ISLAMIC BANKING: IS IT REALLY “ISLAMIC”? By: Omar Mustafa Ansari & ai!

an A"m#$ M#m%n

Is it really Islamic? …. In this era of development and growth in Islamic finance and banking, this is a question being raised at every forum by various quarters. All those who raise this question, are undoubtedly well-wishers of Islam, Islamic economic system and uslim !mmah. Accordingly, while we celebrate the achievements of Islamic banking on one hand, we should not be ignoring the issues and ob"ections being raised by such quarters in order to ensure that we lay the foundations of this industry on strong, straight and acceptable-to-all footings. O&'#(ti)#s Of Is*ami( Ban+in, #efore discussing various ob"ections raised on the present day Islamic banking, we should first try to understand the ob"ectives of Islamic banking, which are as follows$ %. &o provide 'hariah compliant and prudent banking opportunities( hence providing an opportunity to uslims to do their banking transactions ) a *alal way$ In other words, this is "ust an effort to avoid +iba and other prohibited elements from commercial and banking transactions, in order to ensure that we do ,-othing-*aram.( and Achieving the goals and ob"ectives of an Islamic economic system.


0e all can agree that, given the circumstances, the Islamic banking industry is making all efforts to ensure the first ob"ective, while the second ob"ective, although no-less important, is not the prime ob"ective of current-day Islamic banking. -ist%ry Of Is*ami( Ban+in, odern banking system was introduced in uslim countries at a time when they were politically and economically slave to the western world. &he main banks of the western world established their branches and subsidiaries in the uslim countries and territories to fulfill requirements of foreign business. &he uslim community generally avoided the foreign banks for religious reasons but with the passage of time, it became more and more difficult to engage in trade and other activities without making use of commercial banks. 1ven then, a large number of uslims, confined their involvement to transaction activities such as current account or hundred percent cash margin letter of credits. #orrowings from commercial banks or placement the access funds and saving accounts were strictly avoided by practicing uslims in order to keep away from dealing in interest which is prohibited by Islam. 0ith the passage of time, however, due to increase in cross-border transactions and other socio-economic forces demanding more involvement in national economic and financial activities, avoiding the interaction with the banks became impossible. 2ocal banks were established in uslim countries 3including the names like uslim 4ommercial #ank5 on the same lines as the interest-based foreign banks and they began to e6pand within the country bringing the banking system to more and more people. 7overnments, businesses and individuals began to transact business with the banks, with or without liking it. &his state of affairs drew the attention and concern of uslim intellectuals which gave emergence to the contemporary Islamic banking. #y the midst of the last century, many uslim countries started their efforts to adopt the Islamic economic and banking systems. any scholars, economist and e6perienced bankers came with different solutions to initiate the Islamic banking. &hose e6periences paved the route for modern Islamic banking. -owadays Islamic financial institutions 3I8Is5 are spread all over the world including 1uropean countries and the !nited 'tates. In particular these have their significant presence in 9akistan, 'audi Arabia, #ahrain, !nited Arab 1mirates, other 744 countries, alaysia, 'udan and Iran. ."% Rais# T"# /u#sti%ns? Islamic banking is a weak industry…. In respect of resources, in respect of knowledge-bases, in respect of trainedknowledgeable-sincere human resources, in respect of availability of commercial options, in respect of state support, as well as, society support, in respect of sincerity of stake-holders and 0*A& -:&. 0ith such adverse footings, unfortunately, it really has certain weaknesses which are not only targeted by the enemies, but, are more severally and forcefully attacked by the 8+I1-;'.

