Amer Khalil ur Rehman

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An Introduction to Islamic Banking and Finance
Principles, Concepts and Philosophy

• Amer Khalil ur Rehman
• Islamic Corporate Head
• Islamic Banking Services
• Askari Bank Limited
• 2nd November, 2009

Disclaimer Views expressed here in a personal
capacity
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Learning Objectives

• Increase Awareness about Islamic Banking and
  Finance
• Including
• The Prohibition of Riba in Major Religions
• Riba in the Quran and Hadith
• Main Principles of Islamic Economics
• Differences between Conventional Vs Islamic
  Banking
• Basic Concepts and Philosophy of Islamic Banking
  

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Background Prohibition of Riba
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Why Islamic Banking? What is its Market Potential?

• Interest, Usury, or Riba is forbidden in all
  major religions e.g.
• Judaism (Deutronomy 2319)
• Christianity (Thou Shall not lend upon usury..)
• Islam (Religion of over 1/5th of world
  population)
• Foreign Banks,
• RBS (ABN Amro Bank), Citibank, Deutsche Bank,
• Hong Kong Shanghai Banking Corporation,
  Merrill Lynch,
• Standard Chartered, Union Bank of Switzerland
  etc,
• doing Islamic Banking for profit.. and
• market size potential.. and not (necessarily)
  for religious reasons..
• Vision Singapore Eateries Fast Food Chains!

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Judeo Christian Tradition

• Thou shalt not lend upon usury
• to thy brother,
• usury of money,
• usury of anything that is lent upon usury
  
• (Deutronomy 2319)

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Judeo Christian Tradition

• He that hath not given forth upon usury,
• neither hath taken any increase,
• that hath withdrawn his hand from iniquity,
• hath executed true judgment between man and man,
  
• hath walked in my statutes,
• and hath kept my judgments,
• to deal truly he is just He shall surely live,
  said the Lord GOD
• (Ezekiel 18 8,9)

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Judeo Christian Tradition

• He that by
• usury and unjust gain increaseth
• his substance, He shall gather it for him
• that will pity the poor
• (Proverbs 288)

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Judeo Christian Tradition

• In thee have they taken gifts to shed blood
• thou hast taken usury and increase,
• and though hast
• greedily gained of thy neighbours by extortion,
• and hast forgotten me, said the Lord God.
• Ezekiel 2212

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Introduction to Islamic Banking
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Islam and Shariah
Our Focus
A balanced approach is required by Islam
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Sources of Fiqh in Islam

• Quran
• Sunnah
• Ijamae Ummah (Consensus of the Ulema)
• Ijtehad / Qiyas

(AAOIFI Shariah Standards through
Ijtamaee-Ijtehad) Accounting Auditing
Organization for Islamic Financial
Institutions Shariah Standards Accounting
Standards, Auditing Standards Governance
Standards
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According to the Quranic verses.. (summary)

• Taking interest has been equated with rejecting
  faith.. (Al-Imran)
• God deprives interest of all blessings.. (2276)
  
• Even Just Saying Trade is like Interest is
  forbidden..
• and would attract punishment on the day of
  judgment (2275)
• O (Muslim) Believers (Not Non-Muslims!!)
• if indeed you really are Believers and fear God
  then give up interest..
• if not then take notice of war from Allah and
  his Messenger (2278-279)
• Detailed severe punishments mentioned in Quran
• for those who make war upon Allah and his
  Messenger.. (533)
• (Caution Role of State not Individuals.
  Additional context 532)

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Riba in the Quran

• Third Revelation
• O Believer, take not doubled and redoubled
  interest interest on interest, and fear God so
  that you may prosper.
• Fear the fire which has been prepared
• for those who reject faith, and obey God and the
  Prophet so that you may receive mercy
• (The family of Imran Sura
  Al-Imran)

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Riba in the Quran

• God deprives interest of all blessing, but
  blesses charity He loves not the ungrateful
  sinner
• 
  (The Cow Sura Al-Baqara 2276)

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Riba in the Quran

• Fourth Revelation
• Those who benefit from interest shall be raised
  like those who have been driven to madness by the
  touch of devil this is
• just BECAUSE THEY SAY Trade is like interest
  
• while
• God has permitted trade and forbidden interest
• (The Cow Sura Al-Baqara 2275)

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Riba in the Quran

• Fifth Revelation
• O believers, fear Allah, and give up what is
  still due to your from the interest (usury), IF
  indeed you are true believers!!!.
• If you do not do so, then take
• Notice of War from Allah and his Messenger.
• But, if you repent, you can have your principal.
  
