ISF 1101 Foundation of Islamic Finance

Philosophical
Foundations

Outline

Islam as way of life

Why Islamic finance?
What is Islamic finance?
In what ways is Islamic finance
different?
Shariah
Maqasid al-Shariah
Time value of money
Critical discussion

Islam as Way of Life (ad-Din)

Islam prescribes a detailed code of

conduct for every aspect of
human activity
Goes beyond activities
categorized as rituals (prayers,
fasting, Hajj, etc.)
In fact, all human activities
(including day-to-day mundane
ones) can be viewed as acts of
worship (ibadah)
This includes economic and
financial activities

Why Islamic Finance?

No human endeavour is
completely value-free
Our values are derived from our
worldview
Given that the Islamic worldview
is different from the Western
(Occidental) worldview
Principles and practices of
conventional banking and finance
(which are based primarily on the
Western worldview) may be
inconsistent with the Islamic
worldview

What is Islamic Finance?

Islamic finance provides financial

services in accordance with the
Shariah

Islamic financial services

emphasize ethical and social
dimensions of financial
transactions to enhance equity
and fairness for the general good
of society

In what ways is Islamic finance

different?

Source of knowledge Includes

revealed (divine) knowledge

Supersedes scientific methods and

human intuition

Intention acts of worship to seek

Allahs blessings

Apart from fulfilling mans needs

Guiding principles justice, cooperation,

empathy, altruism, entrepreneurship

Not purely profit maximization

The Shariah

Literal meaning path to watering place

Technical meaning
Path to tread for guidance in this
world
Commands, prohibitions, values
Fiqh
Understanding of the Shariah
Practical Shariah laws, principles and
values derived from sources of
knowledge
Product of human effort and aql
Objectives of the Shariah (maqasid alShariah)

Components of the Shariah

Islamic Shariah

Tawhid

Fiqh

Akhlaq

Belief in
oneness of
Allah

Rules and
Guidelines

Islamic code
of conduct

Almuamalat
rulings
related to
economic
transactions

Ethics,
morality and
positive
attributes
(honesty,
kindness,
sincerity)

Economic
resources
entrusted to
man, will be
held
accountable
for its use

Maqasid al-Shariah

Objectives and the rationale of the

Shariah
The Shariah aims to protect and
preserve public interest (maslahah) in
all aspects and segments of life
Many Shariah texts clearly state the
reasoning behind certain Shariah
rulings
Elements that need to be protected
Faith (din), human self (nafs),
intellect (aql), posterity (nasl),
wealth (mal)
Concept of maslahah often
interchangeable with maqasid
Seeking benefit and repelling harm

Maqasid al-Shariah and Maslahah

While Maqasid al-Shariah (objectives of the

Shariah) and the related concept of maslahah
(benefit to society) should become the
foundation of Islamic finance practices,

It should not be over-emphasized, to the

point of rejecting or superseding definitive
(qatiyyat) textual Shariah sources

Need to recognize limitations of human

perception and cognitive ability
Macro maslahah should override micro
maslahah

They ask you concerning wine and maysir.

Say: In them is great sin as well as benefits
to people, but the sin is greater than the
benefit. (Quran, 2:219)

Maqasid al-Shariah Implications to Islamic

Finance

A holistic view should be adopted in Shariah

interpretation

Micro vs. macro maslahah (tree vs. forest)

Legal form vs. economic substance

Validity [meeting all contractual conditions and

requirements] (sahih) vs. permissibility [having
legitimate purpose and intention] (halal)
Purely financial goals (profit, growth, market share)
alone insufficient

Need to develop proxies of spiritual well-being (e.g.

distributive justice, cooperation among economic
agents, equitable access to economic resources)

These complementary yardsticks should be

incorporated in the performance measurement of
Islamic financial institutions
Profit sharing schemes vs. fixed-return techniques
Critical appraisal of the infancy argument

Sustainability and viability vs. healthy direction of

development

Some Important Points to Note

Islam provides a comprehensive solution, its

prescriptions encompasses all aspects of life
A specific discipline (such as finance) must
be viewed and addressed within a larger
context
Holistic approach

Conventional knowledge should not be

completely rejected
There can be common grounds or areas of
conventional knowledge which are
acceptable to Islam
Some general concepts can be adopted and
amended
Economic growth
Efficiency

