Paradoxes of Islamic Finance

Ibrahim Warde

The Islamic financial institutions have the approximate weight of 230 billion dollars, or forty times more than in 1982 1.  The case of Citibank, which since 1996 has established its subsidiary in the Islamic emirate of Bahrain, most major western financial institutions is currently engaged in this activity, in the form of subsidiaries, “Islamic booths or products Financial resources to a Muslim clientele.  There is even a “Dow Jones Islamic market”, symbol of the integration of Islamic finance in the global economy.

 This phenomenon may seem paradoxical, because some consider Islam incompatible with the “new world order” that has been established with the end of the Cold War 2.  As explained at the time of financial globalization, the institutions that refuse to “usury” can integrate with a system totally based on profit and techniques modernized with the resurgence of political Islam to reach their golden moment at the very moment that political Islam enters downhill 3?

The Islamization of banks

The modernization of Islamic finance was outlined in the 70’s, between the advance of pan-Islamism and the oil boom.  The Six Day War (June 1967) pointed out, in effect, the beginning of the decline of the Nasserite, pan-Arab and secular, and paved the way for regional hegemony of Saudi Arabia under the banner of pan-Islam.  The creation in 1970, the Organization of Islamic Conference (OIC) met the Muslim countries and put the precepts of Islam’s economic agenda.  Islamic institutes of economic research proliferated.

 In 1974, at the summit in Lahore, the OIC decided in the wake of the quadrupling of oil prices, creating the Islamic Development Bank.  This institution, based in Jeddah, has established the parameters of a system of mutual help, based on Islamic principles.  In 1975, he founded the first private Islamic bank, Dubai Islamic Bank.  An international association of Islamic banks was created to establish and defend common interests.  In 1979, Pakistan became the first country to enact the Islamization of the whole banking sector, as has been accompanied, in 1983, the Sudan and Iran

A financial system associative

Fell to Muslim jurists to adapt a pre-capitalist tradition to the needs of contemporary society.  For if it showed favorable to trade (profession practiced by the Prophet Muhammad), religion condemned the profits generated solely by finance.  The Koran teaches, for example, that despite their similarities, the profits generated by trade are fundamentally different from those generated by loans (2:275).  Islam forbids riba particularly.  This word, usually translated as usury, literally means “increase”.  His interpretation, but always lent itself to controversy: for some, riba refers to all forms of “fixed interest”, for others the word means only the profit motive.  Although some religious authorities, including the current Sheikh of Al Azhar in Egypt, have declared some form of legitimate interest, many ulema continue to adopt a restrictive interpretation.

Without challenging the principle of payment of borrowed money, the Islamic tradition is opposed to the aspect of “fixed and pre-determined” interest with regard to equity and implies the potential for exploitation in relation to the debtor.  Islam tends to advocate the equitable distribution of risks and benefits 4.  In the early days of Islam, the form of financing used most frequently was on linking the creditor and the debtor: a successful financed an operation carried out by someone, sharing equally the profits and losses.  This financial transaction associative – that inspired the system of partnership, by proxy, the French – follows a logic similar to venture capital, popularized by the “new economy”.

Sharing profits and losses

Theorists believed that Islamic finance system more adapted to the economic needs of the Islamic world and to the moral demands of religion.  In fact, as the bank focuses on the traditional holders of capital or property capable of being mortgaged, the financial system gives chance associative dynamic entrepreneurs – who are not millionaires.  This system also allows those who, for religious reasons, so far preferred savings, an integration of production cycle.  Islam added, also, a charitable dimension to finance: thanks to the management of “charity funds” 5 as well as their donations, the banks had to fight against poverty and exclusion.

This new financial system was based on two principles of association finances – the mudaraba (partnership) and Musharaka (association).  Other Instruments “neutral,” such as Murabaha (where the bank has the role of intermediary business, buying goods needed for their customers and reselling them at a profit) would have a transitional role: allowing banks to generate funds until it was widespread participating financial system.  The remuneration of deposits, was also based on the principle of sharing profits and losses: the savings accounts were paid (or not) according to the income of the establishment, the “investment accounts” to finance specific applications, were paid on the result achieved by these applications.

