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By KHAIRUL ANUWAR BIN NASOHA CGS00562101
(1) ISSUE IN ISLAMIC ECONOMIC
Islamic Economics: Problems and Prospects
Introduction for Islamic Economics: The Islamic economic system is built upon three principles: 1.Ownership 2.Disposal of ownership 3.The distribution of wealth amongst the people In order to facilitate the acquisition of goods and services Islam put forward rules related to the manner of possessing wealth without any complications. Islam defined the legal means of ownership, and it defined the contracts through which possession can take place. This left humanity free to develop the styles and means by which they earn, as Islam did not interfere in the production of wealth. Islam defines the legal means of ownership and contracts in general guidelines that include legal principles and rules, under which numerous issues belong and against which numerous rules are measured by qiyas (analogical deduction). Thus Islam allowed employment, detailed its rules and left the person to work as a manufacturer, technician, trader, investor etc. Employment was legislated in such a way that by qiyas it also includes representation. This is because the employee represents the employer of the company and is entitled to a salary. Gifts are legislated as a legal means of ownership and by qiyas this can be extended to include donations, grants, charity and rewards as means of ownership. Thus in Islam the means of ownership and the contracts are detailed by the Shari'ah in general outlines and set in such a way as to include any contemporary incident. Islam confined possession to particular means and as a result of this fact ownership came to be defined by the Shari'ah as the possession of goods, services and wealth according to divine means as permitted by the Lawgiver. The Shari‟ah has determined the means of ownership by specific cases, which it made clear in a limited, rather than unrestricted form. The Shari‟ah has laid down these means in clear general guidelines. These comprise of numerous sections, which are branches of these means and clarifications of their rules. The Shari‟ah did not characterise the means by certain general criteria, so no other general means can be included through qiyas. Islam allowed the work of an individual in return for a salary as this is considered, as a legal means of ownership and the core condition for this is that he would be compensated for the effort by being paid a salary for the work. Islam allows the cultivation of land, its farming as well as what is known as agriculture. It allowed the extracting of what is in or on the earth, which means mining, exploration as well as construction. Under this general guideline you also have hunting, brokerage as well as sharecropping. Each of these sections can be extrapolated further by qiyas. By looking at divine rules from the Shari‟ah that allow humans to possess property, it becomes apparent that the means of possession in Islam are limited to five which are:
1. Work 2. Inheritance 3. Obtaining wealth for the sake of life 4. The State granting wealth to the citizens 5. Wealth and commodities that individuals take without exchange (gifts, donations and the like) Are Islamic Financial Institutions a Success Story for Islamic Economics? The creation, progress, and continued growth of numerous Islamic Financial Institutions is clearly the most important way in which the nascent discipline of Islamic Economics has influenced the real world. Nonetheless, the author shares with numerous other researchers and practitioners the impression that these institutions represent the impact of modernity on Islam, rather than conversely. That is, Islamic principles have been (and are in process of) being modified to accommodate modem institutions. The hope of pioneers in the area like Maulana Mawdoodi and his followers, was to reshape the world, and in particular the theory and practice of economics, in accordance with Islamic views. To the extent that' Islamic Financial Institutions represent the reshaping of Islamic Laws in accordance with the demands of modernity, these represent the failure rather than the success of Islamic Economics. These views are controversial, and many Islamic Economists would be vehemently opposed to them. In the current note, I propose to bypass this controversy by putting Islamic Financial institution out of the scope the discussion. I propose to discuss below only the developments in Islamic Economic Theory. .
