Islamic banking is based on special banking activity that applies the principles of Sharia Law practically. In this system, the creditor cannot charge a specific rate of interest from the debtor. He is prohibited from doing so as Sharia considers the act of acceptance of specific interest (usury) as “Haram” (unholy and forbidden). The principle remains the same despite it being a floating or fixed investment. Although the common practices of Islamic finance and banking came into existence along with the foundation of Islam. However, the establishment of formal Islamic finance occurred only in the 20th century. Nowadays, the Islamic finance sector grows at 15%-25% per year and Islamic finance is available in 56 countries through 1,391 sharia-compliant companies that have total assets under management (AUM) of $2.8 trillion. Further, the number of banks that offer Islamic financial services continues to grow – and even some conventional banks offer Islamic financing options. Thus, Islamic banks do offer an appealing alternative to the more traditional commercial banking system. Sharia structuring and consulting companies, such as ijaraloans.com have grown dramatically over the past decade to become a convenience source of Islamic Finance solutions for Muslim consumers.
Islamic Society in its real sense is an association for the purpose of harmonious co-existence. The actions of individuals in the Islamic society should carry on the code of moral values and conduct. Islamic society is thus, based upon righteousness and mutual help. “Help ye one another unto righteousness and piety, but help ye not one another unto sin and transgression” is the call of Qur’an.
As their are manifold reason due to which Islamic banking flourishing and have lot of merits over conventional banking system, the common drawback of the conventional banking system is that the credit creation and expansion in money supply is not linked directly with the wealth creation. This leads to increased inflation because money supply increase and not followed by an increase in goods and services. In contrast, in a profit-sharing system of banking, credit expands only when banks and businesses are convinced about the possibility of creating additional wealth. Bank financing in Islamic banking system creates assets and not debts. Thus, the Islamic banking system brings with it more stability in the system. Justice In a conventional banking system, businesses bear the risk as costs are incurred on expectations of profits which may or may not accrue. The owners of money are guaranteed their principal as well as interest. This is unfair as all risk is borne by one party and the other enjoys a risk-free return on their capital. Islamic banking, on the contrary, suggests that those who seek to earn a profit must also expose their principal to risk, for the only way to earn money on money is to do it through enterprise. An option in Islamic banking is that principal is guaranteed only in case when zero returns are stipulated. Otherwise, if someone expects to receive a return on the capital, then he should use it himself or let someone else use it in trade or industry etc. and share the return as well as the risk. The interest based finance is unjust. In this system, one party bears the risk while the other enjoys a risk-free return. One party may be loosing but the other continues to earn more and more money, this leads to concentration of wealth. In contrast, in Islamic banking, the risk and returns both are shared. Inclusions Islamic Banking can be introduced for more inclusive growth. Islamic banking can give equitable growth along with control over inflation.
Thee development of products essentially revolved around three key areas: banking products, primarily credit products, investment products, primarily equity funds and insurance products. In light of the global financial crisis, however, it would seem that Islamic Finance has the potential to become increasingly significant for various other reasons, especially for the insights that can be gained from the underlying philosophy and different financial architecture inherent in the Islamic financial system. So the architecture of the Islamic financial system is not debt-based, but rather based on partnership. This has implications for the manner in which capital is pooled and disseminated through society. Fractional reserve banking would therefore have no place in an Islamic financial system, but rather a full reserve banking system would apply. In order to earn a return on capital, it will have to be invested as equity into a business venture or fund, thus, when people merely wanted to store money and transactional capability, they would deposit it into a full reserve bank. When people wanted to earn a return, they would make an equity investment. Thus, they would know exactly the risk that they were undertaking. This can be contrasted to the current conventional banking system, where the objectives of safe keeping and earning a return are intertwined in a fractional reserve system, and the risk assumed is not entirely clear. Even when one deposits money into a transaction or no interest account, they are assuming credit risk and liquidity risk, when all that was wanted was a means of storing money and effecting payments. Perhaps in light of the global credit crisis, there can be a two tiered banking system, one geared for risk and reward, the other purely for transactions and safe keeping, certainly, Islamic finance can offer important principles pertaining to separation and awareness of risk.
Hence the principles of Islamic finance are entirely based around ethics, and this makes it suitable for everyone even for non-muslims too even all transactions in an Islamic financial system are governed by norms of Islamic ethics as enunciated by the Sharia. Hence, the Islamic financial system is, in itself, an ethical system.
Adv. Manzoor Tantray.
(MBA LLB )
District court Pulwama