Personal Finance / 1 July 2019 / Martin Hesse
WORDS ON WEALTH:
Years ago I wrote an in-depth feature on Islamic finance for Personal Finance magazine, explaining to the layman how it worked. Not being a Muslim, I knew nothing about the subject and had to research it from scratch: why was interest on loans forbidden, and how could a banking system function without the core concept of interest?
What I found out sparked my fascination with and admiration for a financial system that, to me, was far superior ethically to the Western capitalist model – and it is a system that has the potential to appeal to a far broader market than the Muslim community.
I will go as far as to suggest that if Islamic finance – or something akin to it founded on the same strong ethical principles – had been the dominant financial system over the past 200 or so years, the world would be a far more equitable, stable place, without there having been any less industrial progress.
Only recently, in the aftermath of the 2008 financial crisis, with younger generations highly attuned to the existential and environmental threats they face and to the mistakes of their parents and grandparents, is the developed world taking business ethics more seriously.
Hence the increased regulation of the banking system, forcing institutions to comply with ethical codes and introduce measures to prevent the excesses of the past. Hence also the rise of ESG investing – taking environmental, social and governance factors into account.
Attending this week’s Islamic Finance News Forum in Cape Town, the first of its kind in South Africa, I was struck by the fact that while Western banks are having ethical principles imposed on them by external, regulatory sources, Islamic banks have a strong internal ethical source, and thus have little need for regulation.
One speaker, Shaykh Taha Karaan, a member of the Shariah Supervisory Board at Absa Islamic Banking, expanded on this difference between the two systems in answering the question “Why does Islamic banking make sense for South Africa?”
He said that roughly up until the industrial revolution in the 18th century, there was a natural balance or symmetry between the parties in a financial contract.
But then something went wrong. With Western industrialisation and expansionism (in the form of colonialism), this symmetry was lost: capital amalgamated in the hands of a powerful few, and exploitation and usury became the order of the day.
Islam recognises the forces of supply and demand, the profit motive and the right to property ownership. However, Islamic law (sharia) ensures fairness and symmetry in financial transactions by balancing the needs of business with the needs of the community. Fundamental to this ethic are “shared risk” and “shared prosperity”.
For more on the basic principles, read “Islamic finance is based on ‘shared prosperity’”.
But a quick word about loans and interest.
A loan, on which a borrower pays interest to a lender, is foreign to Islamic finance. This is because there is asymmetry of risk, with the burden landing on the borrower. One need look no further than the consumer debt crisis in South Africa to see how unfair and asymmetrical this can be. Credit is dished out relatively freely to consumers, but when those consumers struggle to make their payments, their woes only escalate: they are hounded by debt collection agencies and hard-hearted lawyers, whose exorbitant fees are simply piled onto the debt, which is subject to compound interest in reverse; they have their wages garnished, so that they come out each month with a pittance. It’s a downward, vicious spiral. A lender may eventually be compelled to write off a debt owed to it, but not before crippling the borrower.
The 2008 crisis was a wake-up call to the Western world that easy credit has a price. It turned around and bit some of the world’s biggest lenders in the backside – Lehman Brothers to the tune of hundreds of billions of dollars. Some years later, African Bank suffered a similar fate here, although on a much smaller scale.
More and more people, including dyed-in-the-wool capitalists, are recognising that the current way we do business is unsustainable.
There is an alternative, Shaykh Karaan says. He says Islam is the custodian of this alternative, but it is by no means limited to Islam.