Islamic Finance has been growing steadily, year after year at double-digit rates with net assets of $200 billion to US1.8 trillion at the end of 2013 according to an IMF report on Islamic Banking. Although largely concentrated in the Middle East and some parts of south East Asia such as Malaysia, its growth has been spurred by its eager uptake in Africa and other parts of Asia. Global financial institutions such as the IMF and World Bank are beginning to acknowledge that it is a force to be reckoned with. This article introduces the reader to the basics of Islamic Finance.
What is Islamic Finance?
Islamic finance is more or less similar to conventional banking and financial services apart from areas which they deviate from the Sharia (Muslim Laws) on financial arrangements.
There are two main distinctions from conventional banking. These are the prohibitions on “Riba” which means interest and the trading on uncertainty this means conventional practices such as hedging and the trading of derivatives are forbidden. In addition, Islamic financing is not available for any activity considered haram, such as the manufacture, distribution or storage of alcohol.
What Does This Mean For You?
No interest charges. No interest gains. Not interest at all. Banks earns income from fees on financial services it delivers and as a depositor you share in the bank’s profits, similar to credit unions.
It means that being a client of an Islamic Bank makes you a partner in equity as opposed to the conventional Banker client relationship of creditor and debtor. The Islamic Bank is more or less a participant in the enterprise and risks are shared between you and the bank.
There are separate rules on contractual relationships depending on the nature of the transaction; a buyer and seller relationship, a lease arrangement, a partnership or creditor and debtor relationship.
It also means you will be reminded of Zakat (charity) payments from accounts that have been inactive for a year.
All in all, Islamic Banking has proven to be more resilient to recession. Although the economic world is currently too interdependent for any institution to remain unaffected by the global economic downturns, Islamic financial institutions have fared relatively well over the course of the recent financial crisis as they were prohibited to be involved with the risky investments that brought about the crash in the first place.
Although just a teaser into the world of Islamic Banking, we hope you found this article informative. Please share your thoughts/comments/questions below.