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rigid. religious scholars. the essence of Islamic finance which is based on risk taking is killed. the Islamic banking and finance is facing disagreements from various quarters including certain . &he argument. which is in-fact a derivative of the first argument. It is also pertinent to note that since the Islamic financial services sector is in its infancy phase. and . &hey feel that the banking per-se is against the very basic concepts of Islam. E)#r B# R#a**y Is*ami(? &he first question is raised mostly by those who either do not have any knowledge about banking.# In Nam# An$ 0%(um#nts &he most common and most discussed argument against contemporary Islamic banking is that there is . it would be difficult for any of us to rely on the same. has two different facets. which is more important one.-: . &his viewpoint is supported by the fact that.hard-core. as to on what grounds we can call it Islamic? 'o they feel that it is merely a change in name and documents and in fact. we unfortunately have to follow the conventional system in the pattern of financial products and are still not in a position to invent absolutely new financial services. usawwama. ost importantly. their endeavors are focused towards minimi=ation of their risk through every possible option and accordingly. is that even by I8Is. then we should not conclude that the same is *aram only due to its resemblance with the interest based financing. we have converted the same in a 'hariah Page . M#r#*y A C"an. the same is built-in the rentals. As an e6ample. it is observed that they try to make sure that their product is similar to the conventional products in all respects. :ne should reali=e the fact that unless we can distinguish an Islamic bank from a conventional bank. it has to be ensured that their shareholders and depositors get some return and preferably a return equivalent to those of conventional banks. an I"ara untahia #ittamleek transaction introduced by an I8I might be very similar to a finance lease transaction offered by a conventional leasing company. we will discuss these two issues before looking for other arguments. if a transaction can be engineered in a way that the same becomes 'hariah compliant. &he second facet of this question is more important and deals with the socio-economic factors associated with the overall Islamic financial system.idealistic. if they use finance leases as a financing tool.ue to significance of these ob"ections. between the conventional banking and Islamic banking and this is merely a change of name and documents. Istisna. Islamic economists 3without any disrespect to them all5.g. as to whether Islamic banking is really Islamic. . &he first one.*alal pork. e6cept for a difference of &akaful > insurance cost which in Islamic mode is to be borne by the lessee and accordingly. &hey feel that "ust like the fact that there can not be any . 8or an e6ample. it should be kept in mind that in some areas *aram and *alal have a very small difference. &he first one is that whatever is being performed in the name of Islamic banking is apparently quite similar to the operations of a conventional financial institution hence creates doubts in people<s mind. diminishing usharaka and I"ara untahia #ittamleek are on fi6ed return basis.uring the last few centuries.*alal banking. we have already faced a complete disaster in the name of interest-free banking and so-called I8Is particularly including odarabas. 'alam. and . certain . it is not simple to "ust invent a new financial tool "ust for the purpose of inventing one. &he basic reason behind this similarity is to ensure three ob"ectives.I881+1-41 A& A22. the conventional banking system has well read the human needs and psychology and has invented a considerable number of financial products and accordingly. to the I8Is in order to ensure their survival in the overall banking system.As a consequence. .even playing ground.utopian..Islamic prostitution. the most common products being used e. it is nothing different from conventional banking.virtually-fi6ed. if they have running finance and overdraft as a financing tool. 8or such reason. In addition.2 of 7 . in presence of a few persons. Can Ban+in. is to provide an . 'imilarly. only saying the name of Allah Almighty on an animal at the time of slaughter makes it *alal and permissible while by not saying that name we make it *aram or by "ust a few words of acceptance in -ikah. or . and .revolutionary. time value of money concept is used for performance measurement and pricing of financial products. 0e can note that most I8Is market their products on the models very much similar to those used by the conventional banks. &he second one. 1ven the usharaka and odaraba based products are engineered in a way that the profits are . a man and woman become *alal for each other. And the third reason is to avoid arbitrage amongst Islamic and conventional financial systems which may be e6ploited by a few big-guns to get the benefit of the pricing difference between the two parallel financial systems.. 9articularly. or those who have the courage to evaluate the banking systems from its evolution to its ob"ectives. &he second argument. there can be no . even if for that purpose they have to incorporate a few provisions in these products which are not considered to be good or a few of them are considered akrooh. is that even in Islamic banking. urabaha. particularly in 9akistan. as compared to the conventional banking. 'imilarly.. Islamic movements. 8or e6ample. we have invented an alternate to the same in form of Isti"rar with urabaha or usharaka based running finance model.