Some Failures of Islamic Economics: Among contributors to the literature, it is widely agreed upon that Islamic Economics, with its concern for justice, equity, poverty, and its multidimensional conception of human development (not confined to income & material wealth) represents a paradigm shift and a radical alternative to conventional neoclassical views. The existing literature in Islamic economics does not reflect this radical perspective. We find two types of works of relevance to this issue. Numerous papers introduce Islamic concepts entirely within a neoclassical framework, or else make minor adjustments to it, and therefore cannot from a basis for a paradigm shift. Another set of papers discusses the radical concepts offered by Islam in a general philosophical way, without offering any means of operationalizing these concepts. This is where I believe our biggest failure lies. Even though Islam offers us critical insights in the domain, we have failed to make these insights operational:
. Islam urges the feeding of the poor, and condemns those who do not do this, Muslim economists have brought up the issue of poverty in their writings well before mainstream economics were paying attention to it. However we have participated only marginally in the huge literature which has since developed literature on basic needs, measurement of poverty, etc. Even issues central to !slamic economics, such as the effects of Zakat on poverty, have been addressed in a general theoretical and" argumentative way, with little attention to empirical effects, and operational method of efficient utilization of Zakat funds for poverty alleviation. . According to the Quran, wealth should not become concentrated in a few hands rather it should circulate freely. Although Marxists and other economists have documented the increasing concentration of wealth and its harmful effects, Muslims have been conspicuous by their absence in this literature. . Islamic teachings place a lot of emphasis on spending in the path of Allah. Muslims have not made any systematic study of charity behavior of Muslims, nor have they made any comparative studies of Muslim and non-Muslim societies with regard to charity contributions. . Muslim economics put forth the concept of Homo Is/amicus and suggested that actual human behavior is guided by motives other than pure self interest. However no empirical evidence on this issue was offered. Behavioral and Experimental economists demonstrated that in many situations, human beings" will accept personal loss for achieving broader goals such as justice, equity etc., contrary to neoclassical teachings. . From the beginning, Islam has been substantially more concerned with spiritual and moral development of human beings, and not so much with material development. While these ideals were duly espoused in the literature, no operational or empirical aspects were developed. Other researchers developed the Human Development Index, as well as the Capacities approach to development to bring in these multidimensional components of development. The areas listed above represent failures in the following precise sense. Over the same period of time that we were engaged in the development of Islamic Economics,
others developed, launched and established active research programs, which have had substantial influence, in many of the fields listed above. In each case, the research programs ran counter to established orthodoxy and faced resistance from conventional economists. In each case, Muslim Economists were there first with the ideas, but failed to make them operational, and did not participate in or influence the secular research programs that did translate these ideas into workable concept. Dissatisfaction with Progress Among Leading Scholars: When it comes to theory, it seems clear that there has been no real progress in the area. We have no consensus as to what the field is, what its guiding principles are, what the methodology should 'be, what Islamic Economists are trying to achieve. Numerous people have written on these subjects and expressed their views with varying degrees of eloquence and conviction, but no consensus has emerged. The words of Umer Chapra, a leading luminary in the field, succinctly summarize the ills that plague Islamic Economics:
The practical wisdom of Islamic economics has thus been unable to come to grips with the task of explaining the rise and fall of Muslim economies in the past, the lag between Islamic norms and the actual behavior of economic agents, and the causes of problems faced by Muslim countries. It has been unable to suggest a balanced package of policy proposals in the light of Islamic teachings to enable Muslim countries to perform the difficult task of reducing their imbalances and simultaneously actualizing the Islamic vision. Moreover, its theoretical core has also thus far been unable to come out of the straitjacket of conventional economics, which takes into account primarily the economic variables that are measurable and generally avoids a discussion of the complex historical interplay of moral, psychological. economic, social. and political factors. Islamic economics has thus "failed to escape the centripetal pull of Western economic thought, and has in many regards been caught in the intellectual web of the very system it set out to replace (Nasr, 1991, p. 388). It is thus unable to explain the difference in the performance of various societies with respect to overall human well-being. Each of the issues raised goes to the.heart of the matter, and need to be put on the high priority agenda for futUre work in Islamic economics:. 1. Islamic Economics should grapple with (economic) problems faced by current Muslim countries. It should be able to explain and analyze. the economics of their colonial past, and be able to make policy recommendations regarding their immediate future. . 2. Islamic Economics should assess the gap between norms of ideal Muslim behavior (as represented by Homo Islamicus) and existing reality. It should also present an action plan for removing this gap. 3. Islam offers a unified outlook on life, and Islamic scholars have considered economic problems within such a unified perspective in the past. We cannot take for granted the field boundaries between Politics, Psychology, and Economics which developed in the context of European social experience. Rather, we must develop the discipline in a multidisciplinary fashion suitable to our own historical experience and the Islamic Worldview. 4. Islamic Economics cannot be developed by presenting a critique of neoclassical views and offering suitable modifications. Western social science is firmly rooted
in Western historical experience. Because the historical experience of Muslim societies is radically different, we cannot graft a branch of Islamic Economics onto the tree of Western Knowledge. Rather; our analysis must be rooted in an analysis of our own experience, and developed in the course of struggling to solve our economic problems. In this process we may of course fruitfully borrow relevant tools and tactics ITom the West, but we cannot found our analyses on Western premises. This last point is of the greatest importance for the future development of Islamic Economics. The vast majority of current literature on Islamic Economics is in fact structured around a critique of neoclassical theories, and the development of some alternatives which are mostly grounded in neoclassical assumptions and methodology. T() escape the "centripetal pull" of neoclassical thought, we must build our camp in a distant location, and wbrk together to achieve "escape velocity." This means radically modifying
