Evolution
| Rationale | Anatomy
| Literature:
Theory
Literature:
Practice | Conclusion
| Glossary
Appendix:
Islamic Financial Institutions | References
Rationale
The essential feature
of Islamic banking is that it is interest-free. Although it is
often claimed that there is more to Islamic banking, such as
contributions towards a more equitable distribution of income
and wealth, and increased equity participation in the economy
(Chapra 1982), it nevertheless derives its specific rationale
from the fact that there is no place for the institution of
interest in the Islamic order.
Islam prohibits Muslims
from taking or giving interest (riba) regardless of the
purpose for which such loans are made and regardless of the
rates at which interest is charged. To be sure, there have
been attempts to distinguish between usury and interest and
between loans for consumption and for production. It has also
been argued that riba refers to usury practised by
petty moneylenders and not to interest charged by modern banks
and that no riba is involved when interest is imposed
on productive loans, but these arguments have not won
acceptance. Apart from a few dissenting opinions, he general
consensus among Muslim scholars clearly is that there is no
difference between riba and interest. In what follows,
these two terms are used interchangeably.
The prohibition of riba
is mentioned in four different revelations in the Qur'an (1)
. The first revelation emphasizes that interest deprives
wealth of God's blessings. The second revelation condemns it,
placing interest in juxtaposition with wrongful appropriation
of property belonging to others. The third revelation enjoins
Muslims to stay clear of interest for the sake of their own
welfare. The fourth revelation establishes a clear distinction
between interest and trade, urging Muslims
to take only the principal sum and to forgo even this sum if
the borrower is unable to repay. It is further declared in the
Qur'an that those who disregard the prohibition of interest
are at war with God and His Prophet. The prohibition of
interest is also cited in no uncertain terms in the Hadith
(sayings of the Prophet). The Prophet condemned not only those
who take interest but also those who give interest and those
who record or witness the transaction, saying that they are
all alike in guilt (2) .
It may be mentioned in
passing that similar prohibitions are to be found in the
preQur'anic scriptures, although the 'People of the Book', as
the Qur'an refers to them, had chosen to rationalize them. It
is amazing that Islam has successfully warded off various
subsequent rationalization attempts aimed at legitimizing the
institution of interest.
Some scholars have put
forward economic reasons to explain why interest is banned in
Islam. It has been argued, for instance, that interest, being
a pre determined cost of production, tends to prevent full
employment (Khan 1968; Ahmad n.d.; Mannan 1970). In the same
vein, it has been contended that international monetary crises
are largely due to the institution of interest (Khan, n.d),
and that trade cycles are in no small measure attributable to
the phenomenon of interest (Ahmad 1952; Su'ud n.d.). None of
these studies, however, has really succeeded in establishing a
causal link between interest, on the one hand, and employment
and trade cycles, on the other. Others, anxious to vindicate
the Islamic position on interest, have argued that interest is
not very effective as a monetary policy instrument even in
capitalist economies and have questioned the efficacy of the
rate of interest as a determinant of saving and investment (Ariff
1982).
A common thread running
through all these discussions is the exploitative character of
the institution of interest, although some have pointed out
that profit (which is lawful in Islam) can also be
exploitative. One response to this is that one must
distinguish between profit and profiteering, and Islam has
prohibited the latter as well.
Some writings have
alluded to the 'unearned income' aspect of interest payments
as a possible explanation for the Islamic doctrine. The
objection that rent on property is considered halal
(lawful) is then answered by rejecting the analogy between
rent on property and interest on loans, since the benefit to
the tenant is certain, while the productivity of the borrowed
capital is uncertain. Besides, property rented out is subject
to physical wear and tear, while money lent out is not. The
question of erosion in the value of money and hence the need
for indexation is an interesting one. But the Islamic jurists
have ruled out compensation for erosion in the value of money,
or, according to Hadith, a fungible good must be returned by
its like (mithl): 'gold for gold, silver for silver,
wheat for wheat, barley for barley, dates for dates, salt for
salt, like for like, equal for equal, and hand to hand ...' (3)
.
The bottom line is that
Muslims need no 'proofs' before they reject the institution of
interest: no human explanation for a divine injunction is
necessary for them to accept a dictum, as they recognize the
limits to human reasoning. No human mind can fathom a divine
order; therefore it is a matter of faith (iman).
The Islamic ban on
interest does not mean that capital is costless in an Islamic
system. Islam recognizes capital as a factor of production but
it does not allow the factor to make a prior or predetermined
claim on the productive surplus in the form of interest. This
obviously poses the question as to what will then replace the
interest rate mechanism in an Islamic framework. There have
been suggestions that profit-sharing can be a viable
alternative (Kahf 1982a and 1982b). In Islam, the owner of
capital can legitimately share the profits made by the
entrepreneur. What makes profit sharing permissible in Islam,
while interest is not, is that in the case of the former it is
only the profit-sharing ratio, not the rate of return
itself that is predetermined.
It has been argued that
profit-sharing can help allocate resources efficiently, as the
profit-sharing ratio can be influenced by market
forces so that capital will flow into those sectors which
offer the highest profit sharing ratio to the investor, other
things being equal. One dissenting view is that the
substitution of profit-sharing for interest as a resource
allocating mechanism is crude and imperfect and that the
institution of interest should therefore be retained as a
necessary evil (Naqvi 1982). However, mainstream Islamic
thinking on this subject clearly points to the need to replace
interest with something else, although there is no clear
consensus on what form the alternative to the interest rate
mechanism should take. The issue is not resolved and the
search for an alternative continues, but it has not detracted
from efforts to experiment with Islamic banking without
interest.
Courtesy
of Mohamed Ariff, University
of Malaya
|