Riba Equation Islam.pdf

8/11/2019 Riba Equation Islam.pdf

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The Riba-Interest Equation and Islam:

Reexamination of the Traditional Arguments

Mohammad Omar Farooq

Associate Professor of Economics and FinanceRoyal University for Women

Final version is forthcoming in:Global Journal of Finance and Economics,

Vol. 6, No. 2, September 2009, 99-111


2/13Electronic copy available at: http://ssrn.com/abstract=1579324

Introduction1

From a modest beginning of Islamic banking in early 1970s, now there are Islamic banks orfinancial institutions in 70 countries, including some where Muslims are not the majority. With totalcapitalization of $200+ billion as of 2000,

2Islamic banking/finance [IBF hereafter] movement may

be in an enviable phase, as conventional western institutions are aggressively working to

dominate this otherwise-religious niche.

The crux of Islamic banking is freedom from Riba, which is commonly equated with interest.3The

relevance and Islamicity of IBF movement rests on the claimed prohibition of interest in Islam.Ribais categorically prohibited in the Quran.

God has permitted trade and forbidden riba. ... God will deprive ribaof allblessing, but will give increase for deeds of charity.

4

O believers! Devour not riba, doubled and multiplied; but fear God that ye mayprosper.

5

There is no controversy that Islam prohibits riba- or some types of riba.6However, the meaning

and scope of the concept have generated impassioned controversy, especially on whether ribaand bank interest are to be considered equivalent. The focus of this essay is not on whetherinterest is riba, a topic that often gets bogged down with legalistic and scriptural references.Rather, it is on the relevance and merit of traditional arguments offered for prohibition of interest.

Is there an Ijma'(consensus)?

The issues pertaining to riba-inerest equation are vitally important for Muslims who want to live byIslam, with conviction that nothing prohibited (haram) by God is made permissible (halal) andnothing permissible is made prohibited. There is significant confusion and ambivalence amongMuslims about this issue. The literature that equates interest with ribais voluminous andoverwhelming, and may lead to the conclusion or impression that some consensus exists overthis issue.

7

The reality is anything but. Muslim scholars and jurisprudents have been prone to claimconsensus quite liberally. The label ijmainspires awe among faithful Muslims. However, theexistence of multiple schools of jurisprudence (Fiqh) is not an evidence of, but lack of, consensus.

1The author gratefully acknowledges the feedback on some specific aspects of this paper from

Nobel Laureate Milton Friedman.2Warde, Ibrahim. (2000), Islamic Finance in the Global Economy, Edinburgh University Press,

pp. 1-2. 3Saleh, Nabil A. (1996), Unlawful Gain and Legitimate Profit in Islamic Law: Riba, Gharar and

Islamic Banking, Cambridge University Press, pp. 47-48.4The Quran/2/al-Baqarah/275-276.

5The Quran/3/Ale Imran/130.

6Several leading companions of the Prophet (Ibn Abbas, Usama ibn Zayd, 'Abdullah ibn Mas'ud,

Urwa ibn Zubayr, Zayd ibn Arqam) "considered that the only unlawful ribais ribaal-jahiliyyah. Saleh, op.cit, p.27.

7Siddiqui, Shahid Hasan. (1994), Islamic Banking: Genesis & Rationale, Evaluation & Review,

Prospects & Challenges, Royal Book, Pakistan, p. 15.


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There is not even a consensus on the definition of Ijma. Imam Ahmad ibn Hanbal, founder of oneof the four sunnischools, reportedly asserted: "Whoever claims consensus is a liar."

8

Equating interest with ribais the prevailing, orthodox position. However, that position, and anyclaim of a consensus should be treated with circumspection.

9Just as the voice of advocacy for

IBF is becoming overwhelming, there are also contrary voices.

Abdullah Yusuf Ali [d. 1953] equated, not interest but, usury with ribaand wrote: My definition (ofusury) would include profiteering of all kinds, but exclude economic credit, the creature of modernbanking and finance."

10

Among others who have rejected the simple Riba-interest equation is Muhammad Abduh [d.1905, Rashid Rida [d. 1935] and Fazlur Rahman [d. 1988].

11Some have taken a more critical

position against the equation: Syrian scholar Marouf al-Daoualibi in 1930s, Egyptian jurist al-Sanhuri in 1940s, and mufti of Egypt Shaykh Tantawi in 1989.

12Tantawi declared that interest on

certain interest-based government investments was not forbidden riba. ... Later he went evenfurther, saying that interest-bearing bank deposits are perfectly Islamic, and more so than'Islamic' accounts that impose disadvantageous terms on the customer."

13

Even among the classical scholars, definition and interpretation of ribaleave significant room fordifference of opinion. According to Imam Ibn Hanbal, riba al-jahiliyyah, an exploitative, predatorytype of increase in debt is the only type prohibition of which is beyond any doubt."