the existing methodology for the development Islamic Economics. Proposals in this direction are put forth in the next section. Focus on Solving Real Economic Problems Faced by Muslim Societies: As discussed, our biggest failure has been in operationalizing extremely good ideas present ,in our religious traditions. Our Prophet (s.a.w.) sought protection of Allah s.w.t. from useless knowledge -useless knowledge is precisely that knowledge which is not translated into action (or not operationalized). Teachers and researchers in Islamic Economics should focus very sharply on t4e question "What existing problems faced by the society we live in will be solved by my "teaching and/or research?" Good theory develops as a tool to grapple with a practical problem being faced by a society or a group. Because theory develops out of indigenous struggle, it is well understood, and easily motivated with reference to indigenous historical experience. In contrast, alien knowledge and technology developed to solve alien problems can be borrowed but is not readily assimilated. Defining "Problems" & Setting Our Own Agenda: In implementing the goal described above, it is crucial not to fall into the trap of defining our problems to be those that Western economists and policy makers see as our problems. For Western economists, the issues are "privatization", "Gender Equality & Female Education," "Democratization" and transition to modernity in general. We must set our own agenda. Our problems must be those that the Quran and Sunnah define as problems. For example, consider the "role of government" which continues to be a highly contested area between liberals and conservatives in the West. In Islamic teachings there is substantial consensus on the roles and responsibilities of the government (provision of justice, basic needs, and well defined roles in terms of taxation, provisions of services, defense, market regulation, etc.). There is a well developed theory of market regulation (Hisbah) which has no parallel in Western theory. Unfortunately, contemporary Muslim economists have (with some exceptions) largely bypassed these areas of strength, which provide a good base to build. on. Another issue
of critical importance is the economic problems cannot be considered iri isolation from political and social issues, as is assumed in West. Teamwork and How to Develop It: An important aspect of the lackluster past performance of Islamic Economics .is the failure to develop consenSus and teamwork. Nearly all of the leaders in the field have their own unique approach to the subject while sharing a broad general approach based on Islam, they differ substantially on the details of how it should be implemented. A research program, like a building, requires teamwork with large numbers of participants working together on a common vision. In contrast, researchers in Islamic Economics have all been placing bricks in different locations, with no two bricks being placed one on top of the other. To achieve synergy, we need to have consensus. Consensus exists only on the .fundamental teachings of Islam, and consequently, we need to make these teaching the foundational basis of our endeavors. Thus we propose the following as the definition of Islamic Economics: "The effort to realize the orders of Allah pertaining to economic affairs in the lives of Muslims." For example, the Quran enjoins the "feeding of the poor" and condemns those who do not advocate this. Therefore research and actions aimed at removing poverty and hunger should from an integral part of Islamic Economics. Similarly, all of the teachings of Islam regarding management of our economic affairs (some of which were discussed earlier), and their implementation in Muslim societies should from the body of lslamic Economics. As spiritual development is at the heart of Islamic teachings, the core of Islamic Economics should be the efforts to strengthen faith, with resultant impacts on reduction/removal of corruption, development of an attitude of service and fellow feeling, all of which would substantially impact on economic prospects. Reject Theory/Applied Distinction: Western methodology suggests that theoreticians. should not get their hands dirty - some perspective is needed for neutrality and emotion tree evaluation. As Muslims, we must reject this methodological principle. We should require translation of all theories into practical recipes. Our Prophet s.a.w. demonstrated the applied orientation of his
teaching on many occasions. When a questioner asked him about the times of Salaat, he demonstrated the earliest and latest time in practice, instead of giving him a verbal/theoretical answer. I believe it is essential for Us to work from problems to theory instead of the other way around. We should look for a real world problem to solve, and then develop theory as part of a solution to this problem. Muslims economists must get involved in the problems of their communities as well as the larger problems faced by their nation and the Ummah as a whole. Each university should have-detailed knowledge of poverty in the neighborhood, and Muslim students should be actively involved in attempts to solve these problems. Theories about poverty should be assessed in order of their relevance to the solution of the problems. Our students should be able to ask and answer questions about what is the best utilization, for the welfare of the Ummah, of the wealth generated by sales of Muslim oil? Is it really in the best interests of the Ummah to sell oil for paper, and invest proceeds in Western economies, or would we be better off restricting such sales to the amount that we can profitably invest in our own development. What benefits would accrue, economic and otherwise from greater cooperation among the Muslim countries? We should be able to evaluate the costs and benefits of introducing a common Muslim currency (the dinar) as suggested by Mahathir. Another common problem of Muslim countries is the postcolonial bureaucratic structure. In the colonized world, administrative structures were designed mainly for generation and collection of revenue trom the people, and its transport to the imperialist powers. They were not meant to serve the people in any real way. Post colonial governments typically continue in this tradition, exploiting the people to serve material interests of the people in power. Muslims are praised in the Quran as those who decide their affairs by "Shoora" or consultation - that is, decision making processes must be responsive to the needs of the people. How can we transition trom present oppressive and exploitative structures to Islamic ones? When students are motivated to solve problems, they will get a much better grasp of the strengths and weaknesses of economic theories as instruments which help solve these problems. In the process of developing solutions, they will discover the multi-disciplinary nature of the subject, as they fip.d that developing solutions will require political, social, and moral resources.