Is It -##*a Ban+in. as well as. however.e6ecution of a transaction. a *eela is applied in the . that Islam needs. 0e should acknowledge that the foundations of the industry have been built using the pillars which are directly derived from the *oly @uran. the current-day Islamic banking is emphasi=ing more on consumer finance as compared to financing to ' 1 sector. is not contributing enough towards betterment of society. a *eela is an option utili=ed to disobey the divine guidance through engineering the circumstances and playing with the facts and intentions. It is worth-noting that mostly.? &his is a general discussion at various forums that contemporary Islamic banking is based on *eelas. is about the socio-economic factors of Islamic banking. every conscious uslim will concur with the concerns of those who raise the same. in view of the gigantic volume of the black economy in the country. we believe that.virtually-fi6ed. more than one alternates have been engineered. in your opinion. it generally works on . not be used to blame the entire industry. and more importantly. from 'hariah principles it is rightly concluded that it is the substance of a transaction what makes it *alal or *aram and not a pricing model used to price the transaction or the cash-flow model used for the payments and repayments in monetary terms. . 8rom 'hariah perspective. &hese are only two e6amples. 'unnah and 8iqh. as it has been observed in a number of cases that in-fact. although being 'hariah compliant. it is not contributing enough towards the . Islamic social system are not implemented simultaneously. one can not disagree with this argument to certain e6tent. return basis( hence the same cannot attribute anything-positive towards the socio-economic changes that Islam desires. it should be noted that such a situation do not relieve a uslim from the applicability of 'hariah principles. which. what can be e6pected even if a good system for ?akat and !shr is introduced? It needs to be emphasi=ed that only the change in banking system is not a solution to the overall revolution of economic system unless other facets of Islamic economic system.oes anybody think that such dissimilarity will make it *alal? Accordingly. may we remind you that that the Islamic economic system is not something that can work in isolation of the geo-political and legislative system. but rather increases his responsibilities in the way that it becomes his duty not only to try to abide by all applicable 'hariah requirements in his personal capacity but also to put his endeavors towards improvement in such system. in most of the cases payment of ?akat and 'adaqat depends on the individual and particularly.designing of a transaction. S%(i%1E(%n%mi( Eff#(ts Of Is*ami( Ban+in. the complete transition of economy to an Islamic economic system can be performed.compliant form in form of I"ara untahia #ittamleek or in form of . . predominantly by certain Islamic economists and certain Islamic revolutionary movements. although the conclusions derived by different people might vary. In addition. 4onsequently. you cannot blame the same alone.espite such an unsatisfactory and rather discouraging attitude of the society towards application of Islamic 'hariah. the overall consensus of the society is developed towards practical application of 'hariah in all the facets of human life. Accordingly. but actually is a matter of misuse > misinterpretation of basic 'hariah guidance in respect of various 'hariah compliant financial transactions. when and only when. in case the Islamic banking. but the tally is practically very high and for each interest based financial product e6cept for those e6plicitly *aram. one can easily imagine that in an economy whereby most of the businessmen are not honest in fairly presenting the financial statements of their businesses. particularly including the governmental. If "ust a pricing model or "ust the similarity of a cashflow model makes the transaction *aram. is not what has been desired by Islam as a complete way of living."ust and equitable monetary system. how difficult it is to introduce a profit and loss sharing based financial solution. rather than .3 of 7 . and more importantly the society<s behavior towards the in"unctions of Islamic 'hariah in personal and collective matters. is not a basis for declaring a *alal product to be *aram. on the micro-finance( hence. An$ inan(# 'econd most significant argument from such group. we can safely conclude that application of *eelas in Islamic banking is not a weakness in the theories of Islamic banking. *aving due regard for these arguments. &he ob"ective of this discussion was "ust to emphasi=e that merely an amorti=ation schedule similar to the one offered by a conventional bank. Accordingly.. as well as.iminishing usharaka. In other words. &hey feel that since Islamic banking is also based on profit motive and in present form. &his is a crucial question and. what you will say regarding a conventional loan offered at a price much higher or much lower than the market prevailing rates for which the pricing model and the cash-flow model are not similar to those generally applied in the industry. agricultural sector. *aving an insight into the industry. *aving said that( this argument should. political and legislative structures. -obody can argue that virtually-fi6ed return based banking. at this point of time is in its infancy stages. Page . &he responsibilities of the uslim !mmah as a whole 3or of the 'tate5 can not be e6pected to be borne by a single sector only. certain transactions are practically applied on this basis. 'imilarly.