14

Despite the availability of fatwas(religious edicts) from the truly few shari'ahexperts, the IBFliterature so far has not convincingly removed lingering doubts about the equation. On the otherhand, those who have argued against this equation have not made their arguments clearly andconvincingly to help common Muslims determine it on their own.

Orthodox rationales for prohibition

To examine traditional arguments for the prohibition of interest, we have selected two polemicalsources, Yusuf al-Qaradawi and Sayyid Abul Ala Mawdudi, for the following reasons: (a) Thesetwo authors have enumerated a list of arguments against interest. (b) Modern IBF movement hasbeen deeply influenced by contemporary Islamic movements, where both authors are held inhighest regard. In pertinent literature it is assumed that interest is ribaand that the rationales forprohibition of interest are well established. Such literature has seldom examined the traditional

8Quoting Ibn al-Qayyim. I'lam al-Muwaqqi'in, pt. 2, p.179.

http://ourworld.compuserve.com/homepages/Abewley/usul5.html.9Farooq, Mohammad Omar (September 2007). The Riba-Interest Equivalence: Is there an Ijma

(consensus)? Transnational Dispute Management, Vol. 4, No. 5.10

Ali, Abdullah Yusuf. (1988), The Holy Qur'an: Text, Translation and Commentary, 2nd ed.,Tahrike Tarsile Qur'an, n324.

11

Saeed, Abdullah. (1996), Islamic Banking and Interest: A Study of the Prohibition of Riba andits Contemporary Interpretation, E. J. Brill, p. 43.

12El- Gamal, Mahmoud (2000). "An Economic Explication of the Prohibition of Riba in Classical

Islamic Jurisprudence," Proceedings of the Third Harvard University Forum on Islamic Finance,Cambridge, pp. 31-44.

13Vogel, Frank and Hayes, Samuel III. (1998), Islamic Law and Finance: Religion, Risk and

Return, Kluwer Law, Hague, p. 46.14

Vogel and Hayes, pp. 72-73; also see Farooq, Mohammad Omar (2007b). Stipulation ofExcess in Understanding and Misunderstanding Riba: The Al-Jassas Link, Arab Law Quarterly, Vol. 21No. 4. pp. 285-316.


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arguments or rationales from a critical perspective.

Before continuing with these authors two more modern works are worth mentioning, neither ofwhich I used as a source for the "traditional" polemical arguments. The first is by M. UmerChapra.

15This work is for readers more familiar with economics, as its arguments are based on

western economic experience and thoughts. Chapras work appears quite modern to thebelievers who embraced the riba-interest equation. However, its superficiality in some respectsbecomes evident when one notes his incorrect citation of some major western references.

For example, Chapra invokes the rationale "economic stability": interest causes instability,implying that interest-free economy would be less unstable.

16Modern interest-based economies

have shown susceptibility to instability. However, where is the evidence that business cycles in aninterest-free economy would be smoother? If it could be empirically demonstrated that interest-free economies would be better performing in terms of (1) needs fulfillment, (2) full employment,(3) equitable distribution and (4) economic stability - the four universally-cherished humanitariangoals identified by Chapra - the pertinent discourse would qualitatively increase. However,experience of the countries committed to the interest-free direction does not empiricallycorroborate the relationship that Chapra postulates. Moreover, Chapra's use of westernreferences to buttress his points is misleading. He quoted Nobel Laureate Milton Friedman insupport of his "economic stability" argument.

17

In response to a personal query, Friedman wrote in two emails18

to this author: "The op-ed thatwas quoted in the article you sent me does not provide any support whatsoever for the zerointerest doctrine. ... it is simply out of context. ... I do not believe there is any merit to theargument that an interest-free economy might contribute toward greater economic stability. Ibelieve indeed it would have the opposite effect."

Some Western economists blame interest rates for contribution toward instability.19

However, themisleading part of Chapra's use of such sources is that rarely (if at all) such western economists,including Friedman, make such arguments to propose elimination/prohibition of interest, per se.

Another recent, comprehensive work is by M. Nejatullah Siddiqi, where he explicated the

rationales for prohibition of bank interest, listing the following reasons for prohibition of interest(riba): It corrupts society, implies improper appropriation of other peoples property, causesnegative growth, demeans and diminishes human personality, and is unjust.

20

Siddiqis flawed logic can be identified by simply examining, for example, his first point that ribacorrupts society. While riba-based transactions are unjust and thus may have corrupting influenceon society, corruption-related literature does not identify interest as a pertinent determinant. MostMuslim-majority countries rank high in the Corruption Perception Index (CPI) of TransparencyInternational. But no one has identified interest as a determinant of corruption. As we will see,Siddiqi's enumeration is generally not much different from the earlier ones by al-Qaradawi andMawdudi, and is equally polemical and empirically unsubstantiated.

