Islamic Banking and Finance: Tools and Techniques for Community-Based Banking

One of the major roles of banks is to act as financial partners. They do this by lending out money to different clients and expect them to pay after a given period of time. There is an amount of interest that is charged on any amount paid. The interest serves as one of the main sources of income for the banks (Rab n.d). This is however not the case for the Islamic banking sector where any amount of interest charged on amount loaned to anyone is considered as haram or illegal. It is commonly referred to as Riba meaning any amount in excess charged on a principal amount loaned to anyone. It is this aspect of prohibition of Riba that makes Islamic banking different from the mainstream banking sector. The use of Quran and arguments from Islamic scholars serve to explain why Riba is an illegal aspect.

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One of the major arguments and justification for the prohibition against Riba in Islamic banking is the Quran. According to the Zaman (2011) Riba as applied in the case of loans is referred to as Fiqh riba al-duyun. It is highly prohibited and anyone practicing it is perceived to have committed a grave sin by disobeying Allah (Kahf 2013). There are various Surahs providing the Quranic argument as to why Riba is haram and should not be practiced by any Muslim (Demiralp and Demiralp 2015). Surah Ar-Rum of the Holy Quran points at Gods disapproval of the concept of Riba. The verse below provides the first argument indicative of the prohibition of Riba from an Islamic perspective:

And whatever Riba you give so that it may increase in the wealth of the people, it does not increase with God (Quran 30:39).

Other verses in the Quarn often quoted by Muslim scholars such as Ibn Hajar al-Asgalani include the following: And because of their charging Riba while they were prohibited from it (Quran 4:161). This argument is strongly supported by Surah Baqarah which points that God has permitted trade but not Riba.

The Quranic argument that justifies the prohibition against Riba can also be traced in the Hadiths of the Prophet Muhammed (P.B.U.H) (Kettell 2011). According to the Prophet, Riba was illegal not only from the perspective of sinning against Allah. Riba also serves to create disparities in the income levels in the society (Abdul-Rahman 2014). This is a rational that has been widely adopted by Islamic scholars in pointing at the evils of the Riba. From the Islamic perspective Riba is condemned as serving to also destroy the spirit of brotherhood and sympathy which is a main tenet of Islamic teachings (Mirakhor 2013). It is also argued that Riba serves to cause inflation and monopoly in the society as only the wealthy will be rewarded for being wealthy while condemning the poor to abject poverty.

Based on the Quranic view, it is evident that Riba serves to produce more harm than good in the society. It is not only haram but also causes more problems in the society as can be seen in the increasing gap between the rich and the poor in the modern society.

Q.2. Do you think that Time Value of Money is acceptable in Islamic Financial Transactions?

The Time value of money is an economic concept that points at the increase in value of a substance with time. It is based on the widespread preference by human beings for an asset in its present form as compared to the future (Said 2012). This has served as a basis for conventional banking where any amount of money loaned to someone should be charged with an additional interest that increases with time. This interest serves as a compensatory sum that is proportional to the value difference between the present and the future (Beck et al 2013). This is however not the case with Islamic banking which highly prohibits interest. By prohibiting the concept of interest charged on loans and other form of debts, it is evident that the concept value of time is unacceptable in Islamic Financial transactions.

The outright prohibition of Riba in Islamic Financial transactions as stipulated in the Quran shows that Islam fails to recognize the concept of time value of money (Abedifar, Molyneux and Tarazi 2013). This is a concept that has been widely pointed out in the Sharia law that one should not charge any form of interest on loans. Muslims who charge interest on loans are thus seen to have committed a sin and it is punishable for a Muslim to lend a fellow Muslim with the intention of making a profit (Ali: Quran 2011). This shows the unacceptability of the time value of money concept in Islamic financial transactions based on the fact that they are guided by the Quran and the Sharia law.

It is evident that Islamic financial transactions do not accept the concept of time value unless under some conditions. This is different from mainstream economics where there are no conditions. For instance, according to the Mudarabah principle which is a common feature of Islamic banking, time value of money in the form of interest is unacceptable (Ariff 2011). The only point where it is accepted is in the case where the amount paid is pre-determined before the actual transaction and only serve to compensate as profit and not interest. Any other motive other than that makes the concept of time value of money unacceptable. This is a concept that is echoed by different Muslim scholars such as Nazal (2012) who cites the failure to accept the time value of money as one of the main challenges affecting Islamic financial transactions.

It is evident that the time value of money is an unaccepted concept in Islamic financial transaction especially when it is related to the concept of Riba. This can be seen in the manner in which the Quran, Sharia law and Islamic principles provide objections to it citing it as taking advantage of the other party.

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Demiralp, S. and Demiralp, S., 2015. The rational Islamic actor? Evidence from Islamic banking. New Perspectives on Turkey, 52, pp.3-27.Iqbal, Z. and Mirakhor, A., 2011. An introduction to Islamic finance: Theory and practice (Vol. 687). John Wiley & Sons.Kahf, M., 2013. Time value of money and discounting in Islamic perspective: re-visited.

Kettell, B., 2011. Introduction to Islamic banking and finance (Vol. 1). John Wiley & Sons.Mirakhor, A., 2013. Progress and challenges of Islamic banking.Nazal, A.I., 2012. Risks of Marketing Credit sales Service in Islamic Banks. Arabian Journal of Business and Management Review (Oman Chapter), 2(3), p.1.

Rab, H., REALITY OF RIBA AND WAY OUT. In 2 nd World Conference on Riba The Riba Conundrum: Impartial Outlook from Accounting and Religious Perspectives (p. 30).

Said, D., 2012. Comparing the change in efficiency of the Western and Islamic banking systems. Journal of Money, Investment and Banking, 23, pp.149-180.Zaman, R., 2011. 12. Riba and interest in Islamic banking: an historical review. The Foundations of Islamic Banking: Theory, Practice and Education, p.222.