Daily Times

The concept of deposit multiplication in fractional reserve banking has led to enormous economic growth globally in the last two centuries. Concomitantly, the landmark Bank Charter Act of 1844 by British parliament paved the way to establish a central bank and to introduce paper currency as legal tenders. These measures, through their ingenuity, productivity and reproducibility have revolutionised the economic paradigm of the world. It has become increasingly intricate and has prompted the emergence of new ideas both at the macro and micro economic levels. Nations formulated their own monetary, fiscal and trade policies to combat inflation and money supply through their central banks.

Unfortunately, the new banking system and the economic structure were based on interest, extension of unsecured loans and actuarial assessments. These concepts collided with the traditional religious interpretation of riba (usury/interest) and hence were always denounced by the Islamic religious scholars. But these institutions were unable to provide a viable religiously aligned alternative with the same level of efficacy in any Islamic nation. This dichotomy, when traditional interest based banks are established and encouraged by the respective administrations of all the Muslim countries and the religious institutions pronouncing them as evil instruments concocted for the exploitation of the poor, is the manifestation of collective intellectual bankruptcy and failure of academic imagination of the Muslim world.

Although Islamic scholars continued to pontificate about the supremacy of Islamic economic model, which supposedly falls in-between the two extremes of capitalism and communism, they were unable to set up pragmatic economic guidelines for the Islamic nations. Islamic banking was introduced in the middle of 20th century and promulgated the ideas like musharaka al-mutanaqisa and murabaha as interest-free alternatives but they had actually plagiarised the concepts of traditional interest-based banking and provided them an Islamic cover.

One of these models that closely resemble simple interest financing is commonly used in auto loans. The price of the merchandise is increased from the outset and then the monthly installment is calculated over the period of the loan as opposed to simple interest in which the price of merchandise remains unchanged but a fixed amount of fees (simple interest) is added on the loan amount in every installment. Generally, the borrower has to pay the same amount of extra fees (time value of money) in both the systems while one calls it cost-plus (murabaha) and the other as simple interest.

A few of these concepts replicate the compound interest financing and are usually exercised in home mortgages. According to one, the borrower again pays the lender almost the same amount of extra money in 30 years mortgage as he borrowed, but instead of paying as an interest it is considered to be the rent on the property. There are some amendments as well, where banks have to share some of the sale amount with the borrower (profit and loss principle) in case of defaults and foreclosures but generally the mortgage payment remains unchanged.

After the recent economic meltdown internationally, the time has come for the Muslims world to review and revise its traditional understanding of riba in the context of fiat currency and inflation, where the governments can take the value of the money out just by printing more bank notes without pegging it to another medium of exchange. Earlier, Islamic jurisprudence had insisted on the real value of the money, i.e. the total weight of gold instead of the number of coins it is divided in, and had not focused only on its numerical value. In this context, it becomes even more important to understand the meaning of 15 percent interest rate (the rate of return) when the inflation hovers around 20 percent or more.

We need to lead the world with innovative, powerful and genuine ideas in the economic and financial sector for the prosperity of human race, instead of twisting the current ones to provide them a religious colour. We have set the leadership example in the past when the khulfa-e-rashideen (pious caliphs) implemented strict austerity principles upon themselves and other high level officials to elevate the living standards of the impoverished sections of society and bringing an economic revolution in their lives.

The writer is a freelance columnist residing in the US. He can be reached at skhashmi@yahoo.com