Financial Inflation and Interest

Qamrul A. Khanson

(North American Published Author)

Introduction:

Inflation is defined as a sustained increase in the general level of prices for goods and services. It is measured as an annual percentage increase. As inflation rises, every dollar you own buys a smaller percentage of a good or service. The value of a dollar does not stay constant when there is inflation. The value of a dollar is observed in terms of purchasing power, which are the real, tangible goods that money can buy.

Interest is money a debtor pays in interest to the creditor that holds the mortgage. In a more simple definition the interest is amount the lender is charging you to borrow the money.

So far the question of inflation has not been discussed or mentioned in Islamic Financial System (IFS) and financial interest is also negated on line with usury by which collected Muslim money in bank recedes in value by the passage of time as if it sits idle. The importance of relationship between financial interest and inflation cannot be ruled out because the depletion in value of a prevalent currency is real and financial value of Muslim money would also depend upon it. In order to safeguard such Muslim finances which sit in the bank without an increase in added interest, the coverage of inflation would be nil and the value of Muslim money would go down gradually. A solution has to be found for such a financial stigma.

The Inflation Stigma:

In the absence of any Islamic ruling on the matter of financial inflation and its relationship with financial interest, Muslim finances face stagnation and depletion in values. Such a situation affects mostly those disabled or safe sound individuals who are incapable of making a business to earn profit or lack means to deposit their hard earned currency in an Islamic financial institution for increased profit.

Since inflation exists in our societies, we cannot remain aloof of it. We as Muslims oppose financial interest because it is Reba which should be resisted. But we cannot run away from the fact that inflation and interest are inter related. Runaway inflation is not a monetary phenomenon, the claims of monetarists notwithstanding. It is an interest-rate phenomenon predicated on the linkage to inflation. The price level and the rate of interest resonate with the oscillating money-flows between the bond and the commodity markets. This economic resonance, under the concerted pounding by speculators, ultimately reaches the state of runaway vibration. When the fragile confidence in the value of irredeemable currency snaps, commodities are bought up and all bids for bonds are withdrawn. The rate of interest, together with the price level, reaches astronomical heights. There is no scientific way to predict whether the denouement of the present plight of the world will take the form of a deflation or that of a runaway inflation. We as Muslim economists would oppose every element of runaway inflation but a common inflation shall be tackled to safeguard idle money sitting at homes or banks.

Financial Solutions to Inflation:

The first and foremost solution against inflation to a Muslim is Mudarabah. A simple definition of Mudarabah is it is a form of profit/loss-sharing partnership between two parties in a commercial enterprise. The capital comes from the first partner, the fund provider who is called the Sahibul Mal, while the second partner, the entrepreneur, is called the Mudarib. Historically, in Islamic banking, Mudarabah contracts have been confined to liabilities-based transactions where the depositor provides the funds and the bank will act as a discretionary fund manager in the investment of these funds. The profit-sharing ratio is determined upfront and profit is distributed in accordance with the profit-sharing ratio, say 70:30 between the depositor and the bank respectively. Deposit-based products that are common in the market are the Mudarabah General Investment Account-I and Mudarabah Special Investment Account-I. Losses, if any, are to be solely borne by the depositor unless there is gross negligence on the part of the bank.

Unfortunately, there is no capital protection for the depositor unless a clause is agreed upon by the Sahibul Mal and Mudarib. The key success factor in Mudarabah is trust (Amana) arguably on the part of the Mudarib and the Sahibul Mal stands to lose the capital in the event of failure of the business venture. The capital protection shall be included in a deal which could be done by sharing the profit and loss on certain ratio between Sahibul Mal and Mudarib. Let us not forget, Capital is not free.

Here we emphasise the capital protection for the Muslim who cannot or who is incapable of investing but would like to protect his/her financial assets by keeping it in a commercial bank which is protected by the laws of a resident nation.

Is Bank Interest equal to cover Inflation?