Transformative change in Islam

However, the financial partnership has proved a disappointment, neither the financial infrastructure, nor the attitudes were ready for it.  The experience of the failures caused many institutions to disregard the initial ambitions.  In the absence of profitable investment in their countries of origin, applied a significant portion of their funds in the West.  His predilection for “real estate” (real estate market of raw materials) exposed a large number of banks to losses.  Instruments “neutral”, which should have only a transitional role, is perpetuated.

In many ways, Islamic banks only differ from their conventional counterparts by a language designed to conceal the existence of profit.  They had their face the disaster of Islamic investment companies in Egypt in 1988 6 as well as a number of scandals.  Many thought at the time that the Islamic finance were just a fleeting episode associated with the oil boom.

In fact, they would still meet growing very large because in that time many changes have transformed the international financial world and of Islam on the one hand, technological change and deregulation (financial globalization, financial products etc.). On the other hand, changes political, economic, and social changes, on the other hand (the impact of the Iranian revolution, the Gulf War, the end of the Soviet Union and emergence of new Islamic states, fluctuations in the oil market, rise of the “Asian tigers”, the emergence of a bourgeoisie Muslim religious etc..).

 Different religious interpretations

 But it was at the expense of modernization of its principles and practices that Islamic finance could know your real boost.  If the first ijtihad (interpretation effort) was characterized by legalism and the scholastic aspect, the second struggled to find the spirit or ‘moral economy’ of Islam, taking into account the principles that have long allowed their adaptation to more different cultures’ urf (acceptance of local customs), darura (need) and maslaha (general interest).

The Islamic financial networks, which used to be monolithic and dominated by the Gulf, reflect, now, the diversity of the Muslim world.  Even the countries that “more Islamic” completely their economic systems have differences originating from geopolitical circumstances, or economic, and different religious interpretations.  Instruments which currently spend a significant growth are frequently those who, in the 70’s were illegal (insurance, or takaful), or use still limited (the fund).  Therefore, in addition to growth in the financial world of sicav ethical or socially responsible funds are invested in companies or sectors, whose character has been proven legitimate 7, draining, now, the savings of Muslims.  Islamic financial institutions operating in over seventy-five countries.

A world of “Bankers without banks”

The integration of Islamic finance in the global economy is rich in paradoxes.  The fact that the finances of the 90 generate the bulk of their profits from fees and charges on services (rather than, as before, from the spread between lending and deposit) has overcome the theological debates regarding the riba.  On the other hand, the wave of financial innovation that followed the deregulation made possible the sale of any type of product Islamic.  A financial obligation, for example, could be broken, allowing each of its components – the “main” and “profit” – to be sold separately.

Moreover, the decline of traditional commercial bank, along with the development of investment banking firms and venture capital, justified the legitimacy of the idea of participating financial system.  Rather, the approach between industry and finance, as well as the merger of financial institutions, re-create the conditions for a world of “Bankers without banks, which prevailed during the golden age of Islam.

source : lemonade

Islamic banks way ahead of conventional banks

The asset-base of the Islamic banks increased by 13.3 per cent in Oct-Dec 2009 compared to 7 per cent growth in total assets, posted by conventional banking system during the same period under review.
According to the SBP latest report, Islamic banking operations remain profitable and steady in Dec-09 quarter. Growth in assets of Islamic banking continued to surpass the growth of assets in conventional banking by expanding the share of Islamic Banking Institutions (IBIs) in the industry as a whole.
Report stated despite decline in the rate of infected portfolio during Dec-09, increasing Non-Performing Finance (NPFs) remains the key challenge facing IBIs since the first quarter of CY09.
The NPFs to financing ratio decreased by 20 bps to 6.3 per cent amid healthy growth in financing. Category-wise analysis shows continuous increase in NPFs in loss category which now constitutes almost half of the NPFs.
However, increase in NPFs has resulted in marginal change in provision largely due to enhancement of FSV benefit on classified loans. Resultantly, net NPFs to financing ratio increased and provision coverage ratio declined. Increasing net NPFs also deteriorated the capital impairment ratio by 1.5 percentage points during Oct-Dec 2009. Sector wise analysis depicts that textile, others and individuals have the major share in financing. However, infection ratio is quite high for the sectors of automobile & transportation equipment and textile. As per the report revelations, the balance sheet composition of Islamic banks remains stable during the quarter.
Nevertheless, in line with the historical quarterly trend, most components saw improvement during Dec-09. On the asset side, significant increase took place in financing and investments.

source : nation