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 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
