A guide to Islamic finance

Mufti Talha Ahmad Azami, associate Sharia manager BMB Islamic, a global player in the Shariah advisory sector, outlines the guiding principles of Islamic finance.

The basic function that underlines all economic activity in the finance arena -both Islamic and conventional - is that of allocating finite resources to its most productive use. In Islamic finance, this allocation is inextricably bound by concepts of religion, law and ethics; also known as the Sharia.

The Sharia is an embodiment of teachings derived from the Quran and Sunnah- established traditions of the Prophet Muhammad.

While a codified set of laws as such does not exist for Islamic finance, and interpretations may vary from one school of thought to the other; what remains consistent is the Sharia’s unwavering emphasis on two guiding principles- ‘La darar wala dirar’ and ‘La tufzi ilal munaza’a. One is not to exploit others or be exploited; and the second is to prevent potential conflict occurring.

This article will examine the practical guidelines laid down by the Sharia, which facilitate the manifestation of these two guiding principles.
Guidelines
The first practical guideline relates to the prohibition of interest. Since the Islamic belief is that money itself has no intrinsic value, hence charging for its use is immoral. This is because the lender becomes unfairly enriched, without necessarily providing anything of value to the borrower. Such unjust enrichment could be a source of conflict, and detrimental to society, and hence it is prohibited.

The second practical guideline relates to the prohibition of gharar- contractual uncertainty in a contract- whether this uncertainty is in relation to the object of sale or the nature of the sale itself.

Classical textbook examples include the selling of: birds in the air, an unspecified fruit tree in an orchard, milk in an animal’s udder, wool on the back of a sheep, a pearl in its shell, unborn animals in the womb.
Similarly, examples where gharar is intrinsic to the language of the sale include: two sales in one, or a sale and a condition combined. These types of sales are prohibited because there is an uncertainty with regards to either the quantity of the purchase item, or its price. Since this can lead to potential disputes between the transacting parties, it has been prohibited.

Fraud 
The third practical guideline relates to the prohibition of fraud. An example might include a seller (or buyer) communicating to the counterparty that an item is worth much more (or less) elsewhere, hence “buy (or sell) it here”.

A classical textbook example would be: a city merchant meeting a trade caravan outside the city, and purchasing goods from them at a price that the caravan merchants are led to believe is equal, or more than the price in the market.

Similarly, the fraud involved in price hiking, or what is referred to in the classical books of jurisprudence as al-najash. This practice refers to a third party intentionally bidding–up the price of an object with no intention of buying it.

Another fraud is the concealment of defect in an object. For example, rearranging low grade items behind good quality ones, and selling the lot as ‘good quality’.

The prevention of fraud is fundamental to the Sharia’s efforts to promote harmony in a society. In the event of a fraud, the deceived party is given the right (khiyar) to void the contract, to remove the unjust loss he or she may have suffered.

Given the practical nature of Islamic finance, observers will discover that Islamic methods can be quite compatible with western practices, resulting in almost identical financial instruments and procedures.

This is to be expected, as both systems are dealing with the same problem of efficient resource allocation. The similarity should not be misconstrued to a “play of words”- What may seem identical to the uninformed may in fact be quite different; and what may seem different to the uninformed, may actually be quite similar.

The onus is upon Sharia scholars and reputable Islamic finance consultancies like BMB Islamic, to structure products that are both financially viable, and religiously faithful.

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