15Chapra, M. Umer (1992), "Prohibition of Interest: Does it make sense?" pp. 38-41

http://www.zb.eco.pl/zb/161/economy.htm.16

Chapra (1985), Towards a Just Monetary System, Islamic Foundation, UK.17

Friedman, Milton (1982), "The Yo-Yo U.S. Economy", Newsweek, 15 February, p. 72.18

December 12, 2005; December 16, 2005.19

Dar, Humayun and Presley, John. (1999), "Islamic Finance: A WesternPerspective," International Journal of Islamic Financial Services, Vol.1 No.1, pp. 3-11.

20Siddiqi, Mohammad Nejatullah. (2004), Riba, Bank Interest, and The Rationale of Its

Prohibition, Islamic Development Bank, Visiting Scholars Research Series.


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Let me return to the two authors, al-Qaradawi [1926-] and Mawdudi [d. 1979]. Al-Qaradawimerely reproduced arguments given by Fakhr al-Din al-Razi [d. 1209], a towering Islamic scholarof the 13th century, indicating that rationales for prohibition of interest are a settled matter.Notably, the rationales were articulated by fallible human beings. The Qur'an does not offer anydetailed list of arguments. Only one rationale is identifiable from the Qur'an: exploitation/injustice(zulm).

21Prophetic narrations do not provide any additional rationale.

Rationales according to al-Qaradawi/al-Razi

According to al-Qaradawi: The strict prohibition of interest in Islam is a result of its deep concernfor the moral, social and economic welfare of mankind. Islamic scholars have given soundarguments explaining the wisdom of this prohibition, and recent studies have confirmed theiropinions...." Then, al-Qaradawi refers to and quote al-Razi's four arguments: (1) Unfair exchange(taking something from a party without giving him something in return); (2) economic argument:an idle class argument; (3) moral argument: Undermining of charitable attitude among people;and (4) social argument: wealthy-lenders/poor-borrowers, a disparity leading to exploitation andundermining of human kindness and charity.

22

Notably, the pertinent issues about interest involve commercial transactions, not non-commercial(or charitable) transactions, a distinction generally not maintained in the traditional argumentsagainst interest.

Now let us examine al-Razi's arguments, articulated by al-Qaradawi.

First: The taking of interest implies appropriating another persons propertywithout giving him anything in exchange, because one who lends one dirhamfortwo dirhamsgets the extra dirhamfor nothing.

23

One can argue that, in trade, taking something from someone without giving something inexchange is haram(prohibited) in Islam. However, the argument is misleading and erroneous.For non-charitable transactions, both parties are aware that lending and borrowing are based on

lenders profit motive. Here the lender is foregoing the purchasing power for a specific period.Why would a profit-orientated lender lend at zero interest or return?

While some argue that inflation premium is justified,24

IBF proponents generally contend bothnominal and real interest are prohibited. Interestingly, except in a zero inflation economy,sustainability of which is not a realistic proposition, an interest-free transaction would entail someredistribution of purchasing power. Interest-free loan transactions should not involve gain or lossby either of the parties. So, taking into consideration the time value of money, in case of the extradirham, it is the agreed compensation to the forgone purchasing power for the fixed duration. Thelender is getting interest for transferring something; it is not something for nothing.

The IBF literature generally denies that Islam recognizes time value of money. "In Shari'ah, thereis no concept of time value of money."

25Some argue that time value of money as pertaining to

21The Quran/2/al-Baqarah/279.

22Al-Qaradawi, Yusuf. (undated), The Lawful and the Prohibited in Islam, Hindustan Publications,

India, pp. 265-266.23

Ibid., p. 265.24

Zineldin, Mosad. (1990). The Economics of Money and Banking: A Theoretical and EmpiricalStudy of Islamic Interest-Free Banking, Almqvist & Wiksell International, Stockholm, pp. 50-51.

25Usmani, Muhammad Taqi. (2002), An Introduction to Islamic Finance, Kluwer Law, Hague,

p.xvi.


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deferred sales is allowed in Islam, but that is different from the case of loans. Others evensuggest that there should not be any profit-motive on the part of Muslims, seeking service fromIslamic Banks.

26Such view is nave, and contrary to the Islamic approval of profit motive.

Regardless, whether it is denied at the polemical level, the Islamic financial institutions [IFIshereafter] at the operational level have not been able to avoid time value of money. Cost of short-term and long-term financing from such institutions does differ, which is a clear evidence of timevalue of money.

27

Interestingly, IBF proponents often cite the growing interest of western banks in Islamic bankingas an important achievement.

28However, denying the time value of money in theory, but

embracing it in practice helps to partially explain the western interest. These conventional banksare not necessarily convinced about the claimed superiority of IBF,

29but their perspective is they

don't find anysubstantive difference between their conventional banking and the current practiceof Islamic banking, which has shifted away from profit-loss sharing/Risk-sharing-basedtransactions.