Inflation reduces the purchasing power of money. Each percentage point increase in inflation represents approximately a 1 percent decrease in the quantity of real goods and services that can be purchased with a given number of dollars in the future. As a result, lenders, seeking to protect their purchasing power, add the expected rate of inflation to the interest rate they demand. Borrowers are willing to pay this higher rate because they expect inflation to enable them to repay the loan with cheaper dollars. In an Islamic zone, such a phenomenon is not acceptable because it would amount to Reba based financial charges without any control over it. If an Islamic government institutionalises and regularises such an inflation scenario with strict calculated inflations rates on currencies then it should be accepted as inflation charges not as Reba.

In an un Islamic society, if lenders expect, for example, an eight percent inflation rate for the coming year and otherwise desire a four percent return on their loan, they would likely charge borrowers 12 percent, the so-called nominal interest rate (an eight percent inflation premium plus a four percent "real" rate). The four percent charge by Sahibul Mal (Bank) in this case shall be Reba and cannot be accepted in Islam. When it comes to giving back to the depositors, banks do not give back extra profit to them but the minimum inflation as per their calculations. The bank always play the game of getting more profits to them and that is where they always give less and charge more to balance the extra money well above inflation rate in their accounts.

Borrowers and lenders tend to base their inflationary expectations on past experiences which they project into the future. When they have experienced inflation for a long time, they gradually build the inflation premium into their rates. Once people come to expect a certain level of inflation, they may have to experience a fairly long period at a different rate of inflation before they are willing to change the inflation premium.

Conclusion:

The disabled Muslims, incapable Muslims and less fortunate Muslims who cannot afford to take risks to their finances can deposit their monies to banks where their money would be appreciated by inflation rates without any charge to Reba act. Mind you, banks only pay back the minimum inflation rates applicable and they do not share extra profits based on interest though they may call all monies they give as interest. Even this amount gained as inflation rate is Makrouh while earning in business is one of the best money of all.

Financial Interest & Islam

July 27 - 2007 Rajab 13 - 1428

Introduction:

Usury is an extra amount added and charged upon the original amount lended to a debtor by a creditor. Debtor is someone who owes you money. It is the opposite of a Creditor who is someone to whom you owe money. It has been literally understood to refer to the practice of charging financial interest in excess of the principle amount of a loan. The curse upon usury in Islam was well established during the Prophet Mohammed's life and reinforced by several of his teachings in The-Qur’an dating back to 1^st Hijrah (600 AD). The original word used for usury is "Reba" which literally means excess upon the original. Thus we would study what Almighty Alloh has said in The-Qur’an against Reba and what Muslims should do to eradicate "Reba" in their financial system.

The-Qur’anic Commands Against Usury:

"Those who charge usury are in the same position as those controlled by the devil's influence. This is because they claim that usury is the same as commerce. However, God permits commerce, and prohibits usury. Thus, whoever heeds this commandment from his Lord, and refrains from usury, he may keep his past earnings, and his judgment rests with God. As for those who persist in usury, they incur Hell, wherein they abide forever" {The Qur’an - Surah Al Baqarah (Chapter: The Heifer) 02: 275}.

"God condemns usury, and blesses charities. God dislikes every disbeliever, guilty. Lo! those who believe and do good works and establish worship and pay the poor-due, their reward is with their Lord and there shall no fear come upon them neither shall they grieve. O you who believe, you shall observe God and refrain from all kinds of usury, if you are believers. If you do not, then expect a war from God and His messenger. But if you repent, you may keep your capitals, without inflicting injustice, or incurring injustice. If the debtor is unable to pay, wait for a better time. If you give up the loan as a charity, it would be better for you, if you only knew" {The Qur’an - Surah Al Baqarah (Chapter: The Heifer) 02: 276 - 280}.

"Oh you who believe, you shall not take usury, compounded over and over. Observe God, that you may succeed" {The Qur’an - Surah Ale Imran (Chapter: The Amramites) 03: 130}.

"And for practicing usury, which was forbidden and for consuming the people's money illicitly - We have prepared for the disbelievers among them painful retribution" {The Qur’an - Surah An Nisaa’a (Chapter: The Woman) 04: 161}.

