The current economic crises: Is Islamic Banking the solution?

Throughout the current economic and financial crisis one contrarian statistic has stood out. Financial assets offered by the Islamic Financial Services Industry (IFSI) and generally classified as “Shariah-compliant,” were less affected by the crisis. Economist Loretta Napoleoni during a lecture at the University of New Mexico proclaimed, “Islamic finance … [a] system [that] could help us to get out of the current crisis.” Writing in the influential Turkish daily Today’s Zaman, columnist Ibrahim Ozturk declared, “Islamic finance has entered a bright new stage of development, emerging after the global financial crisis as a more equitable and efficient alternative to the Western approach.” The widely read Arabic daily Asharq Al Awsat opined, “Islamic banks are untouched by the current crisis due to the nature of Islamic banking especially that it does not deal in debt trading and distances itself from market speculation that takes place in European and American banks.” How do such claims stack up against reality? Is Islamic finance different enough from conventional finance to avoid its pitfalls?

The IFSI, which has marketed itself as being an alternative to the conventional financial system, has come a long way from its rather modest and relatively recent beginnings. The IFSI was recently estimated by Moody’s to be worth $700 billion and projected by the Islamic Development Bank to be $2.8 trillion by 2015. By 2015, majority of the IFSI will be geographically centered in the Gulf Cooperation Council (GCC) region while the South Asian region will provide about 15 to 25 percent of the total services. The IFSI encompasses almost all of the institutional and architectural features of the conventional finance industry. However, it should be noted that the size of IFSI relative to the Conventional Finance Industry (CFI) is very small (about 2 percent). In other words the IFSI has not been sufficiently stress tested to proclaim its efficacy when applied to a broader set of economic situations.

One distinguishing feature of IFSI has been its insistence that in complying with Shariah (the jurisprudence of Islam) it considers dealing with interest as totally unacceptable. The avoidance of interest reflects verses in the Holy Quran (3:130; 2:175; 4:161) which forbid riba, most often and commonly translated as interest rates. The IFSI contends that it has replaced interest rates with rate of profit on equity, profit sharing finance and markup transactions.

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Categories: Americas, Asia, Economics

2 replies

  1. Any debate about Islamic or unIslamic banking may need to start with, how is money created, and who has the power to create.

    I remember Gen Zia ul Haq also was trying to start Islamic banking but it was selling the same drink in a different glass!

    Any genuine effort at Islamic banking should start at what exists today in the West, fully explain it and then build from there showing the effects of new developments. I believe the the following books give a convenient starting point:

    The Ascent of Money: A Financial History of the World [Paperback]
    Niall Ferguson (Author)

    The Case Against the Fed by Murray N. Rothbard (Sep 4, 2007)

    What Has Government Done to Our Money? and The Case for a 100 Percent Gold Murray N. Rothbard (Author)

    This would be the academic struggle, the socio-political struggle will of course be a different story!

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