Banks in the Islamic Civilization: Past and Present Report

Introduction

Considering the fundamentals of Islamic economy, it is impossible to avoid multi-faceted ownership. Economic freedom is allowed within certain cultural and traditional limits. Social justice as one of the basic principles of Islamic economy is characterized by “general mutual responsibility” and “the principle of social balance” (Ökte, 2010, p. 185). Islamic banks have been operating for four decades, since the establishment of the first bank in Mit Ghamr, Egypt.

Conceptual framework in 1950-1975, experimentation in 1975-1990, recognition in 1990-2000, and swift development from 2000 up to now are the main periods in the development of Islamic banking (Iqbal & Mirakhor, 1999). The understanding of the problems Islamic banks faced in the past and the consideration of the solutions in the comparison with the modern problems and decisions may help consider a streaming development of Islamic banking sphere and its influence on population.

Ancient problems and ancient solutions

The peculiarities of customs and traditions of Islamic world bring many differences in the economic thought of this region and the western one. Commercial activities have never been a public affair in ancient times. All commercial affairs were led by elite which had an opportunity to manage the profit. The problem of property was urgent for Islamic world due to particular religious considerations.

The principles of just prices and usefulness prevented banking from developing in Islamic world. A person had to pay for goods the price he/she considered it should cost. In other words, “goods were allowed to exchange at different prices in different places and times”, however, “one should not charge for a good more than what he would be willing to pay for it himself” (Schoon, 2009, p. 14). Therefore, the cultural peculiarities and prohibitions prevented banking development in Islamic world for a long period of time.

Even though banking development was hampered by cultural peculiarities, Ottoman contribution to the establishment of financial institution in Islamic world. During this period, the flow of cash from those who could save to those who needed money was noticed. The banking system was also hampered by the fact that most services were ‘paid’ by gifts of endowments, that put the cash system under question.

Complicated discussion and development of the appropriate for executives and Arabic principles model of banking was achieved. The interest was prohibited as the way of getting profit and the banks had to operate according to the principle of cash endowments. Thus, it appears that the main problem which existed in the modern world was ban on the banking interest and the operation with endowment cash (Akgunduz, 2009).

Having considered the main problem of banking development, that is the issue of endowment cash, many jurists and economists tried to reconsider this problem and help banking system in Islamic world begin its development on the principles of income and profit. There were three main ways which helped entrepreneurs earn money with the existed endowment cash. The first solution presupposed the transferring of the earned cash to charity. The second solution was considered more appropriate as in this case money was allowed to be given to poor people and to those who were in need as a trade capital.

Trade capital was allowed to be offered on the principle of a credit. The third way of gaining profit without violation Islamic law was gaining income and profit distributed to people in need. The third variant was the most appropriate and close to the modern banking principles. The main idea of the third way was a sort of purchasing contract. The system worked and it allowed bankers evade the interest ban law. Lately, according to the legal code, the income was not considered as an interest rate if it did not exceed 10% (Akgunduz, 2009).

Transition

Amidst this challenges and obstacles, Islamic banking has been able to construct its way into modern world banking. Today, approximately 260 Islamic banks spread in more than 40 countries. The changes in Islamic banking system emerged in 1776 with his modern economic theory. Land and capital were considered as the main source of income if used correctly. Participating in the Industrial Revolution of the period, Islamic banking could not avoid the influence of new theories. The segregation of the state and the religion was one of the main reasons of for the reduction of the influence of church on economic relations.

Adam Smith’s ideas have influenced Islamic banking as they became to function economically similarly with the western ones, however, the concept implementation was absolutely different. Thus, the income of the conventional banks was based on “money from maturity transformation of the difference between the short term interest rates they pay and the long term interest rates they receive” (Schoon, 2009, p. 15).

Moreover, each financial transaction becomes a subject of a contract law established in the country. Therefore, it may be concluded that even though the Islamic world is developing and accepts most of the western systems for financial development, religious concerns and Qur’an principles are followed precisely.

Modern solutions to Islamic banking issues

It has already been stated that a contract law is considered to be the main principle of Islamic banking system. Interest rates are forbidden to be used in Islamic banking as the main principle for gaining profit. Islamic banking system functions on the principle of contract law that allows both a bank and a client to agree on the interest. Islamic banking collaborate social goals and profit. Social justice and welfare are the main ideas of Islamic banking and the ways to solve the problem of prohibition of the bank rate. Agreeing on the amount of money the bank is going to receive for offering money to clients, the ethical principles are followed.