"The usury that is practiced to increase some people's wealth, does not gain anything at God. But if people give to charity, seeking God's pleasure, these are the ones who receive their reward many fold" {The Qur’an - Surah Al Room (Chapter: The Roman) 30: 39}.

To preserve faith in this age of "Riba", and to respond appropriately to oppression in the world, the believers must ensure that they belong to the jama'at (community of Muslims) which is struggling against "Riba". The jama’at must function under the leadership of a competent Ameer (leader) who has an adequate knowledge of the subject. The believers must pledge themselves to listen to, and obey that Ameer. They must then conform to the discipline of the jama’at. There is no other way for Muslims to preserve faith in this age of Riba.

Alternative to Riba in Islam:

In order to eradicate Riba in the modern financial system, Islamic financial scholars must come forward with an evolutionary financial system which does not contain elements of "Riba" and enhances chances of financial profits to the creditor and financial support to the debtor. That system must be bound to the Qur’anic teachings and provides a viable alternative to the blood sucking "Riba" system prevalent in the society.

Islam made a clear distinction between trade and Riba where trading is welcomed and Riba is prohibited. Islam does not consider money as a commodity such that there should be a price for its use. Money is a medium of exchange in asset-oriented economy, and a store of value. The prohibition can be expressed in more technical terms by saying that while money is recognized in Islam as a means of exchange it may not lawfully be regarded as a commodity for exchange. The important difference between trade and Riba is that the business risk in trading is allocated more evenly among all the parties involved, whereas in Riba operations the business risk lies heavily, if not solely, on the borrower.

"Murabahah" is the Islamic version of a just or equal profit where no one is hurt nor damaged during business transactions. It is one of the alternatives for a just monetary system. "Murabahah" is a cost-plus contract in which a client, wishing to purchase equipment or goods, requests the Islamic bank to purchase the items and sell them to him at a cost plus declared profit. By this technique a party needing finance to purchase certain goods gets the necessary finance on a deferred payment basis. The finance provider does the purchasing of the required goods and sells them on the basis of a fixed mark-up profit, agreeing to defer the receipt of the value of the goods even though the goods can be delivered immediately. The need for finance of the one in need is thus met.

Let us take an example when Abdul Majeed wants to buy a refrigerator which costs Can. 2000. The Murabahah Company makes an agreement to let him own the required refrigerator today by fixing its price at Can. 3000 payable in ten years time. It means Abdul Majeed pays Can. 300 per anum for the ten years. This will be a "Murabahah".

For the critics of the deal it may be dealt with another system in which Abdul Majeed may pay a part of prime money but to pay an agreed rental value or proportionate value on monthly basis until Abdul Majeed pays back whole of the Can. 2000. That means Abdul Majeed pays a rent proportionate to the cost payment but nothing from rent is added to the paid up value. The moment whole of Can. 2000 is paid up to the finance Company, the rent becomes nil and Abdul Majeed becomes the sole owner of the refrigerator. Many clauses for the safety and security of refrigerator could be included upon agreement.

"Mudarabah" is a special kind of partnership where one partner gives money to another for investing it in a commercial enterprise. The investment comes from the first partner who is called "Sahibul-Mal", while the management and work is an exclusive responsibility of the other, who is called "Mudarib". Thus Mudarib shall be an honest person with business wisdom for which he/she is being made Mudarib. The Sahibul-Mal shall develop enough confidence on Mudarib to share the profit and loss from the money he / she invested. This is one aspect of "Mudarabah".

In another option to this system, Sahibul-Mal may make a clause by which he loans the money to Mudarib and also includes a clause by which Mudarib shares the profit on an agreed percentage. On the occurrence of a loss, both would share the loss with the same ratio as agreed for the profit.

