Business & Economics

Benefits of Islamic Banking

Written By: K.H.Azam Ahamed
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  ISSN: 1391 - 0531Sunday January 20, 2008   Vol. 42 - No34 Financial Times Benefits of Islamic banking By K.H.Azam Ahamed Islamic banking and the finance industry is growing at an annual rate of 20%. Manyinternational as well as local institutions have stepped into this multi-billion dollarbooming industry by establishing its Islamic wings and units. International giant bankssuch as HSBC (HSBC Amanah), Citi Bank (Citi Islamic) and Standard Chartered havealready established their Islamic units and functioning in the Middle East region.In Sri Lanka, despite the Muslim population being just 8% of the total population, aconsiderable growth is reported in the past few years with the establishment of Amana,Ceylinco Profit Sharing, First Global and a new comer ABC Barakah. Recently it isreported that the largest state owned commercial bank, Bank of Ceylon intends tocommence its Islamic banking unit in early 2008. All these new entries imply that thisalternative banking system has drawn the attention of Muslims as well as non-Muslimsdue to its unique developmental characteristics.The underlying principle of Islamic banks is the principle of justice which is an essentialrequirement for all kinds of Islamic financing. In profit sharing of a financed project, thefinancier and the beneficiary share the actual or net profit/loss rather than throwing therisk burden only to the entrepreneur. The principle of fairness and justice requires thatthe actual output of such a project should be fairly distributed among the two parties. If a financier is expecting a claim on profits of a project, he should also carry aproportional share of the loss of that project.In contrast with conventional finance methods, Islamic financing is not centered only oncredit worthiness and ability to repay the loans and interest; instead the worthiness andprofitability of a project are the most important criteria of Islamic financing while theability to repay the loan is sub-segmented under profitability.One of the unique and salient characteristics of Islamic banks is that the integration of ethical and moral values with its banking operation. The ethical and moral considerationof Islamic banks cannot be detached and their behavior should be consistent with themoral and ethical standards laid down by the Islamic Shari’ah.Unlike the conventional banks, the financing of Islamic banks are restricted to usefulgoods and services and refrain from financing alcoholic beverages and tobacco ormorally unacceptable services such as casinos and pornography, irrespective of whetheror not such goods and services are legal or not in a given country.In contrast with conventional banks, Islamic banks do not consider only the creditworthiness and interest rate as standards; instead they must apply Islamicmoral/ethical criteria in their provision of financing. This adds another merit for Islamicbanks since there is a benefiticial impact on the productivity in the economy as it  reduces the social and economic cost of such harmful products and activities.Another important characteristic which forms the basis for the development of Islamicbanks is the relationship with depositors. They deal with their customers on investmentgrounds rather than a pre-determined fixed interest rate. They invest the money of their depositors on high profitable projects after going through a strategic analysis inorder to give a substantial return to their depositors.Thus in Islamic banking industry, each bank will attempt to out-perform other banks if it wants to attract funds from investors. And the ultimate result is that a high return oninvestments for the investors, which is unlikely in a conventional bank where it dealswith their depositors on a pre-determined fixed interest rate.Furthermore Islamic banks eliminate the barrier between those who save and thosewho invest, and bring them closer to the real market. The nature of the financialintermediation of Islamic banks significantly defers from conventional banks and it is inharmony with real market and developmental changes in it.It is important to highlight some of the challenges faced by the Sri Lankan Islamicbanks. Although there are many, the most important challenges are the lack of Islamicbanking professionals and the lack of Shari’ah scholars who have specialized in Islamiceconomics. Further the Shari’ah board should have a fair influence on the bank’soperational and strategic planning. For this process to be successful, the Shari’ahboards of our Islamic banks should absorb Islamic scholars based on their technicalexpertise rather than their popularity. | E-mail | views[397]|| Front Page  | News | Editorial | Columns | Sports | Plus | Financial Times | International | Mirror | TVTimes | Funday Times || Reproduction of articles permitted when used without any alterations to contents and the source . © Copyright 2008   | Wijeya Newspapers Ltd.Colombo. Sri Lanka.All Rights Reserved.  
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