals and the conservatives over the last few decades. In view of the bitter experience of capitalism, with a passive government role resulting in growth for only a few individuals and groups and leaving the majority of human beings in utter(absolute) poverty, economists should consent as a group that governments must perform an active role, not for conducting various businesses, but for ensuring the proper and smooth functioning of market forces with accountability and transparency, so that vested interests(mafaad prast) cannot manipulate through their malpractices.

The second area is that of money, banking and finance – financial instruments, institutions and the markets. Islamic finance requires that all financial transactions and the instruments must be represented by genuine assets and business transactions as per their respective rules and norms relating to fair play, transparency and justice. It is true that the gold standard cannot be adopted again, but there must be some foolproof criteria for the creation of money. The principles of Islamic finance – that all financial assets must be based on real assets (not necessarily gold or silver) on the one hand, and that the time factor in business transactions has value only through the pricing of goods and their usufructs(advantage) on the other – provide the best such criteria.

Creating financial assets out of nothing and putting others at undefined risk is tantamount(equal)  to cheating and fraud, which should no longer be allowed if peace and human dignity are the objectives, as the so-called super powers, human rights organizations and other democratic groups often proclaim. There has to be some sound basis for the creation of money, because the absence of such a basis has resulted in injustice and imbalances in the global system and economies. The piling up of fictitious(farzi)  assets without any real economic activity and the unjust transference of risk to others should not be acceptable to minds concerned with human rights and dignity. As such, all financial assets must be based on real assets and business activities.

If the financial system at national and global levels, along with its tools and instruments, was based on a just and equitable foundation, governments could easily formulate and implement policies for the proper functioning of market forces, leading to fair distribution of income and allocation of resources. This would be accomplished indirectly through fiscal, taxation and monetary policies and directly through control over rogue(dishonest) forces to facilitate smooth market functioning. Therefore, economists should proceed to suggesting a proactive facilitative role for regulators and governments.

It is pleasant to read the then Chancellor of the UK’s Exchequer Gordon Brown quoting a Hadith of the holy Prophet (pbuh) relevant to this discussion: “The Ummah, the Muslim global community, is like the human body, when one part feels pain, the other parts must reflect the pain – a truth of relevance in and beyond the Muslim world that emphasizes our duty to strangers, our concern for outsiders, the hand of friendship across continents”.