For an example, Sahibul Mal invested and loaned Can. 200,000 to a Mudarib with a fifty percent each loss and profit clause. The Mudarib gets the profit in lieu of his efforts and Sahibul Mal gets the profit in lieu of his investment or financial services. In case of 10, 000 losses in the business, both share a loss of 5000 each. Thus both pay equal sums to fill the loss while invested money comes back to Can. 200, 000. The loss clause puts an honest pressure on Mudarib to work honestly and dearly to safeguard the invested capital.

INSURANCE AND ISLAM

Jamadiul Thani 21 - 1428 / July 06 - 2007 

Introduction:

Most of we Muslims living in western nations hesitate to entertain certain benefits available in the form of insurance, covering our lives, properties, education and social existence. The well-to-do people with the cooperation of professional scholars have an obligatory duty towards their compatriots in Muslim community to find a solution to their insurance problems otherwise Almighty Alloh does not change the condition of any people unless they strive to change their own condition. Insurance as it means is needed for every citizen but it shall work within the norms of Islamic Jurisprudence.

Insurance in general understanding is a mechanism for indemnifying or guaranteeing an individual against financial loss. Reimbursement is made from a fund to which many individuals exposed to the same risk have contributed certain specified amounts, called premiums. Payment for an individual loss, divided among many, does not fall heavily upon the actual loser. The essence of the contract of insurance, called a policy, is considered mutuality but people share the loss willingly or unwillingly.

The root of insurance is traced back to <place>Babylonia in the Code of Hammurabi (2100 B.C.). The Phoenicians and the Greeks applied a similar system to their seaborne commerce. The Romans used burial clubs as a form of life insurance, providing funeral expenses for members and later payments to the survivors.

In recent years insurance premiums have increased rapidly, leaving unprecedented numbers of North Americans uninsured. The conventional insurance prevalent in the society is not juristically accepted by Muslims. It is generally argued by Muslim Jurists that the operation of conventional insurance does not conform to the rules and requirements of Islamic Shariah. The Muslims ought to understand, why the conventional insurance is not acceptable and what should be done to evolve an insurance system which is juristically accepted in Islam. Muslims well-to-do individuals and scholars must come with a solution with an economically feasible concept of insurance otherwise Insurance as a social necessity cannot remain an individual’s matter and the community leadership as a whole would be responsible in the court of Almighty Alloh for any divine consequences because of Muslim’s leverage towards conventional insurance.

Conventional Insurance:

In view that the present-day practice of conventional insurance is not in conformity with the requirements of Shariah, Muslim scholars had to look into an alternative system which would conform to such requirements. According to the scholars, the business of insurance is based on a buy-and-sell contract which however does not fulfill the characteristics of a buy-and-sell contract according to Islam.

An Islamic buy and sell contract is conducted to make profit, where making profit is certainty otherwise the very purpose of the business is lost. The assurance of making profit makes a business go ahead of the deal. Such a business, where perishable nature of goods, natural disasters affecting the matter and unforeseen factors beyond human control do provide a clause of risk factors which should be tackled. For a business person, such factors are squeezed to the minimum so that loss does not occur. However, risk factors are acceptable to certain minimum degree beyond that the business shall not proceed in order to avoid the failure. Such risk factors must be covered under an Islamic insurance contract where Aaqid, Ma’aqud Alaih and Sighah should be well defined but in conventional insurance Ma’aqud Alaih is an uncertain factor.

Such a so called buy-and-sell contract essentially has three characteristics, namely parties to the contract (Aaqid), subject matter to the contract (Ma’aqud Alaih) and acceptance of the offer (Sighah). In particular, the scholars examined the subject matter of the contract which they concluded as a buying-and-selling transaction the operation contains unknown and uncertain factors. In the absence of factors like certainty of a matter or major degree of expectation on the matter would make the contract not a business deal but a deal based on chance. The uncertainty of the subject matter would result in the presence of the element coined as `Gharar’. The presence of Gharar would make the contract islamically void.

Gharar is present in a contract of non Islamic sale when the buyer does not know what he is buying or the seller as to what he is selling. Gharar thus includes both ignorance over the material attributes of the subject matter and also uncertainty over its availability and existence. There is general agreement to the effect that excessive concerning the object of sale renders the transaction invalid. Ibn Jauzy (RUA) has stated that Gharar is prohibited by the Sunnah and it must be avoided, unless it is very little in which case it is tolerated.

