Analysing the Present State and Future Agenda
Studies in Islamic Finance, Accounting and Governance series
Chapter 17: Theoretical basis of Islamic banking
The Islamic banking and finance movement started in response to the economic injustice of capitalism. Its avowed objective was to create a framework for economic development within the overall objectives of social justice and human well-being as visualized by Islam. This is abundantly obvious from the formation of the first Islamic bank in 1963 at Mit Ghamr (Egypt). Its main emphasis was on socio-economic development through interest-free finance. Orthodox scholars saw interest on commercial loans as a device of exploitation and declared interest-based banking illegal from the Islamic perspective. The main objection was that banks provided finance at fixed rates of interest and had no concern for actual profitability and productivity of the funds provided by them. Even when a client of the bank suffered loss, the principal had to be repaid with interest. To them it was a situation of inequity and injustice. To resolve this common-sense situation, they commissioned a simple idea. The banks should provide funds on the basis of musharaka or mudaraba. If at the end of the period the business made a profit, it should share the profit with the bank and, if it suffered a loss, the bank should also take part of the loss. The idea in its pristine simplicity was quite persuasive and seemed to be fair and just.
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