30With basically comparable performance of Islamic banks,

31it is just another vast

untapped market for the western banks. They also have formidable competitive advantage interms of credibility, experience, and capitalization.

32

The interest of western banks did not begin after seeing the success of the IFIs. The relationship

between these conventional banks and IBF movement goes further back. "The internationalbanking system was also instrumental in the very creation of Islamic banks."33

Second (argument): Dependence on interest prevents people from working toearn money ... The value of work will consequently be reduced in his estimation,and he will not bother to take the trouble of running a business or risking hismoney in trade or industry. ... This, from an economic point of view, isunquestionably a weighty argument.

34

There are several problems with this argument. First, there is confusion about modern lendingarrangements, where lending institutions mobilize savings from savers/depositors and channelsuch savings to the borrowers. These institutions do have to work. They employ a lot of people,and function often in highly competitive environment. While risk associated with individual

transactions varies, banks in the business of financial intermediation do face business, financialand other risks.

Second, the context of modern commercial banking has changed fundamentally since the days ofal-Razi of the 13th century, when modern banking system did not exist. The primary sources of

26Haron, Sudin and Ahmad, Norafifah. (2000), The Effects of Conventional Interest Rates and

Rate of Profit on Funds Deposited with Islamic Banking System in Malaysia, International Journal ofIslamic Financial Services,Vol.1 No.4, pp. 3-9.

27Zaman, M. Raquibuz and Movassaghi, Hormoz. (2001), "Islamic Banking: A Performance

Analysis," The Journal of Global Business, Vol.12, No.22, pp. 31-38.28

Iqbal, Munawar and Molyneux, Philip. (2005), Thirty Years of Islamic Banking: History,Performance and Prospects, Palgrave, p. 58.

29

Aggarwal, Rajesh and Yousef, Tarik (2002). "Islamic Banks and Investment Financing," Journalof Money, Credit and Banking, Vol.32, No.1, pp. 93-120.

30Farooq, Mohammad Omar (2007a). Partnership, Equity-Financing and Islamic Finance:

Whither Profit-loss Sharing?" in Review of Islamic Economics, Vol. 11, Special issue, pp. 67-88.31

Samad, Abdus and Hassan, M. Kabir. (1999) "The Performance of Malaysian Islamic BankDuring 1984-1997: An Exploratory Study," International Journal of Islamic Financial Services, Vol. 1 No.3, pp. 3-12.

32Vogel and Hayes, op. cit., pp. 6-7.

33Warde, op. cit., p. 108.

34Qaradawi, op. cit., p. 265.


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capital for banks are demand and time deposits. Demand deposits come from people irrespectiveof their financial status. Time deposits are usually from older, retired, and risk-averse savers.They seek guaranteed or safe return. It is a need that covers, again, people of all financialbackgrounds. These older people neither can seek "earned" income nor can be expected to takerisk.

Third, the IBF movement originally began with identifying Mudarabaand Musharaka[profit-loss-and risk-sharing partnerships] as the primary modes of operation, arguing that Islam believes inprofit-loss-sharing (PLS and thus, risk-sharing).

35However, most IFIs have given up or

marginalized the PLS/risk-sharing modes, and have turned to the predominant mode ofMurabaha, a mark-up mode as well as other debt-creating modes that allow them to ensure riskavoidance almost altogether in their transactions

36and earn relatively high return. "The average

cost efficiency ... is 74%, whereas average profit efficiency ... is 84%."37

These banks have found PLS modes inoperable in the modern context.38

Thus, quietly they havedisengaged from the PLS modes and fallen into murabaha syndrome: "the strong and consistenttendency ... to utilize debt-like instruments" particularly in external financing.

39Murabahawas

originally recognized in Islamic law as a type of sale only. IBF movement adopted and adapted itas a mode of financing "only as a device to escape interest."

40Islami Bank Bangladesh Limited

(IBBL) reports: "The first action that deserves immediate attention is ... (that) Islamic banks, stepby step, have to be converted into profit-sharing banks by increasing their percentage share ofinvestment financing through PLS-modes."

41However, since the beginning of banking activities in

1983, the bank has not invested any amount in any project on the Mudarabamode ofinvestment.

42

Siddiqi asserted during the 1980s: "For all practical purposes this [mark-up system or Murabaha]will be as good for the bank as lending on a fixed rate of interest."

43The same viewpoint was

echoed by the Supreme Court of Pakistan (1999).44

OICs Islamic Fiqh Academy repudiated thesynthetic murabahas, and called for its minimization and replacement by PLS products.