Gharar is present in a non Islamic buying-and-selling operation when sale or purchase of goods or services which are non-existence; sale or purchase of goods or services which are in existence but cannot be delivered to the buyer but its form, value and timing of delivery cannot be determined and known at the time when the contract was made. In the case of an Un-Islamic insurance policy, the insured company guarantees to pay a certain sum of compensation in the event of a catastrophe or disaster, but the policyholder in the first place does not know, for example of when such catastrophe or disaster is to occur as well as the amount of the compensation that the company will pay him. Nor would he have any knowledge of the 'source of the compensation'.

The scholars further viewed that as a consequence of obtaining compensation or proceeds from a financial transaction which contains the element of Gharar would lead to the practice of `Maisir’ or gambling. Indeed the whole business is said to have semblance of gambling as profit or loss would very much depend on 'chance'.

In this regard, the operation of an insurance system acceptable to the rules and practices of Shariah must not be based on buy-and-sell contract. The subject matter of the contract under this system must be definite, clear and transparent so that it is known to all parties of the contract. The obligations and responsibilities under the contract are clearly known to both parties. In addition, a buy-and-sell contract which is lopsided in favour of one party at the expense of the other contracting party is viewed as Gharar too. A financial contract in which one party has to forfeit his capital or contribution in the event of cancellation prior to the maturity or expiry of the contract resulting in the loss of the capital, as in the example of no refund of premium when a policyholder surrenders his insurance policy would be considered as Gharar.

Al-Maisir: Maisir means a game of haphazard in all matters-particularly a game of chance.

They ask thee (Oh Prophet) about Qhamr (intoxicants) and games of chance (gambling). Say: In both of them there is great harm although there is some advantage as well in them for men, but their harm is much greater than their advantages [The Qur’an – Surah Al Baqarah (Chapter: The Heifer) 02:219].

Oh ye, who believe, verily wine and games of chance and divining devices are abomination (scandal) of Satan’s work. Avoid them that ye may prosper. Only would Satan sow hatred and strife among you, by wine, and games of chance, and turn you aside from the remembrance of (Almighty) Alloh, and from Prayer: Will you not, therefore, abstain from them? {The Qur’an – Surah Al Ma’idah (Chapter: The Table Spread) 05:90, 91}.

From the above Verses of the The-Qur’an, it is obvious that games of chance (Maisir) entail great sin and promises petty benefits and the Maisir is an abominable act of Satan. It is, therefore, imperative to avoid gambling in order to achieving success and happiness. Satan sows in our hearts the seeds of enmity and hatred against one another and turns us aside from the remembrance of Almighty Alloh and His worship by means of games of chance. Its prohibition has, therefore, been declared obligatory.

Al-Riba: Riba has been described as a loan with the condition that the borrower will return to the lender more than and better than the quantity borrowed. As Muslims, our main concern when it comes to financial transactions is to avoid Riba in any of its forms, despite the fact that the basic foundation of the world economics and finance today is that of Riba and dealing in usury. The Prophet (SAW) has foretold us of a time when the spread of Riba would be so overwhelming that it would be extremely difficult for the Muslim to avoid it. This situation calls for Muslims to be extra cautious before deciding on what money payment of financial methods to use in any personal or business transaction.

Those who eat Riba (usury) will not stand (on the Day of Resurrection) except like the standing of a person beaten by Satan leading him to insanity. That is because they say: "Trading is only like Riba (usury)," whereas Alloh has permitted trading and forbidden Riba (usury). So whosoever receives an admonition from his Lord and stops eating Riba (usury) shall not be punished for the past; his case is for Alloh (to judge); but whoever returns [to Riba (usury)], such are the dwellers of the Fire - they will abide therein {The Qur’an – Surah Al Baqarah (Chapter: The Heifer) 02: 275}.