Time Value of Money

A fundamental concept in finance

The idea that a dollar today is worth
more than a dollar to be received in the
future due to:

Personal preference for current

consumption

Risk (probability of receipt of future

dollars)

Investment opportunities forgone

(returns on dollars invested today not
available to future dollars)

Reduced purchasing power caused

by inflation

Time Value of Money An Islamic

Perspective

Islam does not reject the idea of positive time

preference

After all, time has economic value as

consumption and production activities
consume time
Islam recognizes that the lender makes a sacrifice

Hence why lending is a virtuous act

And why the debtor is encouraged to repay in

excess
Narrated by Abu Huraira:
A man came to the Prophet and demanded a camel (the
Prophet owed him). Allah's Apostle told his companions to
give him (a camel). They said, "We do not find except an older
camel (than what he demands). (The Prophet ordered them to
give him that camel). The man said, "You have paid me in full
and may Allah also pay you in full. Allah's Apostle said, "Give
him, for the best amongst the people is he who repays his
debts in the most handsome manner.
Sahih Bukhari Vol.3, Book 41, No.577

However, while voluntary extra repayment of

debt is encouraged, making it contractual

Time Value of Money An Islamic

Perspective (2)

Time value of money can however be incorporated

in commercial transactions

Sale of goods on deferred payment terms (for

e.g., murabahah)

Time value of money built into calculation

of profit on sale or quantum of profit markup to reflect the fact that receipt of sale
proceeds is delayed

Investor in a business has right to a share in

profits (for e.g., mudarabah)

Investor foregoes use of funds in exchange

for right to proportion of returns generated
by the invested funds
In this respect, time value is applied not to money
itself but on economic usage of money

Money cannot be treated as a commodity

Critical Discussion

Kudos to all stakeholders who have

contributed to development of Islamic
finance
Arguably all disciplines goes through a
process of evolution

More so in the case of Islamic finance

which is relatively nascent
To realize such an evolution, it is
necessary to ask probing, even painful,
questions
To challenge the status quo does not
necessarily imply what is currently being
done is wrong
We will only know for sure that we are
doing the right thing if we question

Probing Questions

Have we done enough? Is this the end

game?

Is contemporary Islamic finance

significantly and fundamentally
different from conventional (ribabased) practices?

Is differentiation on the basis of

nomenclature and legal technicalities
sufficient salvation from the threat of
war from Allah and His Messenger?
How should we address the present gap
between ideal and reality?

Persist with idealism or focus efforts on

compromised objectives?
Is Islamic finance an alternative or

Role of the Shariah

As guidance and source of reference,

not merely a tool
The Shariah should not be relegated
to being a means to an end, should be
used to determine the end itself
Source of differentiation with (and
advantage over) conventional
knowledge revelation
Reason and observation should not
dominate over divine guidance, avoid
secularized practice of making science
replace religion as authority

Approach to be taken to develop Islamic

Finance

Current trends in Islamic finance reflect :

market demands, ground realities, the

need to acquire critical mass
One perspective

Shariah should dictate manmade concoctions,

not vice versa

We should not be force-fitting Islamic contracts

into conventional instruments

Islam is for the benefit of mankind, not the

reverse

God Almighty does not suffer the slightest

detriment if Islamic finance is not prevalent or
even present

It is not a popularity contest

Case for discussion

If indeed money is not a commodity, is there a

genuine need for short term liquidity
instruments?

Approach to be taken to develop Islamic

Finance (2)

Underlying precept of the prohibition of

riba
Islam allows (encourages) lending of
money
Islam allows (encourages) business
activities
Islam does not allow lending of money
as a business
Critical questions for contemporary Islamic
financial institutions
Are they in the business of lending
money?
Are they genuinely in the business of
trade or investment?

Important Caveat

Halal and haram are the prerogative and

domain of our Creator
The responsibility of dichotomizing human
activities into permissible and not
permissible has been delegated to a select
few with the prerequisite knowledge,
competence and attributes (mujtahid)
The rest of us may have our own opinions
and perspectives but should strictly refrain
from making pronouncements regarding
halal and haram
We ask critical questions and indulge in
articulated discussions as part of the
learning process