Money and morality

Now managing funds in excess of $800 billion, Islamic financial institutions are predicted to become even more popular. Geoffrey Gresh takes a look at the realities of religious finance and considers the possibility of other faiths getting in on the act.

When examining the social and economic factors driving the popularity of Islamic banking, we need to look at it in the following manner: There are approximately 1.3 billion Muslims around the world. If I were a Muslim and wanted to take out a loan or go into business, I would opt for an Islamic option. I would be supporting an institution that adheres to my faith. Moreover, I would see doing business with an Islamic institution as something that is more morally responsible. Around the world today, there is greater religiosity, especially in Islam. So it is understandable why Islamic finance and banking has taken off the way it has. Muslims are looking to spend or save their money with institutions that align with their faith.

In places like Central Asia where Islam is on the rise, a majority of the countries in the region view the presence of an international Islamic financial institution like the Islamic Development Bank (IDB) positively because of its ability to help respective governments promote both Islam and socio-economic development. Islamic banking and finance, where no usury or riba is permitted, has only just begun to take root across regions like Central Asia and could be used in the future as an instrument to channel the energy of Muslims who desire greater inclusion of Islam in government.

But it’s also easy to see the influence of Islamic banking and finance spreading to non-Islamic entities. In addition to upholding certain business practices that are in line with Islam, those involved in Islamic banking and finance also view it as a business where they seek to make a profit using the concept of profit and loss sharing. Islamic financial institutions are now operating in approximately 80 countries and their assets have increased more than forty-fold since the 1980s. Major western financial firms and banks like HSBC and Citibank have all opened up Islamic windows within their institutions where they abide by all Islamic banking and finance principles. Further, there is now a Dow Jones Islamic Market Index that tracks more than 600 companies whose operations and services adhere to Islamic Law.

Historical basis
The history of Islamic finance dates back to the days of the Prophet Mohammed in the seventh century. Every business transaction that took place between the capital provider and merchant was set up through a profit and loss sharing system, or Mudaraba. The capital provider was similar to that of a venture capitalist today. He wouldn’t know the outcome of the deal but when the merchant returned after six months or so, the two would settle the deal between them. If there was a loss, they would split losses. If there was a gain, they would split the profits. Morally, it was a system that made sense. And if nothing went wrong, you could make a lot of money.

Religiously speaking, there are four references to Riba in the Koran. More specifically, the Koran states that earning money from interest or Riba is unacceptable, but earning money from trade is acceptable. The Hadith and Sunna also provide interpretations for Riba and other Islamic-compliant business transactions.

To complicate matters, there is no one central authority when it comes to Islamic banking and finance. Each country or Islamic financial institution has a Shariah Board consisting of Imams or prominent religious figureheads that establishes the specific operating practices and principles. In recent years, there has been an attempt to standardize practices and Islamic financing. In Malaysia, for example, the country has forced uniformity with a national Shariah board.

Islam is a very diverse religion with many different sects and interpretations. Islamic banking and finance is exactly the same. Each country or financial institution’s Shariah Board might have a very different idea of what is or isn’t permitted. Some countries like Malaysia have a more ‘liberal’ interpretation in Islamic banking, while a country like Pakistan or Saudi Arabia would have far more strict rules. All of this is slowly changing and there is an impetus now to further standardize some of the Islamic banking and finance practices applied in a respective country. Uniformity around the world will probably never take place but there is at least an attempt to bring more of the interpretations and practices closer in line with one another so that what one does in Malaysia will be similar with a practice in Egypt for example. You must keep in mind as well that Islamic financial institutions are also businesses and they must adapt to the global economy if they want to succeed and make a profit. Maintaining a strict interpretation of Islamic Law and applying that to Islamic banking and finance might not always be the most sound business decision.

Again, Islamic financial institutions abide by Islamic Law (no Riba etc.) and uphold the principles of profit and loss sharing in their daily practices. There is nothing against earning a profit. Rather, it is the way you go about making a profit that is contested. Islamic institutions have come up with innovative products and services that uphold these Islamic principles and bypass traditional conventional banking practices that charge interest. For example, there are Islamic bonds, Islamic hedge funds, and even Islamic mortgages and insurance. In sum, there is a genuine difference between “conventional” banks and Islamic banks. It is not just semantics.

As far as standardization goes, there are certain aspects of Islamic finance that are similar throughout the market. Terms like murabaha or mudaraba will be familiar to all, as will recognized products like sukuk (Islamic bonds). However, the school of Islamic jurisprudence that an institution follows will affect the products it offers or creates. For example, a Shariah Board that follows the Shafii school of Islamic jurisprudence might have a much more liberal interpretation of what Islamic products are permitted compared to a Shariah Board that upholds the Hanafi school of law. A Shariah Board in Iran that follows Shi’a Islam might also have a different interpretation on what Islamic products are permitted. Yes, all Islamic financial institutions uphold core principles like profit and loss sharing and the prohibition of usury. But there are so many different Islamic financial products, as well as different Islamic jurisprudence schools, that it makes it hard to devise any universal procedures and products.

A growing trend?
But Islam is not alone among religions in offering precedents for morally motivated finance. Historical debates and references regarding interest go all the way back to the Hamurabi code of 1800 BC. The code placed limits on interest rates and banned compound interest. It was the first legal code in history, written in Mesopotamia. Centuries later, Aristotle also provided the most influential argument about the “barrenness” of money. He stated that money should be solely a means of exchange and not allowed to multiply.

The Bible alone makes many references to this idea of morally motivated financial transactions. For example, Deuteronomy, 19:19-20: “Do not charge your brother interest, whether on money or food or anything else that may earn interest. You may charge a foreigner interest, but not a brother Israelite, so that the Lord your God may bless you in everything you put your hand to in the land you are entering to possess.”
Or look at Leviticus 25:36: “You shall not charge your brother interest on a loan, either by deducting it in advance from the capital sum, or by adding it on repayment.” In other words, you shouldn’t charge your brothers. Lastly, we have Luke 6:34-35 “And if you lend only where you expect to be repaid, what credit is that to you? Even sinners lend to each other to be repaid in full. But you must love your enemies and do good; and lend without expecting any return; and you will have a rich reward” In essence, you should lend without expecting any return.

So there are a number of historical precedents for morally motivated financial services. In theory at least, this would mean that there is plenty of scope for others to follow in Islamic finance’s footsteps. But as to the future success of such an institutional model, I really don’t know how successful it would be. Islamic banking and finance has been so successful because of the 1.3 billion Muslims that are enticed by responsible financial institutions that uphold their faith. Additionally, the petrodollar windfall of the 1970s and 80s permitted many Arab countries of the Gulf to invest in establishing Islamic financial institutions that could span the globe over the past few decades. I don’t know if other religious organizations would achieve this same success unless they had similar resources. If another religious institution wants to invest in establishing a successful religiously-based financial institution, it might be difficult to break into the market. But as with everything, you don’t know how it will work until you try.