45

So, what's the solution the IFIs have resorted to? The IFIs continue to talk about MudarabaandMusharaka, but use what is operable, i.e. Murabahaand other modes with pre-determined

incomes or outcomes. Unfortunately, "the predominance of the murabaharepresents a challengeto the very notion that Islamic finance would provide an alternative to interest-based conventional

35Iqbal and Molyneux, op. cit., p. 28. Khan, M. Mansoor and M. Ishaq Bhatti (2008),

Developments in Islamic Banking: The Case of Pakistan, New York, Palgrave Macmillan, p. 45.36

Vogel and Hayes, op. cit., p. 141.37

Hassan, M. Kabir. (2005) "The Cost, profit and X-efficiency of Islamic Banks," 12th AnnualConference of Economic Research Forum, Egypt, 19-21.

38Saeed, op. cit., pp. 76-95.

39Yousef, Tarik. (2004), The Murabaha Syndrome in Islamic Finance: Laws, Institutions and

Politics, in Henry, Clement and Wilson, Rodney. (eds.), The Politics of Islamic Finance, EdinburghUniversity Press, pp. 63-80.

40

Usmani, op. cit., p. 41.41Islami Bank Bangladesh Limited. (undated), "Concept and ideology: Issues and problems of

Islamic banking," http://www.islamibankbd.com/page/ih_12.htm.42

Alam, Mohammad Nurul. (2000), "Islamic Banking in Bangladesh: A Case Study of IBBL,"International Journal of Islamic Financial Services, Vol.1 No.4, pp. 28-42. Also, see Farooq, op. cit.,2007b.

43Siddiqi, Mohammad Nejatullah. (1983), Issues in Islamic Banking, Islamic Foundation, UK, p.

139.44

Supreme Court of Pakistan. (1999), The Text of the Historic Judgment on Interest.45

Vogel and Hayes, op. cit., p.143.


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financial systems."46

Siddiqi put it more bluntly: A financial system built solely around thesemodes of financing can hardly claim superiority over an interest-based system on grounds ofequity, efficiency, stability and growth.

47He did not envision the predominance of such debt-like

instruments. In a more recent work, he cautioned: "As a result of diverting most of its fundstowards murabaha, IFIs may be failing in their expected role of mobilizing resources fordevelopment of the countries and communities they are serving."

48

Things have fundamentally changed relative to the originally-postulated principles of Islamicfinance, and despite the criticisms or lack of the desired shariah-compliance, murabaha(andother, mostly debt-like instruments) continue to be the mainstay of IFIs. Usmani, a leadingshari'ahexpert, makes a stunning revelation:

"[Islamic] philosophy cannot be translated into reality unless the use ofmusharakahis expanded by the Islamic banks. ... [T]here are no visible efforts toprogress towards this transaction even in a gradual manner, even on a selectivebasis. ... [T]he basic philosophy of Islamic banking seems to be totallyneglected."

49

Yet, even though PLS/Risk-sharing mode has been virtually abandoned, quite deceptively, "(PLS)

dominates the theoretical literature on Islamic finance."50

Indeed, observations of some authors -such as, The IBF Model is primarily based on equity-sharing or PLS instruments, namely,Mudarabahaand Musharakah

51- might constitute misrepresentation, because the model actually

based overwhelmingly on non-equity-sharing or non-risk-sharing modes (murabahah,ijarah, etc.).Thus, the second polemical argument of al-Qaradawi involving risks, as explained above, nowstands on its head.

Moreover, "no fixed rate of return", a long-standing dictum of IBF movement, has also beenabandoned. Iran, a country that has officially committed itself to interest-free economy andbanking now has fatwafor public borrowing on the basis of a fixed rate of return.

52

Third (argument): Permitting the taking of interest discourages people from doinggood to one another, as is required by Islam. If interest is prohibited in a society,

people will lend to each other with good will, expecting back no more than whatthey have loaned.... (This is the moral aspect of the prohibition).

53

Except in case of charities, this argument is misplaced and erroneous. This might also imply thatpeople in the interest-based societies have diminished goodwill toward others and they don't doas much charitable acts. However, there is no pertinent empirical corroboration.

46Yousef, op. cit., p. 64.

47Siddiqi, 1983, op. cit., p. 52.

48Siddiqi, op. cit., 2004, p. 75; also see Farooq, Mohammad Omar (2008). The Challenge of

Poverty and the Poverty of Islamic Economics, Journal of Islamic Economics, Banking and Finance, Vol.4 No. 2, pp. 35-58.

49Usmani, op. cit., p.113.

50Dar, Humayun and Presley, John (2000), "Lack of Profit Loss Sharing in Islamic Banking:

Management and Control Imbalances," International Journalof Islamic Financial Services,Vol. 2, No. 2.pp. 3-18.

51Khan and Bhatti, op. cit., p. 45.

52Ariff, Mohamed. (1988) "Islamic Banking," Asian-Pacific Economic Literature, Vol. 2, No. 2, pp.

46-62.53

Qaradawi, op. cit., p. 266.


