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Islamic Banking Principles Critical Essay

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Updated: Aug 6th, 2019

Summary of the article

Islamic banking principles are developed and operated within the guidelines of Sharia principles. The main source of Sharia law is the al Quran, which prohibits any money that is far above the principle amount in the lending business by terming it haram and hence illegal.

However, a debate has arisen in the wake of modernisation of the convectional banking dynamics trying to influence the Islamic banking into charging interests rates on loans, but Muslims are reluctant as for them, riba is illegal according to the powerful speech of Prophet Muhammad, which has since been the Magna Carta for the Muslims.

Conventional bankers thrive on charging interest on loans, and in some cases, the interests are inflated to meet selfish ends of a few. This aspect indicates how religion can greatly influence the economic activities in the world as key banking principles of Islamic banking system are based on Islamic religion and virtues.

Key Learning Points

The key learning points in this article include the source of Sharia law and other important principles of the Islamic banking system coupled with definitions of riba by various institutions related to Islamic religion and scholars. Riba is the most analysed element of Islamic economic and banking system by the Sharia law as Prophet Muhammad and the Holy Quran prohibit it.

Relevant Statements

Shari’ah has two main primary sources, which are the Quran and the Hadith, both of which prohibit riba.

The Quran’s four stages of prohibition of riba, which sum up Sharia and Usuli’s principles of Islamic banking systems

Critical Analysis

Prophet Muhammad speech was brief, but very powerful, which marked his farewell sermon to the Islamic religion after preaching for a long time. He had mentioned three powerful points in the speech, which include belief of one God, abiding to the rule of law and morality, and lastly he declared riba as haram and advocated for the sanctity of material life for the benefit of all humanity. He stressed that God has forbidden people to charge interest and hence all interests are to be waived.

Hence, the Quran and the Sharia law, which culminates the prophet’s farewell speech, forbid the charging of riba by Islamic banking systems (Hassan & Ahmad, 2002). However, according to Sharia, riba is the premium charged by the lender to the borrower that is above the principle amount of the loan.

This definition goes deeper than the English definition where riba is viewed as the interest on a loan or ‘usury’ in other word. According to some Islamic scholars, riba is defined as “an increase or excess which, in an exchange or sale of a commodity, accrues to the owner (lender) without giving in return any equivalent counter-value or recompense to the other party” (Abdulkader, 2006, p.56)

Considering all forms of definitions of riba, they all state that riba is the amount charged above the principle loan amount to the borrower. Many verses in the Quran, talk about the prohibitions of riba, but two are most convincing. They include the book of al-Rum 39, which says, “And whatever you lay out with the people in order to obtain an increased return, this increases you nothing with Allah, but whatever you give in alms, seeking Allah’s pleasure, it is those who receive multiplied recompense” (Abdulkader, 2006, p.62).

The second verse is in the book of Al- Nisa 160-161, which says, “Because of the sinfulness of the Jews, We have forbidden to them certain good things that were permitted to them, and for their hindering many from Allah’s Way.

And for their takingriba, though they were forbidden, and that they devoured people’s wealth in falsehood, and we have prepared for the unbelievers among them a grievous chastisement” (Kamali, 2003, p.73). From these two books, it is clear that riba was considered an act of social injustice and a great sin to God. Hence, Prophet Muhammad advocated its ban within the Islamic financial systems.

However, the Quran and the Hadith, which prohibit riba, are the two primary sources of Sharia; hence, Sharia laws cannot allow riba based on the strong foundation principles against riba in the Islamic banking systems. The Quran prohibits riba in four gradual stages where in the first stage, which is found in 30:39, it praises charity and zakat and condemns riba after comparing the two. The second stage is found in 4:160-161 where it attaches riba to the Jewish cultural practices and thus condemns it.

Third stage is found in 3:130, where it prohibits lenders on charging double the amount and multiple riba and the fourth stage is found at 2; 275-281 where conclusive prohibition of riba is made and partially defined as any excess amount charged over the capital amount (Nazim, 2013). These stages underscore the Sharia and Usuli principles of Islamic banking principles.

Practical Implications

There has been a controversy between modernised conventional banking system and the Islamic banking system on the definition of riba and the legality of charging interest on loans. Conventional bankers charge interest on loans and claim that interest is used to finance banking activities and as a source of revenue to the government in the form of tax. To conventional bankers, charging interest on loans is a legal issue and thus they advocate the adoption of the same in the Islamic banking system.

On the other hand, Islamic principles condemn riba for its allocation of wealth on the hands of a few people in the society. Critics of charging riba argue that the conventional banking system bars the majority from accessing loans for fear of defaulting to pay the loan principle amount together with the riba. This argument has been a revelation to the conventional bankers as they agree that riba, or interest according to their definition, contributes to the barring of the majority of people from accessing bank loans.

Conclusion

Islamic banking system is not as privatised as the conventional banking system due to lack of huge profits that are made from loan interests. On the other hand, conventional banks act as profit making financial institutions, which contradicts the will of the Islamic banking principles whereby a financial institution ought to help those who do not have capital by availing the same.

This aspect has contributed to the economic dualism in countries that have universal conventional banking system, but the case is different in countries that use universal Islamic banking system. Hence, Islamic banking has great practicality in the modern world of economics as it caters for the majority who cannot access loans from conventional banks for fear of defaulting on repayment of the riba charged above the loan principle amount.

Reference List

Abdulkader, T. (2006). Interest in Islamic Economics: Understanding Riba. New York, NY: Routledge.

Hassan, K., & Ahmad, A. (2002). Riba and Islamic Banking. Journal of Islamic Economics, Banking and Finance, 2(3), 1-33.

Kamali, M. (2003), Principles of Islamic Jurisprudence. Cairo, Egypt: Islamic Texts Society.

Nazim, S. (2013). Information Sources on Islamic Banking and Economics: 1980-1990. New York, NY: Routledge.

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