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Islamic Banking: is it compliant with the Sharia law?
The principles of Islamic finance were laid down by the divine revelation, Qur’an, 1400 years ago. Qur’an banned usury and vowed severe punishment for those who are involved in it; these revelations shaped the basics of Islamic banking.
However, the world’s first modern Islamic bank didn’t start until 1970s. And the sector did not attract attention until few years ago when petrodollars were pouring in due to a surge in oil prices and economic strengthening of Islamic countries in Middle East.
According to Sharia law Islamic banks are prohibited from investing in certain products, including, but not limited to, alcohol, tobacco, pork, and pornography. The Qur’an has banned all forms of usury; so Islamic financial transactions are structured to rely on income in the form of rent (ujra) or profits (murabaha) from the loan, technically not interest. Following are some of the popular Islamic financial instruments:
Sukuk: “This essentially amounts to commercial paper that provides the subscribers with ownership in the underlying assets. ” (DinarStandard)
Murabaha: “This technique is used extensively to facilitate the trade finance activities of Islamic financial institutions. The bank will purchase the necessary goods/equipments and then sell on to its clients at cost plus a reasonable profit. ” (DinarStandard)
Mudaraba: “This is a form of partnership in which one partner provides the capital required for funding a project while the other party manages the investments using his expertise.” (DinarStandard)
Ijara: “The ijara contract is very similar to the conventional lease. Ijara is a contract under which the bank buys and leases out the asset or equipment required by its client for a rental fee. This is commonly used for Islamic mortgages.” (DinarStandard)
Salam: “This is defined as forward purchase of specified goods for full forward payment. This contract is regularly used for financing agricultural production.” (DinarStandard)
Islamic Banking Growth
Although the biggest Islamic banks are in Middle East- Dubai Islamic Bank, Saudi Arabia’s al-Rajhi Bank, Kuwait Finance House- Malaysia and some European countries, including England and Germany, are growing as major centers of Islamic Banking as well.
London has witnessed the strongest growth in Islamic banks since 2004; London now has more than 25 companies with some sort of Islamic financing. The first Islamic bank in London, the Islamic Bank of Britain, opened in 2004.
Islamic banking has grown at a rate of 15-20 percent in last few years reaching to $1 trillion in assets globally. The number of Islamic banks is increasing worldwide and growing rapidly. According to previous estimates Islamic banking would claim a 12 percent share of world banking industry by 2025, but with the current global crisis, especially the fall of major western financial institutions, Islamic banks would achieve that share much sooner.
The global crisis has prompted western countries for tougher financial regulations; perhaps it will push them to using Islamic banking principles in running their economies.
Islamic banks or more conservative in their investments, something that was considered a barrier, but now is considered good investment. The conservative approach provides a built-in protection from the kind of runaway collapse that afflicted so many financial institutions, since the main causes of recent financial collapse, derivatives and excessive risk taking, are banned in Islamic banking.
Is Islamic Banking compliant with Sharia?
The question that many muslims ask: are Islamic banks compliant with sharia or merely a conservative form of current banking system. Most people believe that both of the systems are same, the difference is merely in terminologies used. According to most of sharia scholars there is a very thin line between what is right and what is wrong in Islamic banking. And most of western banks that offer Islamic financing do not adhere to sharia principles. There has been numerous differences of interpretation about what is permissible and what is not that led to a sharp decline in Sukuk market. The sukuk market fell by 50 percent last year after a group of Islamic scholars decreed that most of the bonds where not compliant with sharia law.
It is certain that Islamic Banking is gaining popularity, but time only time will tell how immune to global crisis will it be. Please let us know your thoughts and opinions.
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