• Neither should you commit injustice,
• nor should you be subjected to it.
• 
  (The Cow Sura Al-Baqara 2278-9)

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Riba in Quran (Related in context to 2278)

• The only reward of those
• Who make War upon Allah his Messenger,
• and strive after corruption in the land, will be
  that they will be
• Killed
• Or, Crucified,
• Or, have their Hands and Feet on alternate sides
  Cutoff,
• Or, will be Expelled out of the land.
• Such will be their degradation in the world, and
• in the hereafter, theirs will be an awful doom.
• (Quran The Table Spread - Al-Maida Chapter
  5 Verse 33-34)
• Caution Role of State not Individuals to
  implement Shariah. See Context 532)

Save those who repent before ye overpower them.
For know that Allah is Forgiving, Merciful.
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Important Caution Duty of the State (Not
Individuals) to implement Shariah Law..

• Taking one life is equal to killing mankind..
• ..Whosoever killeth a human being, other than
  man-slaughter or corruption in the earth, it
  shall be as if he killed all mankind,
• and whoso saveth the life of one,
• it shall be as if he had saved the life of all
  mankind...
• (Quran The Table Spread - Al-Maida Chapter 5
  Verse 32)

(i.e. Individuals need to refrain from
Vigilantism!!)
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Riba in Hadith

• The Prophet cursed
• the receiver and
• the payer of interest,
• the one who records it and
• the two witnesses to the transaction
• and said They are all alike (in guilt).
• (Sources Jabir ibn Abdullah, Muslim, Tirmidhi,
  Musnad Ahmed)

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The Holy Prophet said Even when interest is
much, it is bound to end up in paltriness.
(Sources Ibn Masud, Ibn Majah,
Musnad Ahmad)
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Muamalat (civil transactions) should be..

• Free from Riba (an increase without iwad or
  equal counter-value)
• In Compliance with (objectives of i.e. Maqasid -
  e - ) Shariah
• Devoid of Gharar (uncertainty, indeterminacy)
• Free from Qimar (gambling) and Maysir (games of
  chance)
• Free from Ghishsh (fraud) and Khilabah (cheating)
• Entitlement to profit depends on liability for
  risk
• Contracts based on free mutual consent
• What is not explicitly prohibited is
  permissible

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Shariah and Maqasid-e-Shariah

• "The very objective of the Shariah is to promote
  the welfare of the people, which lies in
  safeguarding
• their faith,
• their life,
• their intellect,
• their posterity and
• their wealth.
• Whatever ensures the safeguarding of these five
  serves public interest and is desirable."
• Al-Ghazali
•  

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Shariah and Maqasid-e-Shariah

• "The basis of the Shariah is wisdom and welfare
  of the people in this world as well as the
  Hereafter.
• This welfare lies in complete justice, mercy,
  well-being and wisdom.
• Anything that departs from justice to oppression,
  from mercy to harshness, from welfare to misery
  and from wisdom to folly, has nothing to do with
  the Shariah."
• Ibn al-Qayyim

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Human Financial Needs

• Forms of Contracts
• Instruments
• Securities

• Forms of Contracts
• Instruments
• Securities

Equity (Capital) Market
Debt Market
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Islamic Mode Description Shariah Permissibility Source Shariah Permissibility Source Shariah Permissibility Source
Quran Sunnah Ijmaa (Consensus)
Trade Based (Debt Creating) Modes (Low Risk Category) Trade Based (Debt Creating) Modes (Low Risk Category) Trade Based (Debt Creating) Modes (Low Risk Category) Trade Based (Debt Creating) Modes (Low Risk Category) Trade Based (Debt Creating) Modes (Low Risk Category)
Bai Murabaha Cost Plus Profit Sale Yes Yes Yes
Bai Istisnaa Sale on Order Yes Yes
Bai Salam Commodity Sale Yes Yes Yes

Semi-Debt Creating Mode (Medium Risk Category) Semi-Debt Creating Mode (Medium Risk Category) Semi-Debt Creating Mode (Medium Risk Category) Semi-Debt Creating Mode (Medium Risk Category) Semi-Debt Creating Mode (Medium Risk Category)
Ijarah Leasing Yes Yes Yes

Sharing (Non-Debt) Modes (Full Risk Category) Sharing (Non-Debt) Modes (Full Risk Category) Sharing (Non-Debt) Modes (Full Risk Category) Sharing (Non-Debt) Modes (Full Risk Category) Sharing (Non-Debt) Modes (Full Risk Category)
Musharakah Joint Venture Profit Sharing Yes Yes Yes
Mudarabah Trustee Profit Sharing Yes Yes Yes
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Conventional
money
Bank
Client
money money (interest)
vs Islamic Financing
Islamic Banking
Client
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Conventional Vs Islamic Economics Difference in
Factors of Production

• Conventional
• Land
• Labour
• (Entrepreneur)
• Capital

• Islamic
• Land
• Labour
• (incl. Entrepreneur)

Capital Conversion..
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Frequently Asked Questions (Some Common
Misconceptions)

• Form Vs Substance Issue
• Are Mudarabah Musharakah the ideal modes?
• Are Fixed Returns possible in Islamic Banking?
• Can Returns be the same as Conventional?