Tableegh & Dawa: An essential component of the mission of the Prophet s.a.w. was the spiritual transfonnation of human beings. The culture of Jahilliyah where people killed each other for petty purposes, was transformed to one where people fed each other while they themselves were hungry (as documented in the Quran). Islam continues to have this power to transform lives, and the Quran and Hadeeth are full of methods and incentives to bring about this transformation. In the course of their struggles to solve economic problems, our students must be taught to encourage the richer Muslims to take care of their poorer neighbors, to encourage bureaucrats they come into contact with to be honest, etc. In other words, they must learn the same techniques of dawaah and tableegh that were learnt by the Companions when they went to preach the message of Islam to their own tribes and others. This is the only way to remove the gap that exists between current behavior of Muslims in existing Islamic societies and the ideals we espouse in Islam. Unlike Western economics, which takes character as exogenous, the focus of Islam is on the transformation of character. Therefore we need to make this an integral part of Islamic Economics. An Illustration: Because the arguments above h(!.ve been made at an abstract level, it is worth giving a concrete illustration of the contents. Our main contention is that all our work should be driven by an operational target - a goal which is prescribed by the Quran and Sunnah. For instance, this present paper has three operational targets: 1. To convince Muslim Economists of the futility of building up the discipline of Islamic Economics as an auxiliary, an adjunct, a variation or a critique of neoclassical economics. 2. To generate consensus around an alternative approach - this is because the Hand of Allah is with the Jamaah, and without consensus the effort is doomed to failure. 3. The heart of the alternative approach is that we should start our work by attempting to solve a practical problem being faced by Muslim societies, and attempt to solve it in the light of Quran and Sunnah. (The problems
themselves must be those defined by the Quran and Sunnah as problems. to solve, and not problems dictated by an alien agenda.) This goal itself is prescribed by Islam, and there are many Ahadeeth on the virtues of helping a fellow Muslim or group of Muslims in need. Theories should be borrowed or developed as they are needed towards the solution of these problems. To illustrate these principles, consider the teaching of utility theory. We must ask: what purpose does this serve? What practical problem being faced by Muslim societies can be solved by the use of this tool? As a first pass, we could answer that this will help us understand the behavior of Muslim consumers (which does not differ much from their secular counterparts). But in fact empirical studies show clearly that consumers do not behave according to the utility maximization model. Thus, utility maximization will not help us understand consumer behavior. In fact, Imam Shatibi's theory of categorization of needs, competently surveyed and developed by Fahim Khan, will give us a much better understanding of both consumer behavior, and also of the relative welfare of consumers. -----------------------------1 This is one of the reasons for the development of the "as-if' methodology of Friedman, widely accepted by economists, which says that even if our assumptions (like utility maximization by consumers and profit maximization by producers) are false, our theories are still valid if they predict well.
Thus it will provide us with much deeper insight into the problem of poverty which we are trying to solve. The main point here is that this approach - which is the current main approach of Muslim economists - is backwards. We first study tools from Western economics and then try to fit them into a solution of our problems. The proposal here is to reverse this. Let us look, for example, at the problem of poverty (either in a neighborhood, or a city, or a country, or even the Ummah as a whole). We can attempt to solve it using the tools provided by Islam - these are Zakat, Sadaqat, and also the encouragement to good behavior which is part of our duties as the "Khair-ul-Ummah". In the process of applying these tools, we might come up with several problems to which there is no clear solution. For example, how to measure poverty, evaluat~ effectiveness of our programs, do cost benefit analyses of alternative ways of spending on the poor. Here we may profitably borrow theory and methods from Western analysts, while ensuring that these tools are modified appropriately to suit our specific historical and social circumstances. We should adopt a similar methodological approach to solution of all economic problems we face - in formulating these problems and their solutions, we should be guided principally by the Quran and SUlll1ah. This is in contrast to the current approach of blind and wholesale adoption ofthe framework, diagnosis, and prescriptions of Western social science, followed by an attempt to modify it to solve our problems. Conclusions: As Muslim economists, we should focus on economic problems being experienced by Muslim countries. On a broader level, we should express our concern with the economic exploitation and oppression of all human beings. The most urgent problem that we face as economists is the existence of massive resources, the phenomenal concentration of wealth into a few hands, together with large scale hunger and poverty. We should join hands with efforts to solve these global problems of inequity. We should strive to work for practical solutions, along the lines recommended by Quran and Sunnah. We should work on implementing the orders of Allah in the economic domain in Muslim societies.. In the course of solving practical problems we . face, we will develop (and if necessary borrow) tools, techniques, and theories that we need. To develop Islamic economics, we need teamwork. This can only be built around the Quran and Sunnah. To establish Islamic
Economics as a viable discipline, we need to show a successful example. We have to show the world what Islam can do in the economic domain, rather than talk about it. This involves showing (for example) how Zakat can playa role in eliminating poverty instead of discussing the theory of this, Muslim economists must get involved in the nitty gritty of it - practical problems faced in identifying the poor, political problems in getting the money to the target population, etc. We must involve our students in this as well. We can borrow Western theories when they are useful to solve the practical economic problems being faced by our societies. However, my guess is that since our problems are substantially different from those which were faced by West, and also because we have resources at our disposal (due to an Islamic identity) which they did not have, we will frequently have to develop our own theories.