g. these transactions become doubtful from 'hariah point-of-view. .*alal. although they recommend that such interaction should be avoided wherever I8Is are available. :n the contrary. as well as. however.. asset destruction and holding risks and the price risk. they normally obtain financings from the conventional banks on the basis of profit and loss sharing.o you think that this similarity of price or the fact that these products are being sold under the same roof renders the *alal beef as *aram? :r for e6ample( in the same superstore you note that they are using the same balance for weighing these three types of meat. in form of strong 'hariahcompliant government securities and a stable capital market with plenty of *alal investment options available. most of the 'hariah scholars have allowed these transactions duly considering the 'hariah requirements. C%st Of B#in. we need to strengthen the Islamic inter-bank market and to provide further liquidity management options to the I8Is particularly. In other words. internal rate of return on Islamic financial products is higher than the conventional products. &his issue. where the Islamic #anks are facilitating the foreign businesses of their customer or helping out their customers to transfer the money from safe channels. 0#a*in. the remuneration or e6pense of Islamic banks is service charges which are allowed by 'hariah "urists. All dealings with conventional financial institutions should remain limited to the necessities which reach the e6tremes of compulsion. we need to strengthen the 'hariah compliance mechanism for the industry. in the longer run. it needs to be emphasi=ed that in order to support the growth of Islamic banking and finance on right footings. to interest-based transactions and as a consequence. the market players.e. :n the other hand. &hese dealings are of two types i. nobody can argue that it is a must to avoid all such transactions. 9eople feel that there are serious doubts on the honesty and integrity of I8Is. &hese transactions generally relate to the treasury side of the #ank whereby either the I8Is place their e6cess liquidity with the conventional banks or obtain financings from them to meet their own liquidity requirements. as *aram? If not. &akaful e6penses..Accordingly.*alal assets. as well as their relevant costs e. %f Is*ami( Ban+s 4it" C%n)#nti%na* Ban+s Another strong argument against Islamic banking is against dealing with conventional banks. . 8or this purpose. &hey generally give e6amples like( suppose you enter into a supermarket in !A and see that the pork. As far as services are concerned.similar. the beef and the *alal beef are all being sold for 7#9 / per kg. A "ustification against the first argument is that since I8Is are sub"ect to the commodity risk. Although. :n the financing side. A strong Islamic interbank market will InshaAllah provide us opportunities to develop our own benchmarks for Islamic banking operations. 8or placement of funds with conventional banks most of Islamic banks in 9akistan are using the product of 4ommodity urabaha or they invest in certain . strongly condemn that most of I8Is while providing financing by way of any of the . of the conventional financial institutions. it is generally observed that the e6pected rates. transactions. determine their profit rate on the basis of the current interest-rate benchmarks prevailing in the conventional money market. then we should better understand the principle that it is the substance and legal form of the transaction that makes it *alal or *aram and not its pricing. however. as well as.virtually-fi6ed. In addition.o you think that using the same balance will render the *alal beef. economists. sharing of services and commercial transactions. In addition. in addition to the risks and costs that a bank Page . *ere it would be worthwhile to have a look on the arguments by the Islamic banking for better understanding of the pricing issue. A Mus*im &hose who have bad memories of dealing with Islamic banks are in front-line of critics with this remark. 1conomists feel further issues and that and are of the view that this thing makes these financial institutions a part of the prevailing capitalistic economic systems. &hey feel that these #anks are using the name of Islam to earn a few bucks more as compared to the conventional banks or rather they are e6ploiting the faith of uslims by charging them. it is observed that on the deposit sides they pay less as compared to the conventional banks. however. including scholars.cost of being a uslim. rate or the cash-flow model or the institution. although the profit rates are once again . 'cholars are of the view that by applying these benchmarks.4 of 7 . the Islamic banking industry makes their transactions . hence this sort of transactions are absolutely not desirable by Islam. the . as well as. we need to eliminate the Islamic financial products which have the potential of misuse. needs to be addressed by the government. &he second argument which is much strong is regarding the commercial transactions with conventional financial institutions. they charge higher than conventional banks. or even the environment that offers such transaction. the actual rates of return offered by these financial institutions are fairly equivalent to 3generally slightly less than5 the rates being offered by conventional financial institutions. 8or these services. 2s# Of Int#r#st1Rat# As B#n("mar+3 Is It -a*a*? 4ritics.

