- The possibility of socioeconomic effect through prudent development of the Islamic banking system
It is an undeniable fact that Islamic Banking has achieved a significant place in front of the conventional banking system and is growing at a rapid pace with the passage of time. In the economics and financial world, “banking” is referred to as the barometer of finance and economy and if the banking system performs in the right direction, the remaining economic and financial system is expected to go in the right direction as well.
As far as the Islamic banking system is concerned, the Islamic banking system was conceived and started against the conventional banking system with the ambition and goal to drive the economy in the right direction according to Islamic socio-economic posture as according to Islamic posture, the interest factor is strictly prohibited due to which the present global economy was not going in the right direction.
It is worth noting that the main goal of Islamic banking was to achieve and implement an Islamic socio-economic system but before achieving this main goal, the first goal was to develop and formulate alternatives to conventional products and services and that goal was not an easy task as every product and service of conventional banking was needed to deeply analyze and then there was the task to derive suitable Islamic alternatives against each conventional product or service. By continuous research and development of Shariah scholars, product development experts and financial experts, the Islamic banking industry has now achieved this goal and at the present moment, almost all conventional products and services have suitable Islamic financial alternatives around the globe.
Now, in this situation, when the Islamic banking industry has achieved the first goal, the question of the socio-economic effect of Islamic banking arises as the main objection to counter conventional banking system was that the conventional banking system was based upon interest-based socio-economic mechanism which cannot bring socio-economic welfare into the society. It must be noted at this this point of time, the striving for socio-economic welfare will be the next goal for which the Islamic banking industry must strive now.
What has to be done? It is a point to be noted that Islamic Banking is still working in capitalist society and at this moment when the conventional system is still dominating, the question of the present socio-economic effect of Islamic banking is impractical at the moment.
Keeping in view the scenario, two further developments must be performed. The first strive now should be the enhancement of the size of Islamic banking. Every Muslim country must strive in this direction. The overall uniform policy of Ummah must also be derived according to which Muslim nations may go forward towards proper transformation of economic and banking system. The best example of commitment towards complete economic transformation is seen in Pakistan at present where the Federal Shariat Court gave a verdict in April 2022 to transform the whole of Pakistan’s economy till 2027. In response to comply with this order, the regulatory authorities are trying to formulate policies in this respect and the banking sector is also seriously considering towards full conversion. This type of striving must be seen at the global Ummah level.
Besides the general expansion of Islamic banking and the conversion of conventional banking towards Islamic banking, the other and the most important development should be the development of ideal modes of financing i.e. partnership modes of Mudaraba and Musharaka in the real sense.
What is meant by the execution of Mudaraba and Musharaka in the real sense? It is worth noting that the conversion and transformation of the banking sector may be done with the prevalent Islamic modes of financing and mechanism but the development of mechanisms of Mudaraba and Musharaka requires a thorough thought process as these modes may definitely lead to a real Islamic socio-economic welfare system.
Moving ahead
The prevalent practices of Islamic modes of financing are, no doubt, 100% Shariah compliant and interest-free transactions but it is a matter of fact that the prevalent practices cannot lead to the socio-economic welfare as these modes were developed in a way that might meet the financial needs of the people that conventional banking offered. Therefore, the prevalent Islamic banking system is fulfilling the same objectives keeping in view the capitalist mindset as same as conventional banking. But at present, Islamic banking must move forward towards the next goal.
At present, Islamic banking offers sale, rental and partnership-based modes as alternatives to conventional banking but the matter of fact is that the interest-based benchmark, for example Karachi Interbank Offered Rate (KIBOR), London Interbank Offered Rate (LIBOR), Kuala Lumpur Interbank Offered Rate (KLIBOR) etc. is used while execution of transactions and is the main issue in achieving the real socio-economic objective of welfare. As we know in the present global economy, the central bank announces the interest rate through which the central bank tries to control inflation and economic stability. Commercial banks either conventional or Islamic banks make interbank transactions, either interest-based or non-interest-based, above the specified interest rate. The average rate of interbank transactions is announced on a daily basis and it is known as Interbank Offered Rate, for example, KIBOR, KLIBOR and LIBOR etc., as mentioned above. All commercial banks provide financing to their customers above that rate. When the capitalists, industrialists and business community obtain financing from commercial banks; the cost, that they pay to the banks, is added to the cost of goods and services and ultimately, the final consumers will pay the same cost in actuality. Therefore, it is evident that the whole economy has been captured in the net of interest and there is open exploitation of the society.