(2) ISSUES IN ISLAMIC BANKING
Islamic finance has been earning huge acknowledgement and recognition by the global finance industry. Since it‟s been commercially practiced as early as 1970‟s, the so called Islamic Capitalisation has been growing gradually from 10% to 15% annually with more than 300 institutions in all over the world. And recently, Islamic Finance system is growing in a real faster pace. The beauty of Islamic Banking is that it‟s seen as a fair banking treatment to both parties, safer and more transparent. The governing principles in this system is it prohibits Riba or what we call it as the excess money, avoidance o Gharar or speculation, avoidance of Zulm or oppression and Promotion of socio-economic justice via Islamic tax (zakat). For an example, conceptually, any retail transaction done between the bank and its customers must have a base or something that they put the money onto as a cause of a transaction, and in Islamic Finance system, the term lending never existed and it‟s always a risk sharing method. The bank may form a partnership agreement or a lease agreement between the customers and the bank itself. The key components that play a big part is Islamic Banking are the Islamic banking industry itself, the Takaful industry and the Islamic money and capital markets.
The growth shows that its flexibility is undeniable as the system has been timely modernised to suit the global socioeconomic condition but, it has never been out of track and still strongly complied with the Sharia principles. The efficient governance 15
is critically needed and each Islamic Institution is required to form a Shariah Supervisory Board (SSB) to monitor its financial operations. Any issues arises is always being debated and the varieties of outcomes might be seen to best suit the famous four methodologies of Islam scholars‟ view. They are Imam Shafi‟e, Imam Hambali, Imam Maliki and Imam Hanafi.
Being a relatively new concept compares to the conventional banking system, Islamic Banking has been confronted by several issues. Some of the issues are about the standardization of banking terms, pricing formula and many more. Any shortfall in the implementation of Islamic Banking system becomes an opportunity for further improvement in the system itself. Islamic Banking in Malaysia
Malaysia has been the global Islamic Banking hub for quite some time and it began from its move to regularize the conventional banking system in the late 1990‟s. As it had foreseen earlier, Islamic Banking industry is proven, with its criteria and concept, a safer and stable system that suits the socioeconomic system within the country. Known as a contemporary an Islamic country, Malaysia is currently a leading nation for the development of capital market-based instruments under Islamic law in the form of Sukuk.
The country now accounts for about two-thirds of the global Islamic bonds (sukuk) outstanding and represents the largest sukuk market in terms of outstanding size and number of issues. Thanks to the support given by the governing body which known as Bank Negara Malaysia and for the implementation of an open market for all Islamic Finance institutions to take part in the growth of domestic Islamic Banking sector.
With more than 2,000 Islamic institutions including its branches, Malaysian banks currently offer more than 100 of Islamic financial products and services that use various Islamic concepts - such as Mudharabah, Musharakah, Murabahah, Bai' Bithaman Ajil (Bai' Muajjal), Ijarah, Qard, Istisna' and Ijarah Thumma Bai' -alongside the Islamic Interbank Money Market.
Malaysia is the best example of a country that has gone through many challenges in championing the Islamic Finance industry within a country and also abroad.
The concept of the issue
Misconceptions on Islamic banking system are still ongoing around the global society. Even in Malaysia, the global hub of Islamic Finance, if not in a large scale, is still having an issue of misconception. Malaysia stands itself as a multi-racial and multireligious country had been struggling to educate the public on the fairness and justness consist in the Islamic finance practices. Nevertheless, the progress is increasingly seen when more and more of Islamic institutions especially Islamic banks were set up and born within the nation and when there are more of customer base were created within Islamic financial institution.
The challenge of educating everyone to understand the concept of Islamic banking needs a holistic approach and needs to be supported by all governing bodies and authorities. Currently, Bank Negara Malaysia is really promoting the expansion of Islamic finance industry and has been liberalising the industry to all local and foreign Islamic institutions. Nevertheless it is really in favour of assisting the particular industry to grow.
The major misconception of Islamic banking is that it is pictured as a cluster of hard line religious believers and about religion only. Besides that, the other common misconceptions exist within the society are that Islamic Banking is not profitable because no interest is charged and Islamic banking is only offered in the Middle East.
The current practice in Islamic finance
In Malaysia, the penetration of Islamic finance into the society has been widely channelled through the banking system especially in the retail industry. It has been going head to head with the conventional products provided by the long existing conventional banks.
Basically, Malaysians have the options of subscribing the Islamic or non-Islamic banking facilities which are readily available in the market, be it from the full-fledged Islamic banks or the conventional banks. The typical retail products available in the market are the mortgages, loans, insurance and investment. What had been an issue was the concept of Islamic banking system and how do Malaysians understand and adapt into it.
Factually, by knowing that Muslim Malays are the majority of potential consumers in Malaysia, a lot of conventional banks in Malaysia have begun to adopt the Islamic finance mechanisms and are successfully creating its own Islamic divisions within the organisation to meet the growing local and global demand.