this is not very uncommon. is to ensure that . An e6ample of the same is the claim by a leading Islamic bank that all its day to day activities are monitored by its 'hariah Advisor. A55r%a(" Of I Is Another valid argument is about the marketing approach being used by these financial institutions. financial e6perts have generally felt that even if these factors are considered.Islamic #ankers. T"#y 0%n6t L%%+ Li+# Is*ami( :nce you enter into a glittering branch or office of an I8I.Islamic. 1ven then. Is*ami( Ban+#rs 7 0%n6t Kn%4 Is*ami( environment does not make anything *aram. *owever. :n the other side. it is astonishing when you deal with an Islamic banker. in comparison to what they spend for marketing. interior-decoration and publicity stuff. Cou generally feel that they have over-spent on the furniture. it is generally noted that I8Is are paying less than the market. 0e can only hope that in near future. -eedless to mention. if it is humanly possible. this effect will minimi=e because of market-forces e6cept to the e6tent of pricing against actual additional risk elements. &his issue is raised particularly by the blend of people who feel that once they enter into such location. which apparently. we may safely conclude that.faces. that a part time 'hariah Advisor can look after all day to day activities of a full fledged bank with a number of branches even located at other cities. &he prime cause behind this issue is the fact that most of the I8Is have hired the conventional bankers and generally no or very little consideration is awarded to ensure that they are well conversant with the 'hariah requirements with regard to the modes of finance being used by these #anks. Although a few . Another e6ample is the claim by an Islamic mutual fund that it is the first one of its kind in the country. &his impression is further strengthened when you see the overall environment. 3in line with the dress-code of a uslim woman as defined by 'hariah5. Mar+#tin. &his argument. whereas another fund was operating in the country for around one year earlier to subscription for such mutual fund. &he first one is the general marketing approach being applied by the a few I8Is which include advertisement and other publicity materials including involvement of women and traditional marketing and advertisement styles for promotion of . Bust imagine. banking while he feels that other factors of business are not really Islamic. is against the in"unctions of Islam. in a profit and loss based model. performing 'hariah compliance reviews. 9eople raising ob"ections on the marketing approach of I8Is have two grounds for the same. *aving e6perience of training .moderate-enlightened. which adversely effects the public reliance on this mode. 0e can<t argue with these ob"ections as these have due weightage in them and the management of I8Is should take these ob"ections seriously. you can always buy a *alal product from a store where everything else is *aram although the same needs to be avoided if other options are available. as well as. &his accordingly. 'imilarly. once again. from 'hariah perspective. uslims will not like this ob"ection at all. is a strongest need that the I8Is should allocate more and more resources for staff training and 'hariah compliance. but unfortunately. higher internal rate of return.appropriate attire. nevertheless. it should look like a sacred place instead of a commercial office. with increasing competition in the Islamic banking industry. the dealing style of personnel and most significantly. 'econd ground is the marketing strategy in which sometimes it is felt that false statements are made for promotional purposes. it should be kept in mind that a common uslim cannot digest . we should keep in mind that the prime ob"ective of Islamic finance..5 of 7 . the I8Is do not spend enough on their resource-building for 'hariah compliance and training of their staff. matters are dealt with in line with Islamic 'hariah. banking business. they are "ustified in their demand i. has key significance from the perspective of the overall control environment of these banks with regard to the applicability of 'hariah principles.e. 9articularly. -evertheless.Islamic. this ob"ection is not without substance. the pricing by these #anks is on the higher side. it is agreeable that they assign weightage to different types of deposits in a manner that the total return on investment and financing pools is allocated amongst various depositors and the #ank 3working as a partner5. you feel 3in most of the cases5 that there are ladies working for the organi=ation without *i"ab or even . Page . generally you do not feel any difference with a conventional bank. who knows very little about Islamic banking. In other words.