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Fourth (argument): The lender is very likely to be wealthy and the borrowingpoor. If interest is allowed, the rich will exploit the poor.... (This is the socialaspect of the prohibition).

54

Wealthy-lender/poor-borrower is an untenable stereotyping. In the institutional context, savers,who are not necessarily rich, are also lenders to the depository institutions. Indeed, until savers

have sufficient capital to invest in the capital market (bonds, stocks or mutual funds), manyyounger or not-so-well-to-do people stick to the savings accounts of banks. Based on US data,top 1% income class constitutes 44.1% in stocks/mutual funds investments; next 9% classconstitutes 40.4%; and bottom 90% class constitutes 15.5%. In terms of bank deposits (allcategories included), top 1% provides 21.7% of bank deposits; next 9% provides 35.5%; andbottom 90% provides 42.8%.

55Thus, such stereotyping is not supported by the changed reality of

our modern times. "Today ... debt is not necessarily associated with poverty."56

There is another important twist to this argument. Either required to maintain certain levelof reserves with the central banks or due to lack of appropriate investment opportunities,many IFIs, including Islamic Development Bank, do deposit their funds in interest-bearingaccounts, even in foreign countries. This is based on fatwaof shari'ah-compliance basedon the rules of necessities (darurah).

57

IBF movement also was expected to contribute toward broader economic development. However,many IFIs, similar to the case of Egypt, have shown a bias toward the urban and the rich.

58

Usmani echoes: "the Islamic banks ... should have given preference to the products which mayhelp the common people to raise their standard of living. ... This area still awaits attention of theIslamic banks."

59These incisive comments of Usmani are not from the earlier decades of infancy

of 70s/80s, but reflect recent periods of the 21st century.

Rationales according to Mawdudi

Now let us turn to the arguments given by Mawdudi.

The main reason why Islam abolishes interest is that it is oppression ( zulm)involving exploitation. The second ... is that it transfers wealth from the poor tothe rich, increasing the inequality in the distribution of wealth. A third reason ...is that it creates an idle class of people who receive income from accumulatedwealth. The society is deprived of the labour and enterprise of these people.

60

From a rational perspective, unlike the problems of international debt affected by political factors,the exploitation element in modern commercial lending is unclear. Usually, based on mutualagreement, a financially capable and creditworthy party borrows either for profitable ventures orfor personal needs, and the banks lend at a competitive rate, subject to applicable regulations. Inmodern economies, savers or depositors of all financial backgrounds are the providers of funds tobanks. In that sense, these savers/depositors are lenders or providers to the depository

54Al-Qaradawi, op. cit., p. 266.

55Wolff, Edward N., (forthcoming), Changes in Household Wealth in the 1980s and 1990s in the

U.S., Working Paper #407, Levy Economics Institute, 2004., Table 6.56

Saeed, op. cit., p. 29.57

Vogel and Hayes, op. cit., pp. 38-39.58

Warde, op. cit., p. 174.59

Usmani, op. cit., p.115.60

Ahmad, Khurshid. ed., (1980), Studies in Islamic Economics, Islamic Foundation, UK, pp. 253-254.


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institutions. The exploitation argument here lacks either any polemical merit or empiricalfoundation. Of course, some financial services (including credit cards) may involveexorbitant/predatory rate of interest, which can be too risky for borrowers, especially if based onvariable or teaser rates. The excesses of exploitative, interest-based transactions, operating in anunregulated environment, should be covered by ribaand thus Islamically prohibited.

Second,interest contributes to income inequality is an unsubstantiated, polemical argument.What the western countries have achieved in terms of rising above mass poverty and higherstandard of living, notwithstanding their negative aspects and impacts, is more important than theincome inequality issue. Indeed, interest "transfers from the poor to the rich" in an interest-basedsociety is an erroneous argument, because as explained above, most individual investors, duringtheir advanced age, seek less risky investments and cant be expected to become profit-losssharing entrepreneurs.

The lender-borrower profile and relationship in the modern context of institutionalized financialintermediation have fundamentally changed particularly after the industrial-capitalist revolution inthe 17th/18th centuries. The rationale for prohibition based on exploitation argument is notsupported by the contemporary reality. Traditional arguments also call for PLS and avoidance offixed rate of interest. However, as critics of the industry argue, with the support of economicallyand financially lucrative fatwa(religious edict) industry, there is no dearth of shari'ahscholars orboard to supply the relevant fatwato offer debt-like instruments that are interest-free but in name.In cases of Islamic financial engineering, the rule of necessity (darurah) is being invoked all toofrequently. Even investing excess funds in interest-bearing accounts abroad has also been madeshari'ah-compliant. In many cases critics are pointing out that the shariahboards are sometimesserving as 'rubber stamps' for the banks management."