Elaboration on the issue 18
Upon all the successes in nurturing and growing Islamic finance industry in Malaysia, there are several factors that had been identified as the cause of misconceptions towards the Islamic banking system. First of all, the brand recognition is still not at the stage where the Islamic banking community wanted it to be. Furthermore, most Malaysians have been exposed to the conventional banking nature for quite a long time. Some Malaysians are still not aware that Islamic banking facilities are available for all regardless the religion background and race. That directly shows some lack of understanding about the Islamic banking system as a whole.
This relates back to the holistic approach in educating all Malaysians that Islamic banks in Malaysia are there to stay, and they are set up to meet the consumers‟ demand in its own Sharia based approach. The system will ensure a nondiscriminating services and facilities are provided which is in line with the Islamic elements based on the Quran and Prophet Muhammad (PBUH)‟s practices.
The views of scholars and practitioners on the issue
Dr Zeti Akhtar Aziz, Governor of the Central Bank of Malaysia has been the leader in championing the system since she came aboard. A leading practitioner representing the whole Malaysian‟s banking troops, and with all the capacity she has as a governor, any decision on where Malaysia‟s financial institution is heading has always favoured the Islamic financial institution. The deep understanding and vast knowledge that she has specifically about Islamic banking and finance has been transformed into a standard practice in Malaysia and that made the country became recognised as the global Islamic finance hub.
Always in her speech, Dr Zeti urged the banking world to switch their thoughts and look at how resilient Islamic finance system has been after the world being hit by the US subprime mortgage issue. Her intention has always been to correct the misconception that an Islamic banking system is incapable of keeping pace with the modern economy, modern conventional banking system and its influent to the world.
That has been proven wrong when the global Islamic finance steadily gets to maintain its robustness after the historical economic crisis hit the whole world and surprisingly, it has been increasingly gaining its share in the global financial market and in fact, today it has become the emerging industry with over 300 institutions and an estimated asset size of more than USD 2 trillion.
After continuous efforts of highlighting the beauty of Islamic banking system in the world arena, those misconceptions had been timely corrected and Islamic banking and finance has been continuously getting awards and recognitions. Some nations are seen to have begun to practice the Islamic banking system within their banking industry for example; Ireland earlier had published its Finance Bill 2010 which introduced significant amendments that are aimed at facilitating Islamic finance. France has also taken significant steps to push through changes to their tax and legal codes. Australia, Jordan and Lebanon are all reportedly working towards reviewing their legislations to be accommodative to Islamic finance.
Although Islamic banking system was proven a success story because of its ability to sustain its robustness during global financial crisis, there are still some cynical views on how sustainable it is in the long run and how competitive it can be with the recovering and progressing conventional banking system.
Throughout the years, Islamic finance has provided the perfect alternative to conventional financing as many investors have recognised the benefits of having a „no interest‟ policy which is one of the principles of Islamic finance. Interest is strictly forbidden and in addition, investing in immoral industries of „Haram‟ sectors such as alcohol, pork and gambling are also other sectors which are to be avoided. Many investors have found more quality projects in compliance with the Shariah principles and find that there is more turnover such as in sectors which are flourishing like real estate and infrastructure.
Sustainability comes originally from the sector of forestry, where long-term, intergenerational planning is required to plant and cut trees in an on-going manner, so that future generations can do the same. This status of equilibrium requires substantial discipline not to forego the long term root of living for short-term gains. In portfolio management, sustainability considers social and financial issues. It goes above and 21
beyond social responsible investing by considering positive screens and promoting investment in companies with best practices, rather than just screening out those with negative aspects, like harmful industries and bad practices for example child labour and land mines.
Islamic finance as an investment approach is based on the concept of Islamic teachings. Since its modern origins in the 1970‟s it has increasingly gains market share, especially in the Middle East. Islamic finance and sustainability approaches have a lot in common, but are not identical. Currently, Islamic finance is dominated by negative criteria similar to the responsible investing movement. Islamic finance has received overwhelming response from across the world as one discovers its ideological and practical richness and relevance. Growth in Islamic finance industry has however triggered a number of debates regarding the challenges this industry faces.
These debates essentially revolve around whether Islamic finance is progressing well and is it really there to stay? Is Islamic finance going to be a niche market or does it have a global appeal?
The driving factors would be global financial centres and their regulators support for Islamic finance industry. The current wave of interest in Islamic banking and finance is fascinating and has helped attract global banks in Asia and Europe to use their skills to practice the application of Islamic finance principles. Islamic finance has to recognise that evolutionary stage and its sustainability would depend critically on regulators work with Islamic Scholars to reach flexible and shared, if not unified, understandings on principle elements at an international level, despite differences in faiths and disciplines.