derived from real . *owever. -ow it<s high time that the 'tate #ank and the 'hariah Advisors should take strong steps to ensure that no business is given by the I8Is to any conventional insurance company either in respect of owned assets. we should promote and support the Islamic banking and finance in the country with all our possible efforts and endeavors. &hey approve the products. I Is 2s# C%n)#nti%na* Insuran(# A valid ob"ection( can<t argue with that. Page . 3A member firm of 1rnst D Coung 7lobal 2imited5. !nfortunately. If you are getting benefits from their efforts. as well as. *owever. and might support us in augmenting a truly Islamic financial system. should be paid the minimum for his life. &his situation. it is a good proposition from the 'tate #ank that a "urist should not be allowed to hold more than one remunerative position as a 'hariah Advisor or member of a 'hariah #oard. is not "ustifiable. may not be termed as perfect. A&%ut Omar & ai!an: :mar is a 4hartered Accountant by profession. in order to avoid interest by ourselves and providing interest-free opportunities to our brothers and sisters in Islam. 9eople have largely noted and discussed at various forums that the ma"or contribution in this field in 9akistan is limited to a very small group of "urists most of whom relate to a single family and their pupils 3a single religious university5. abroad are quite high and this may "eopardi=e their independence. #esides this. Alhamdolillah has changed after introduction of Islamic mode of insurance 3&akaful5 in 9akistani market.6 of 7 . it is always agreeable that it is the right time that contributions from "urist from other schools of thought should also be sought and they should necessarily be provided opportunities to enter into the field. which is. an indicative of a conflict of interest 3without any doubt on their personal independence and integrity5.# Sti** 8r#f#r Is*ami( Ban+in. 0e should not try to pull legs of an infant who is "ust trying to take his first step towards a long "ourney to go. 8or this purpose. as well as. as well as. however. it is felt that they are the only ones who are whole and sole responsible for 'hariah compliance. we should try to ensure that he commences his "ourney on the right way. 'uch Islamic banking. ay Allah accept our efforts and forgive us for our mistakes in this field in our individual capacities. but can provide us with a shelter from interest based transactions for the time being.M%n%5%*y Of S"aria" A$)is%rs Another ob"ection is regarding the appointment of 'hariah #oards and 'hariah Advisors.compulsion. and is presently working as 9artner ) Islamic 8inancial 'ervices 7roup with 8ord +hodes 'idat *yder D 4o. there are a still I8Is who have not yet switched to &akaful while to-date three &akaful companies and a family &akaful company have commenced operations in 9akistan and now this lame e6cuse of compulsion can not be e6ercised anymore. the banks were required to obtain insurance coverage from conventional insurance companies and this practice was allowed by the 'hariah Advisors to the e6tent of compulsion only. will serve as an e6periment for the time when we will really be in a position to the implement the complete Islamic way of living in our beloved country. consultancy fee and other benefits being offered to such "urists by the I8Is in 9akistan. because the contribution of these people to the industry as a whole is remarkable and they deserve even more than that based on their contribution and efforts in the promotion of this industry. or against assets held under security. &he Islamic banking and financial system is a part of such system and is not construed to be applicable in isolation while other laws and customs repugnant to the 'hariah requirements are still in force. then they should be "ustifiably rewarded. oulvi. ost of the people conversant with the business and operations of Islamic finance do not agree with this observation. In addition. S"%u*$ . with strong footings. we may say that we are required by our religion to implement a complete Islamic way of living in our individual and collective lives and the society and the government as well. will help these institutions to innovate fresh products. for the sake of our own benefits.. &his will ensure that fresh blood gets an option to enter into the field which will eventually improve the overall 'hariah compliance in the field. another question is also being raised that generally the honorariums. they review the transactions and in the end( they perform 'hariah audit themselves. ay Allah Almighty bestow us his blessings and enable us to evolve a complete system of life in accordance with the principles of life provided by the *oly @uran and the *oly 9rophet 3'AA0'5. and more appropriately said. *aving said that. :mar en"oys vast e6perience in audit. as a society. their knowledge and skills. &he general concept that a . as well as. It was a real issue that according to the legal requirements.? As a conclusion to this debate.

'hariah compliance and providing related services to Islamic finance industry in 9akistan. anaging 8inances ) A 'hariah 4ompliant 0ay. 8ai=an holds e6perience in the field of 'hariah audits and product development. as anager ) Islamic 8inancial 'ervices.. Page . he has worked with a leading Islamic bank as 'hariah 4oordinator and 'hariah Auditor.7 of 7 . 9resently. he is working with 8ord +hodes 'idat *yder D 4o. In past. *e is author of a #ook on Islamic finance namely .