As per the above-mentioned scenario, the banking industry has its own benchmark rate. As far as conventional banking is concerned, it provides loans on a certain rate of interest but as far as Islamic banking is concerned, Islamic banking also follows the same interest rate for the calculation of profit rate and rental rate etc. Therefore, the Islamic products and services have been developed and formulated in a way in which the Islamic banks consider a certain profit rate even in case of Musharaka in which the Islamic banks try to earn the expected profit, which is calculated after consideration of the benchmark rate and the understanding is created between Islamic banks and the customers that the Islamic bank will get the desired rate which is calculated on the basis of certain interbank offered rate.
The capitalists developed the banking industry in a way that might earn money from money. After the development of all alternatives of conventional banking, now Islamic banking must also move forward to get rid of the certain particular benchmark of the banking industry in which when the Islamic banks will make sale, rental and partnership based transactions, no benchmark will be followed but all the transactions will be similar to daily life transactions and real market benchmarks.
Best implementation
In this respect, we may definitely achieve the socio-economic welfare system. The best way to get rid of this benchmark rate is the implementation of Mudaraba and Musharaka in which the profit rates will be agreed upon keeping in view the market norms and profit and loss sharing will be based upon real business transactions. The Islamic banks and the customers will invest a certain amount and both the parties will earn profit upon their certain investment amounts. Therefore, there will not be any cost of funds that will be paid by the customer to an Islamic bank. It is noted that commercial customers of banking are generally regular customers who obtain financing facilities from the banks on a periodical basis. These customers can easily be entered into Mudaraba and Musharaka rather than the present sale and rental-based transactions with Islamic banks in which the interest-based benchmark is considered.
Besides the execution of partnership modes, the sale and rental-based modes must also not consider a certain benchmark but selling and renting out the assets must be based upon the prevailing market norms. In this case, the banking sector will also be part of the general economic activities, the factors of production will perform in the right and logical manner and demand & supply will affect only upon the price in the real sense.
Keeping in view the ideal socio-economic scenario, now the time arises that the Muslim Ummah must think about the change in monetary policy in case of domination of Islamic Banking. It may also be done that the Islamic benchmark rate will be considered in replacement of the conventional interest-based benchmark rate but as discussed above, it will not effect on socio-economic welfare as all the Islamic modes of financing even Musharaka will remain effect by the rate and the rate will cause inflationary effect and the capitalist goal will also be achieved in that way. Therefore, there should not be any consideration of a certain rate to control the economy.
Now, the Muslim Ummah must develop and formulate the indigenous Islamic monetary policy system which should be very different in nature from the present conventional mechanism. In the desired indigenous Islamic monetary policy, the pure market mechanism should function and the central bank should only make the policy of price control as the interest factor will be abolished from the economy.
Apart from the above discussion, there is no doubt that there are many hindrances and challenges but there is a dire need to think and formulate policies by Muslim Ummah in this respect. The collective effort of Ummah is required in this direction. For success in this regard, there is a need of uniform policies that may boost the development of partnership modes as these modes are the real key to the success of Ummah.
Besides these regulatory efforts, there is a need for the Muslim population to support Islamic banking. The mindset change is required. At present, there is still a debate on the legality and illegality of Islamic banking. There is a need to bring harmony as Muslim Ummah may collectively go forward in this direction. The room for improvement is everywhere. We see that in the decades, Islamic banking has improved a lot. There is a consensus that conventional banking is prohibited then why we cannot together ourselves upon the Islamic banking system which is free of interest and other socio-economic prohibitions?
The transformation of the conventional economic system will only be possible when we look towards the prudent development of Islamic banking. It will take time but it has to be started now.
The Author is a Manager Shariah Compliance – Bank Makramah Limited