There are varieties of faiths and disciplines across Muslim practices. Rather than pursuing collective views, each faith is developing its own ways of practices that will slightly differentiate the fundamental concept of a financial transaction. This creates doubts on viability of Islamic finance given the split opinions and confuses among the public that basically relies heavily on Scholars‟ endorsement of certain products and practices. 22
Reaching consensus and shared views among scholars of different practices and understandings is always an issue in Islam. However, if an issue oftenly be rectified and solved by a collective views or consensus, Islamic finance system will be seen as a unified system that can propel the system to grow further. Competitiveness of Islamic finance in the future would depend so much on how government and regulators perceive and nurture future development of Islamic finance and address the issues highlighted previously with effective solutions and enforcement.
Standardisation and unification are vital in ensuring the continuous development of the industry to champion the global banking industry.
In the view of standardisation, Islamic finance scholars have shared the same view on how critical it is to embed its practices with ethical principles based on Shariah laws. That allows the system to stay away from the forbidden practices that will indirectly impact the society and cause moral hazards in the banking sector. Look back at the real cause of the great financial turmoil in 2008 that was originated from improper practices of the banking industry themselves. Knowing the importance and how impactful the banking industry is to the world economy, Islamic finance regulators must ensure a strict guideline on banking practices and be stern on any wrongdoings and zooming on any possible immoral practices that might jeopardize the system and tarnish the image of the system.
3) Product Innovation
The Islamic finance industry is a relatively new entrant in the world of finance because it operating principles differ from conventional finance modes of operation traditionally practices in the West. It operates in compliance with Islamic Shariah. This raises the need for developing appropriate financial instruments and services for that industry.
The major challenge facing the industry is the preservation of its excellence in providing services, expanding the scope of its financial activities, and exploiting in a beneficial way the developments in the financial market. Several developments resulting from globalisation, transparency, and capital movements were noted to have a major on the Islamic financial services industry, and present it with major challenges. The major challenge is developing products in compliance with the Shariah. Since Islamic finance is a new phenomenon, it‟s imperative that products and services are developed on a continuous basis, this focuses on the quality and diversity of products and services provided by Islamic financial institutions, and the major challenges that they face in the regard.
However, the question arises as to the product innovativeness of Islamic financial institutions, Islamic and Conventional financial products. Given the growth is outrageous for Islamic banking services and products amongst customers, there is a 24
growing debates and differing viewpoints about their nature, and the extent to which they are different from products provided by conventional financial institutions. Some Islamic products are similar to those provided by conventional institutions, but others are offered differently. Islamic banks must therefore develop products to achieve the goals of Shariah and at the same time meet the economic needs. Critics said that Islamic banking products are artificial in nature and not substantive in any way.
As a consequence, the majority of customers of Islamic products are convinced that Islamic products are similar to any other banking products, and hence, separating Islamic from Non-Islamic operations would be unrealistic. It is noted that there is a widespread use of securitisation, fictitious Murabahah deals, and certain fabricated Sukuk in the market, provided by some financial institutions in the name of Islamic banking and services. The reason for the prevalence of these practices is the engagement of conventional banks in providing Islamic products in a way that does not distinguish between Islamic and Non-Islamic financial operations, and the control systems applied to it. The problem of specifying clearly what an Islamic product stands for is compounded by the interpretation by religious scholars of Shariah, and hence unclear rulings, and the reluctant divergence from the consensus of Islamic scholars. This can lead to a questioning of Shariah certification and authentication of Islamic banking products.
One cannot rule out the presence of a partial or an incomplete similarity between Islamic and conventional products because it is not a pre-condition that Shariah operations are completely differs from conventional products. However, there is a clear difference between these products in the form of substance and the outcomes. The confusion over what is Islamic and what is not is due to the practice by some banks engaging in what they consider to be Islamically filtered, when in actual, they are not. There is some circumvention dealing in “Riba”. Such products are closer to conventional products and are different from Islamic dealings that have been considered aligned whit Shariah compliance by Shariah scholars. Hence, some current operations that are provided as Islamic in nature can be considered Non-Islamic and are closer to the conventional banking products. Changing the names or designations 25
for such products does not alter the distinguishing nature and element of what is Islamic and what is not, this can result in the provision of banking services and products that are non-Islamic in substance, where there is a true and genuine need ti Islamise these operations. Such operations result in confusion of Islamic finance products., which is ultimately lead to the avoidance of Islamic products in a final form, if such operations continue to be practiced in the future. What are considered the most successful Islamic banking operations are short-term products, which differ from long-term ones. Most of these products are considered partly Islamic because they do not meet the requirements for being Islamic in full form. The reason for such a situation is that Islamic banks operate in a dual banking system which is vastly practiced in the current banking industry. Thus, the experience that can be considered a condition that is not naturally Islamic, or alien to their mode of operations and functioning, which results in structural imperfections.