No! Trade Based modes are the ideal modes! Allah
has permitted Trade and Forbidden Riba (2275)
Yes! Through Fixed Rental Income or Fixed Profit
on Sale Transactions
Yes! e.g. If Cost of Cow is same!! since US
/ Kilo Haram Meat ? US / Kilo Halal Meat!!!
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Frequently Asked Questions (Some Common
Misconceptions)

• Impact of Inflation and Time Value of Money
• Banking is 600 years old, so how can there be
  Role for Bank in Islam?
• Islamic Banks share Profits, would they also
  share losses?
• Can Islamic Banks get funds from Conventional
  Banks? if yes, why?

Financial Contracts / Transactions existed over
1400 years ago Under lying modes / Financial
Contracts form the basic building block
Yes! BUT!!!! Only if they actually occur,
despite diversification Since Risk Beta of
Banks is closer to the Market Risk Beta!!!
Prevent Riba!!! Or Speak against Riba? Or just
Consider it wrong?
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Is Benchmarking with Conventional permissible?

• Confusion due to Mixing of Shariah Issues with
  Pricing Decisions

Tiers Conventional Bank Depositor Conventional Bank Borrower
Interest on Deposits Interest Spread Interest on Borrowing
Market Rates 10 2 12
Tiers Islamic Bank Depositor Islamic Bank Financee
Tier 1. Mudaraba I Rab-ul-Mal I Mudarib I
Tier 2. Mudaraba II Rab-ul-Mal II Mudarib II
Return Profit Spread Financial Costs
Unfair to Depositor X X 4 2 6
Unfair to Financee X 14 2 X 16
Fair As per IFSB 10 2 12
Market Based Returns are not just permissible!
IFSB prefers / recommends them as they are Fair
and Equitable!!
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Onus Shifts!!
Onus
Onus
Onus
Onus
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Baitan fil Bai
Why reliance on Shariah Advisor and Onus Shift
is Essential?
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AAOIFIAccounting Auditing Organization for
Islamic Financial InstitutionsShariah
StandardsAccounting Standards Auditing
StandardsGovernance Standards
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Value Addition Offered by Major Islamic Modes..
Islamic Finance Conventional Finance Equivalents Conventional Finance Equivalents
Intermediated Intermediated Not intermediated
Murabaha None None
Salam None Future Contracts
Istisnaa None None
Ijarah Leasing Leasing
Musharakah Shareholding Venture Capital
Mudarabah None Venture Capital
ICI and Fayzan Manufacturing Mudarabah
Interesting Solution to the Privatization
Dilemma!!
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Bai Salam an illustration
Round Trip Commodity Quantity Sold (Sale Price) Purchased(Cost Price) Cash Flows
1. In Madina Rice 10 Kg DH 100 DH 100
2. In Madina Lentils (DH 100) (DH 100)
3. In Damascus Lentils DH 200 DH 200
4. a In Damascus Rice 10 Kg (DH 50) (DH 50)
4. b In Damascus Rice 30 Kg (DH 150) (DH 150)
5. In Madina Rice DH 300 DH 300
TOTAL DH 600 (DH 300)
Income / Positive Cash Flows DH300

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Mode Selection Istisna
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Mode Selection Istisna
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Islamic Deposit Product Modes

• Mudarabah
• Qard
• Wakalah tul Istismar
• Musharakah
• Other Modes
• Amanah
• Waddiah

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Askari Islamic Banking Products
Asset Side Products 1. Murabaha 2. Ijarah (Consumer /Corp. Industrial Equipment) 3. Diminishing Musharakah (for Consumer /Corporate) 4. Salam 5. Istisna (for Construction/ Machinery/ Manufacturing) Liability Side Products 1. Pak Rupees Chequing Accounts Askari Islamic Current Account Askari Halal Savings and Notice Account (AHSAN) AHSAN MUNAFA AHSAN MASRAFI 2. Foreign Currency Chequing Accounts Askari Halal Foreign Currency Current A/c Askari Halal US Dollar Savings Account 3. Askari Halal Investment Accounts (AHIA) Askari Islamic Investment Certificates (AIIC) Askari Khas Islamic Deposit Account(AKIDA) Askari Islamic Term Quality Deposit(AITQAD) Askari Halal Certificates of Aasaan Monthly Mudarabah (AHCAMM) Askari WAKALAH-TUL-ISTISMAR
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Motivating Factors

• COBM

(Cost of Being a Muslim)
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• Any Questions?
• amer.khalil_at_askaribank.com.pk
• amerkhalil_at_consultant.com
• amerkhalilurrehman_at_gmail.com

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PAKISTAN THALASSAEMIA WELFARE SOCIETY
THALASSAEMIA HOUSETIPU ROAD RAWALPINDI
Jazakumullah-e-Khair!
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Jazakumullah-e-Khair!