The main principles of contract law which guides Islamic banking are numerous, both parties should have volunteer intention to make a deal, the consideration of the mutuality about the deal, certainty of terms, deal capacity, legacy and permission, ownership and the ability to deliver the services. The inability to meet these principles may result in annulment of the deal. The contract law helps banks avoid the problem of prohibition of making money out of money by means of directing those either to investment or to purchase (Schoon, 2009).

Contract law is the best up to date decision for avoiding the Islamic interest prohibition. It corresponds to the following distinctive features of Islamic banking,

1. “underlying philosophy and values”,
2. “provision of interest-free products and services”,
3. “restriction to Islamically acceptable deals”,
4. “focus on developmental and social goals” and
5. “subjection to additional reviews by the Shari’ah Supervisory Board” (Haniffa, & Hudaib, 2007, p. 99).

Following these principles, Islamic banking system has managed to reach customers preference and confidence. According to the research conducted by Alam, Magboul, and Raman (2010), the citizens of most Arab countries choose Islamic banks because they follow five principles mentioned above. However, Islamic banks have some specific disadvantages which make some clients to attend traditional western banks.

The main reasons why western banks are used by some Muslims are as follows, western banks widely use online banking which is faster and offers more services in comparison with Islamic banks (Bhatti, & Zahid, 2010). E-services became an essential part of human life. The cases of e-services in Islamic banking increase, however they are not numerous. Customer satisfaction with online banking is going to be the central factor for solving the problems of Islamic banks and their familiarization with new principles.

E-services may be helpful in many reasons. First of all, the Internet technologies help deliver the information faster. The contract law which guides the Islamic banking can be transmitted faster. Using online banking, the bank and the client may deliver the principles of contract law faster, therefore, the deal can be signed within the shortest period of time.

Remembering about the prohibition of making money out of money, except for investment and trading, online banking may help solve this problem as well. Online banking is not going to violate this principle, it is just going to help bankers and clients to manage the affairs faster and with greater efficiency. Additionally, banks all over the world apply online services. The desire of Arabic world to have high economical and developmental activities makes it to be interested in e-services.

Moreover, the very nature of the services on the Internet may be the reason to get money. Offering customers online banking services, clients pay for them. Isn’t it the reason to make money on offering e-services and avoiding the ban on the interest establishment?

Additionally, Islamic banking still meets a lot of problems in transforming Islamic concepts into realistic banking practices. Economic activities in Islam are principally based on the basis of trading and equity participation. Trading activities as well as participation in equities, all leads to profits or fees. Islamic banking in essence is premised on theoretical ideas and structures prior to translation into practical banking applications.

Islamic banking faces a number of problems on the way to developed system of online banking. The absence of enough equipment and specifically trained staff, weak infrastructure and the absence of adequate number of customers who have an opportunity to use e-services due to availability of necessary tools are the main limitations which hamper online Islamic banking development (Alam, Magboul, & Raman, 2010).

Conclusion

In conclusion, the principles of Islamic banking have not changed significantly. The impact of church and religious considerations is too high. The ban on making money out of money still exists and the e-services may be a decision. Offering customers online services, Islam banks have an opportunity to get their income. This is not about making money out of money, this is about providing services to the customers online with borrowing money. The clients pay for the services additionally. The contract law can also be used, but online banking is a better and modern solution to the problem of ethical Islamic banking system.

Reference List

Akgunduz, A. (2009). Studies in Islamic economics (Islamic banking and development). Rotterdam: IUR Press.

Alam, N., Magboul, I., & Raman, M. (2010). Challenges Faced by Sudanese Banks in Implementing Online Banking: Bankers’ Perception. Journal of Internet Banking & Commerce, 15(2), 1-9.

Bhatti, G., & Zahid, A. (2010). Determinants of Customer Satisfaction and Bank Selection in Pakistan. Interdisciplinary Journal of Contemporary Research in Business, 2(6), 536-554.

Haniffa, R., & Hudaib, M. (2007). Exploring the Ethical Identity of Islamic Banks via Communication in Annual Reports. Journal of Business Ethics, 76(1), 97-116.

Iqbal, Z., & Mirakhor, A. (1999). Progress and Challenges of Islamic Banking. Thunderbird International Business Review, 41(4/5), 381-405.

Ökte, M. (2010). Fundamentals of Islamic economy and finance: Theory and practice. Electronic Journal of Social Sciences, 9(31), 180-208.

Schoon, N. (2009). Islamic Banking and Finance. London: Spiramus Press Ltd.