This situation will limit their professional achievements and does not result in products that are well-developed. This unusual or negative situation is not fully accommodated by the governing system because it does not give adequate recognition To Islamic financial operations, This situation directs some Islamic scholars to approve what they consider to be Islamic operations, while they are in fact very similar in form and substance to conventional operations. The outcome is a distort distinction between Islamic and conventional financial products as far as bank consumers are concerned. In addition, conventional banks are taking the lead in providing Islamic banking operations, and promoting them in a manner that does not distinguish against the conventional nature of banking. Given the acceptance of the Islamic and Non-Islamic systems in the finance field, some Islamic economists suggest that conventional banks must not be allowed to provide Islamic products in order to prevent the elimination of the distinct nature of Islamic financial products.
Successful products in Islamic banks were mostly successful in promoting the importance in applying Shariah principles in the Islamic in the economic and financial industry. Islamic banks provided fully Islamic financial products such as Mudharabah, Istisna‟, Murabahah which are fully complied with Shariah principles and guidelines. However, they failed in other products, such as in certain forms of Musharakah that are based on trust, because it is difficult to fully turn it into practice in the present 26
situation. The absence of the method or tool to ascertain its presence is a fact which makes it difficult for Islamic to effectively offering the facility.
Need for Funds The Islamic finance industry commercially begins in the 1970‟s, when it had access to large pools of capital. At that time, it did not see the need to further develop to raise funds, and it managed instruments that were considered adequate and profitable. But in the 1990‟s, a large number of non-bank financial institutions were established in the Middle East, and it results in strong competition to gain funds. The issue faced by Islamic financial institutions were the necessity to borrow funds to grow from a limited capital supply base. Islamic finance institutions have unique characteristics especially from the intellectual aspects and in the method of dealing with society‟s problems and demands. Investment projects are considered as a way of life, and a mean to develop society‟s capabilities, maximise commodity productions and achieve development plans. This is shown in the variety and diversity of the forms and transactions within the various products and services offered by Islamic financial institutions. Islamic finance provides the basic foundations that can construct more complex instruments, thereby enhancing liquidity and offering global standard risk management tools. Some examples include asset securitisation and swap transactions that are not condone to Islamic principles. Innovation is considered a significant issue in Islamic finance industry. Thus, the system can develop financial instruments which are cost savings and purely beneficial for the whole society and this will show the innovativeness that Islamic finance and banking system has.
One of the main obstacles faced by Islamic finance system is the inappropriateness of many traditional financial instruments when it comes to Shariah implementation. For one thing, Islamic bank cannot manage liquidity at hand similar to how traditional banks invest in notes or government treasuries. In addition, it has no Shariah alternative in the market. The above factors deprive Islamic banks from the financial instruments which the banks can use to manage the maturity gap at the lowest risk possible. Also, Islamic financial services are of a different nature and differ from those provided by traditional conventional institutions either in transactions or activities that require approval of the Shariah committee. This is the main difference between operations of conventional and Islamic banking and finance institutions.
Designing Islamic instruments for monetary operations has proven conceptually difficult. In countries flooded by a dual banking system, the lack of non-interest bearing securities has limited the scope of monetary management. The liquid nature of bank‟s liabilities, related to the predominance of deposits of short-term maturities, predisposes the system to hold substantial and excess reserves. This in turn, inhibits financial intermediation and market deepening. Islamic financial institutions are said to be innovative and as a matter of fact, the development in Islamic banking products is comparatively low.
There is also the problem of the non-existence of indexes to measure performance. Difficulties in defining rates of return on these instruments have also constrained the development of money and interbank market. The markets for Islamic instruments and government securities remain shallow and an organised international Islamic financial market is still in emerging stage. This particular sector must improve the range of sophistication of assets and liability classes and develop new instruments or new financial techniques that would enable Islamic banks to diversify their balance sheets. For any country to be providing diversified financial services and become risk management centres, the regulator will need to satisfy an ever-growing potential market.
Innovation will lead to higher level of competitive ability. There is a need to improve the efficiency and effectiveness of operations, through the better utilisation of resources and increasing the size of investments. Changing regulatory requirements or social pressures create the opportunity to satisfy some unmet or latent customer needs.
New product development is a necessity because companies grow by creating new growth platforms on which they could build families of products, services and nurture businesses. Possibilities for forming new growth platforms arise with forces of change. Many of Islamic institutions particularly in a Islamic finance hubs like Malaysia, Bahrain and Sudan have been gearing up its efforts for further move or expansion by continuing to develop, refine and market innovative financial instruments, on both the assets and liabilities sides.
In recent years, many new Islamic financial products have been developed and are increasingly used in financial market activities not just in retail but inclusive of equity and bond trading and Islamic insurance or we call it Takaful, and wealth and assets management products.
The effective management of developing financial industry is critical to ensure its future survival and profitability. Increasing competition the product market is becoming a norm for Islamic banking and finance industry. There is a need to innovate and practice new ideas based on Islamic foundations, and at the same time, there are in harmony with the demands of modern markets.
The need to further develop financial products and services in compliance with Islamic Shariah is essential to the survival and growth of the Islamic finance industry. To compete, Islamic banks and financial institutions must continually improve their performance by innovating products and processes, and improve quality.
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