61

Furthermore, the expression "shari'ah-compliant" is often misleading. To be shari'ah-compliant,murabaharequires that seller must take possession of the product before it can be sold to abuyer. However, the critics argue that most IFIs routinely violate this provision, sometimes withfatwafrom their respective shari'ahexperts based on the position that possession does not haveto be physical or real, rather constructive possession is alright or adequate. So, by shari'ah-compliant generally what is meant is that it is considered acceptable by a board of shari'ahexperts that is handpicked and employed by these institutions, often with quite a high level ofmonetary compensation.

Referring to many constraints for an infant industry, Usmani reveals: some of these IFIs "havenot been able to comply with all the requirements of shari'ahin all their transactions."

62However,

any such disclosure or disclaimer by the IFIs is virtually non-existent. Now the shariah board ofLariba bank, with Qaradawi as one of the experts, has issued a fatwathat: "there is no objectionto using the term 'interest' as an alternative to the term 'profit' or 'rate of return'."

63

The emerging power alliance of wealth and shari'ahscholarship" is noteworthy. Theshariah experts, just a few people in the industry, who are generally from rather modesteconomic background, are courted and patronized by the industry through luxury airtravel, private jets, five-star hotel accommodation, exposure to media and people ofhigher socioeconomic strata. The opportunities of the fatwaindustry have brought aboutreal change in the lifestyle of many allied ulama. ... ... Many of them are now accused ofbeing bankers' window-dressers and of over-stretching the rules of shari'ahto provide

61Warde, op. cit., p. 227.

62Usmani, op. cit., p. xviii.

63Lariba Bank. http://www.lariba.com/fatwas/qaradawi.htm.


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easy fatwasfor the new breed of bankers.64

This is the only area of Islamic law, whereshariahexperts can amass serious worldly riches.

65While the evolved orthodox position

about ribawas not necessarily tainted by worldly considerations, the contemporary IBFdiscourse around the riba-interest equation does note the debate on 'fatwas for sale' ...'fatwa wars', etc.

66

Of course, neither all shariah-experts can be stereotyped, nor the entire IBF movement bestereotypically dismissed for such concerns. There are experts well known for integrity and evenas overconservative

67However, while this new alliance can be beneficial to bring the otherwise-

traditional ulamafrom their mold that is out of sync with the modern times, the alliance of wealthand scholarship, in regard to determination of shari'ah-compliance, is a matter of grave concern.Muslim history has not been immune to the "court ulama" in service of the tyrannical status quo,in contrast with the noble ulama, often shunned or even persecuted by the contemporary politicalauthorities. The case of the failure of Bank al-Taqwa is illustrative of some shari'ahboardsrunning amuck. When the bank showed an annual loss of 23 per cent of principal, the board gavethe necessary cover to the malpractices and fraudulent reporting.

68

Riba-interest equation: A myopic reductionism

Traditional rationales for the prohibition of interest may not hold, but there is a larger issue ofexploitation that seems to be missed by the traditional position. Islam's position regarding justiceis unequivocal and universal. It sets the highest standard in this regard. O believers! stand outfirmly for justice, as witnesses to God, even as against yourselves, or your parents, or your kin,and whether it be (against) rich or poor.

69Islam is against exploitation of humans by other

humans. However, Islam has become a victim of legalism, where form has overtaken the spiritand substance.

70

Ironically, while anti-exploitation, Islamic rhetoric is commonplace in the literature, no specificempirical or focused studies on exploitation is listed in bibliographic works.

71 What role did

interest play in British East India Companys successful mission to turn South Asia into a colonyand exploit for more than two centuries, or in causing or facilitating international exploitation in the

age of globalization? Through preoccupation with the interest-exploitation connection, the IBFmovement has entrapped itself into myopic reductionism. Driven by the quest for power andprofit, global financial and corporate powerhouses that also play a vital role in worldwideexploitation

72have become patrons of the Islamic banking industry. IFIs do not complain about

such exploitation, because their focus is ironically on rendering the world interest-free, not

64Kahf, Monzer. (2004) "Islamic Banks: The Rise of a New Power Alliance of Wealth and

Shari'ah Scholarship," in Henry, Clement and Wilson, Rodney. (eds.). The Politics of Islamic Finance,Edinburgh University Press, pp. 17-36.

65Matthews, Owen. (October 31, 2005), "How the West Came To Run Islamic Banks,"

Newsweek.66

Warde, op. cit., p. 227.67

Iqbal and Molyneux, op. cit., p. 109.68Kahf, op. cit., in Henry and Wilson, note #18, p. 35.

69The Quran/4/an-Nisa/135.

70Farooq, Mohammad Omar (2009, forthcoming). Toward Our Reformation: From Legalism to

Value-Orientation in Islamic Law & Jurisprudence, International Institute of Islamic Thought, Herndon,Virginia, USA.

