Understanding Islamic Finance - Doha Academy of Tertiary Studies

Preference versus Permissibility of Various ModesAn Appraisal of Common Criticism 443Debt has been prevalent forever, and will remain an important part of individuals’ andnations’ economies. The holy Prophet (pbuh) himself borrowed and incurred debt (throughcredit purchase and borrowing), both for personal and the State’s requirements, as we havediscussed in Chapter 7. The only point to be taken care of is that a debt should not carry anycharge over its principal. Therefore, debt-creating modes like Murabaha, Salam and Ijarahwill remain as operating tools in the hands of Islamic financial institutions, and spot, creditand/or forward trade will remain a major economic activity in the Islamic framework. Theissue is not of the permissibility of such modes, but of a preference for equity-based modesover debt-creating modes.However, some people mix the aspect of permissibility with preference or priority. Somemodes/products are considered borderline techniques, due mainly to fixity of profit rates forthe banks. But that fixity of profit margin per se is not any problem at all. All transactionsof Islamic banks should be based on exchange of commodities, goods, services or labour.If there is exchange of commodities or services along with the application of the relevantSharī´ah principles, the transaction is permissible. Murabaha and Ijarah are permissible andthere should be no doubt in this regard. When applied by banks, any of the modes mayinvolve irregularities, making the same non-Sharī´ah-compliant. In this sense, someone maylabel any modes borderline techniques, because a little negligence on the part of the bankeror the client may cause a Sharī´ah compliance problem. But such problems are faced even inthe case of Musharakah and Mudarabah; should we avoid them for the reason that some IFIshave not applied the Musharakah conditions in letter and spirit? Certainly not. So the issue isnot one of “debt versus equity” but one of putting greater reliance on equity and subjectingthe debt to the principle of the Sharī´ah that debt, once created, should not increase as itincreases in the conventional system.For example, it was due to the careless functioning of Islamic banks in Pakistan in the1980s that their Murabaha operations involving “buy-back” and “rollover” were merelya change of name. (This may be possible even now in cases of “windows” operated byconventional financial institutions without any Sharī´ah supervision by regulators or Sharī´ahadvisors.) As a result, the Federal Shariat Court in Pakistan altogether prohibited the use ofMurabaha in its judgement given in November, 1991. The government of Pakistan preferredan appeal to the Shariat Appellate Bench (SAB) of the Supreme Court of Pakistan, whichallowed the use of Murabaha with the condition that all Sharī´ah essentials of Murabaha areapplied and banks actually become involved in trading and undertake trading risks.Similarly, Ijarah is a crucial mode that can be helpful in enhancing capital formation inan economy. But if banks do not fulfil its conditions relating to risk and reward of theleased asset, the transaction will not be Sharī´ah-compliant and the Sharī´ah advisor wouldbe justified in rejecting this.Islamic banks can charge fixed profits/rentals if they engage in trading and leasing; somuch so that if the price or the rental is not fixed in clear terms, the transactions lose validity.Therefore, the permissibility of debt-creating modes is intact and established. Financingthrough these modes, in order to be Sharī´ah-compliant, is necessarily linked to real sectoractivities and, therefore, is a source of productivity and just profitability. Any of the productsor modes should not be questioned simply because some bankers do not fulfil the requisiteSharī´ah conditions. If an effective Sharī´ah compliance framework is in operation and theSharī´ah advisors and / or regulators are vigilant about the operations of IFIs, their productsshould be acceptable.