IS ISLAMIC BANKING SIMILAR TO CONVENTIONAL BANKING?

The comparison between Islamic Banking and Conventional Banking was already in discussion globally for not less than three decades particularly in the countries where Islamic Banks are in operation. Acknowledging the growth of the Islamic Banks and its acceptability across the globe many entrepreneurs, Organisations and Islamic scholars in India had also worked hard for getting the approval of RBI to start Islamic Banks in India. Though India is not Muslim dominated country but considering the religious belief of more than 180 million strong populations and in order to improve the financial inclusion in the country, finally RBI has given the approval for exploring the possibility of interest free banking. After the consent of RBI and potential growth expected in Islamic Banking, many finance consultants, intellectuals and even politicians have started debate and discussion on the comparison of Islamic banking and Conventional banking and thus this issue has got some space in print and electronic media.

I share my views base on my own study about the Islamic finance for the benefit of readers and also tried to point out what Islamic Banking system is really all about and how it differs from the conventional banking systems. There are countless misconceptions, misinformation and fallacies about the dissimilarities of these two banking systems.

So what is Islamic Banking ??

The principle of Islamic finance is based on belief that ,

      "all forms of interest are riba and hence prohibited ".

Islamic law considers a loan to be given or taken, free of charge to meet any contingency. Thus in Islamic banking, the lender should not take undue advantage of the borrower.

When money is lent out on the basis of interest, more often it leads to some kind of hidden injustice. Interest based transaction is an unjust transaction which only makes the lender earn and the borrower suffer.

The first Islamic principle underlying for such kind of transaction is "Deal not unjustly, and ye shall not be dealt with unjuslty" [2:279] which explain why commercial banking in an Islamic framework is not based on the debtor-creditor relationship.

Financial transaction in Islam is base on the principle that there should not be any reward without taking a risk. This principle is applicable to both labour and capital. As no payment is allowed for labour, unless it is applied to work, there is no reward for capital unless it is exposed to business risk.

Islamic Banking operate on Islamic principles of profit and loss sharing, strictly avoiding interest, which is the root of all exploitation and responsible for large scale of inflation and unemployment. As it is said and believe that Islam is the only religion that prescribes complete code of life therefore, it not only restrains a person to indulge in Riba based transaction but also describes the ways to address their financial needs.

Islamic bank is committed to do away with disparity and establish justice in the economy, trade and create employment opportunities.

Islamic Banking mostly offers same facilities as Conventional banking system that is strictly follows the rules guidelines of Shari'a. The original meaning of the Arabic word Shari'a is ' the way to the source of life ' and is now use to refer to legal system in keeping with the code of behaviour called for by Holy Quran.

Main source of shari'a are: Noble  Quran, Hadith, Sunnah, Ijma, Qiyas and ijtihad;

● The Noble Quran is a book of compilation of the verses that were revealed from Allah on the prophet Mohammed (peace be upon him).    

● The Hadith is the statements said by the Prophet Mohammed (peace be upon him)

● Sunnah is the Prophet practices and behaviours during his life.

● Finally Ijma , Qiyas , and Ijtehad is different levels and practices of shari'a decisions & opinions from Islamic religious scholars and researchers.

Prohibition of Interest

The religion of Islam has prohibited interest on loan given and instead has encouraged giving of qard al-hasan to needy people. Islam has stated that taking interest on loan given is one of the greatest sins. Simultaneously, Islam has encouraged people to do business by investing the surplus money. The profit arises out of business is halal, it is not riba (Interest). So Muslims can invest surplus money in business to gain profit.

If Muslims give loan to needy one, they cannot take fixed rate of interest on the loan given. They can give the poor or needy people the money as qard al-hasan (interest free loan). Islamic legal system has encouraged Muslims to give sadqah (charity) and qard al-hasan to needy people with an intention to help them in meeting their basic needs of life. Allah has promised reward for qard al-hasan.

There are many verses in the Quran dealing with riba. This verse was revealed in chapter thirty in surah al-Rum which reads :

          

"That which you give in usury in order that it may increase on (other) people property has no increase with Allah, but that which you give in charity seeking Allah's countenance , has increase manifold" (surah Rum, verse 39).

In the above verse Allah is encouraging giving charity instead of giving loan and taking riba on the loan given.

As of now the author is not having any data, if any portion of the fund is kept reserve by the existing Islamic Banks for the purpose of giving Qard al-hasan to needy people.

Categorical Differences between Islamic Banking and Conventional banking systems

·        The primary difference between these two banking methods is that the Islamic Banking system is based on the Islamic Shari'a law while the conventional banking system is based on man-made ideology and principles.

·        Thus, all dealing, transaction, business approach, product feature, investment focus, responsibility are derived from the shari'a law, which lead to the significant difference in many part of the operation with as of the conventional.

·        Another distinction is that Islamic banks operate on the basis of profit and loss sharing. This means that if an entrepreneur experienced losses, the Islamic bank will share the losses as opposed to Conventional banks that will still charge interest even if the businessman suffers losses with bank loans. This creates misbalance in the society by which the rich grows rich and the poor falls down the line.  

·        Conventional banks use money as a commodity as well as a mode of exchange and store of value whilst Islamic banks only use money as a medium of exchange and a store of value, not a commodity. This denotes that conventional banks trade money at higher price and rent it out as well whilst Islamic banks don't.

·        With regards to profit-making, the Conventional banking system uses time value as a source for charging interest on capital whereas Islamic banks use profit on the exchange of merchandises & services as a source of profit charging.

·        As a results of its profit and loss sharing principles, Islamic banks focus more on debtor`s investment projects, assessments and valuation compared to conventional banks where income from loan is predetermined.

·        Islamic banks cater for the public interest first, its primary objective is to ensure halal (lawful) economic growth whereas the conventional banks focus solely on making profit and the interest of the bank comes first.

·        There is ample proof that the Islamic banking system is better capitalized, has a higher inter mediation ratio and better asset quality than of the conventional banking system. Fundamentally the difference between Islamic banking and conventional banking is that the idea of fairness to the clients is theoretically focused on the idea of Islamic banking itself. Conventional banks aim to maximise returns and minimise risk. The banks interest comes before the client's as opposed to the Islamic banking system.

Conclusions

Base on the above discussion it is expected that Islamic Finance or Islamic banking is going to be highly successful in India if penetrated in right manner. Due to idea of fairness, Islamic Financial Products not only attracts muslims who are religiously bound to follow sharia but other non muslim clients also who are not religiously bound. The products of any Islamic banking system should be designed in such a manner that all the class of the people of the society get their financial needs catered in Islamic banks well within the principle of sharia.

The author is a practicing Charterd Accountants and can be reached at saiyum@gmail.com