71Ahmad, 1980, 115 pages; Khan, Muhammad Akram. (1983), Islamic Economics: Annotated

Sources in English and Urdu, Islamic Foundation, UK, 221 pages.72

Bakan, Joel. (2004), The Corporation: The Pathological Pursuit of Profit and Power, FreePress.


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exploitation-free. Also, notably, many oil rich Arab countries, founded and thriving on tyranny andexploitation, have been the primary source of capital for the IBF movement.

The Qur'an is against concentration of wealth in a few hands.73

However, "The ownershipstructure of the Islamic financial industry is highly concentrated. Three or four families own a largepercentage of the industry."

74

Due to the reductionist preoccupation with the riba-interest equation, the IBF movement isvulnerable to be subsumed by the global capitalist enterprise. Naqvi

75(1981) asserted: "the

abolition of ribais one ... element of a comprehensive Islamic reform to establish an exploitation-free economic system"

76 and warned "against thinking in terms of mechanical substitution of

profit for interest." In his view, the abolition of riba is not powerful enough by itself to engineer asmooth transition from an interest-laden economic system to an exploitation-free Islamiceconomy."

77

Comfortable with political tyranny, patronized by wealthy rentier classes in the Muslim world, andincreasingly managed by the global financial powerhouses, the IBF movement is more thanvulnerable to be confined in the realm of rhetoric against exploitation, or worse, inadvertently may

even become an instrument of exploitation.

Conclusion

Fixed or guaranteed rate of return, at least for public debt, is no longer un-Islamic. Profit/loss-sharing and risk-sharing, as inoperable, are now marginalized, if not discarded. What wasshunned before, murabaha for example, as permissible but undesirable, is now the mainstay ofIFIs. Murabaha-syndrome is so serious, even some leading IBF advocates and experts considerit a crisis of identity of the IBF.

78

Thus, not only the traditional arguments for prohibition of interest, even at the polemical level, donot hold (and are almost abandoned at the practical level), but also the IFIs have virtuallyeliminated any substantive distinction between Islamic and conventional banking, attracting andfacilitating aggressive participation of western conventional banks in the Islamic arena.

79

So, why is it easy to understand the rationales for the prohibition of riba, but not for the blanketprohibition of interest? Why do the traditional arguments for prohibition do not hold up? Why havethe evolving IFIs marginalized the equity-based, risk-sharing modes and have embraced debt-likeinstruments as their mainstay? Why are these institutions still concentrating on short-termproducts, where the long-term products are more important for economic development? Whydoes the IBF movement increasingly need to resort to Hiyal(legal stratagem) to claim shari'ah-compliance? Why are the conventional western banks becoming backers and financiers of this"Islamic" movement?

Some common explanations offered by the IBF are: (a) the problems and challenges are part ofits learning curve, and (b) IBF can't operate in its essence in a society and environment that is not

Islamic. However, in my view another explanation is more relevant and applicable, which is

73The Quran/59/al-Hashr/7.

74Iqbal and Molyneux, op. cit., p.122.

75Naqvi, Syed Nawab Haider. (1981) Ethics and Economics: An Islamic Synthesis, Islamic

Foundation, UK.76

Naqvi, op. cit., p. 124.77

Naqvi, op. cit., p.153; emphasis is Naqvi's.78

Iqbal and Molyneux, op. cit., p. 125.79

Vogel and Hayes, op. cit., p. 292.


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explored here. It suggests that the blanket riba-interest equation is not tenable from Islamicviewpoint and, maybe, that explains why the traditionally-offered rationales for prohibition ofinterest do not hold up, which also helps explain why so many Muslims remain confused andeven unconvinced about Islamic banking and finance. Through the riba-interest equation, IFIs arein greater need to resort to legal stratagems to maintain an Islamic veneer and to adopt things(e.g., fixed rate of interest; or a mark-up that is indexed, pegged, benchmarked to the interestrate) that they have otherwise rejected as Islamically unacceptable.

Interest can beriba(and thus prohibited in certain situation), especially if it has an exploitativeelement or dimension. Indeed, in such case, a more relevant equivalent of ribais usury. Also, therelationship between ribaand exploitation/injustice is evident, but not in case of commercial bankinterest (in a competitive environment and under government regulation to especially protect theborrowers). In any case, if one is to generalize prohibition of all interests (commercial and non-commercial, nominal and real), then there has to be more convincing rationales. Furthermore, thediscourse has to be elevated from a polemical level to a more substantive level, supported withempirical works/studies.

Finally, while the traditional rationales for prohibition of interest are indicative of an apparent anti-exploitation concern, the intellectual and theological framework, within which this discourse is

framed, does not demonstrate a commensurate understanding of exploitation in thecontemporary world. Islamic scholars of finance and economics should go beyond thereductionist obsession with freedom from interest, and perhaps become engaged in amore substantive and critical discourse focusing on freedom from ribaas well as exploitation.

Documents

Riba Equation Islam.pdf