Economics of Zakah: Quran Economics

Before beginning this final part of our discussion of Zakah, let us briefly summarize the first two parts to maintain focus and continuity. In the first part we showed how our present approach to Zakah has turned into a lifeless ritual leading to differences in Zakah items and Zakah rates among various Sunni sects; major differences between Sunni and Shi'ia sects in this matter; non- uniform policy for collecting Zakah by Muslim governments which can range anywhere from voluntary contribution to compulsory deduction from bank accounts. These certainly were not the ways our Prophet ( PBUH ) and the rightly guided Khalifas practiced Zakah.

In the second part we emphasized that the real system of Zakah must lead to economic growth and development, and that, for this to occur, Zakah needs a strong foundation. Several verses from the Quran were presented which provide the basis of this foundation. Although Muslims continue to give the ritual Zakah, the economic problems continue to get worse. In fact, corruption in the system of Zakah collection and distribution is quite common in many Muslim countries and charitable organizations. We also pointed out that we really cannot talk about a system of Zakah as long as Allah-given resources are under the control of dictators/kings, capitalists, and/or priests whose primary objective is not to serve Allah Almighty or his servants, but to maintain their own power and control. Until Allah's resources are purified from their corruption (the root of Zakah also means purification), we cannot truly hope to implement Zakah. In this final part of the article, we venture to show how the Quranic concept of Zakah, if implemented in its pristine form, will, ultimately, lead to economic growth and development of not only Muslims but of the entire human race. This may sound strange or even impossible under the present system of Zakah being practiced by Muslims. But this situation has to do with Muslims and not Islam. We must differentiate between Muslims and Islam .

No one can argue that we, Muslims, are no longer the Ummah referred to in the Quran. We are divided into sects. We make excuses to justify our sectarian divisions in spite of Allah's stern and clear warnings against it (6:159,30:31,32) . We play with the verses of Allah Almighty and compile books-such as the book of tricks mentioned in Part-I-to circumvent Allah's clear orders about "giving Zakah." According to the Quran, accumulating wealth and looking for ways to multiply it leads to hell (104:2-4).

On the other hand, if we follow in the footsteps of the Prophet (PBUH) and his companions there will be no doubt or skepticism about the universal goal of Zakah. The skeptics (both Muslims and non-Muslims) have to go back to the period of the Prophet (PBUH) and the rightly guided Khalifas-and not to the Umayyad and Abbasi periods-to find a proof of the positive impact that the economics of Zakah created on the society. That society was established and ruled solely on the basis of the universal permanent values of the Quran.

Quranic Zakah: Requires Own Independent State

Because the Quran is a Constitution, it requires its own independent and free state where its unique economic system of Zakah can and should be implemented. The positive output (growth and nourishment at all levels) of this economic system is termed by the Quran "Aata-wuz-Zakaat" or "to give Zakah." The Quran says:

(They are) those who, if We establish them in the land, establish regular prayer and give Zakah " Aata-wuz-Zakaat ", enjoin the right and forbid wrong: with God rests the end (and decision) of (all) affairs. [Al-Hajj 22:41, Translation: Yusuf Ali]

"Establish them in the land," means the establishment of an Islamic state by the momineen or the believers. The beneficial outcome of Zakah must manifest in this world through its own government established along the lines of the Prophet (PBUH) and the Sahaabaa (R) .Therefore, the establishment of this Islamic state is different from the ones established by the proponents of so-called Shariah, from the Ummayah and Abbasids down to the present. How can a so-called Islamic government under the control of kings/dictators, capitalists, and/or priests implement the Quranic economics of Zakah when, in fact, they are the ones who corrupt it? The Quran does not even recognize their existence, let alone allow them to rule in the name of God. In fact, the Quran condemns religious priests who unjustly devour people's hard earned wealth (9:34).

Zakah: Lead to Growth and Development

The term "giving Zakah" means a) making available to all human beings the provisions of growth and development by providing equal opportunity within its jurisdiction and b) purifying a corrupt economic system. This is in contrast to the present situation where the governments " take away (a ritual) Zakah" instead of "giving (the Quranic) Zakah" to the people as instructed by Allah.

In the first place, the duty imposed by Allah Almighty for "giving Zakah," i.e. making available the provisions of growth and development, cannot be fulfilled unless the Quranic government has the capability to discharge this responsibility. The needs of the people determine how much Zakah is taken. Zakah is not a special religious tax or levy that is different from the government tax. In a Quranic state it is not possible for some people to hoard material possessions beyond their needs and indulge in excesses, while the rest are deprived of the basic means and provisions of life. The Quran explains the justification for this.

i. The Earth is the source of all the provisions of life. Like water, air and light, the Earth has been created by Allah Almighty for the benefit of all. Therefore, no one has the right to own it except Allah. We, humans, are only the trustees and beneficiaries. We are not owners. As discussed in the second part of this article, the claim of ownership of any part of the Earth by human beings is shirk in the sight of Allah.

ii. In this system, individuals cannot hold onto surplus wealth.

"They ask thee how much they are to spend; Say: 'What is beyond your needs.'" (2:219).

iii. Surplus wealth should go to the treasury (Baitul Maal ) of the Islamic government, as was the case during the time of the rightly-guided Khalifas. Therefore, in this system, there is no question of individual, or group investment.

iv. This system will provide all the basic needs of life like housing, hospitalization, and education. No one will need to borrow money with interest for the above; no one will have surplus money to invest with interest.

v. The question of individual business for profit also does not arise in this system. Shops will be cooperative distribution centers, not sources of individual profit. Those who run the centers will receive compensation for their efforts.

[Note: Some may claim that the above advocates Communism. Nothing can be farther from the truth. Contrary to Islam, Communism does not believe in any power higher than itself. While people in a Communist state work for the good of the state in this life, Muslims work for the benefit of all to develop the individual soul for the Afterlife.]

Interest free Economics: According To Quran Laws

The economic system of the Quran must be run on an interest-free basis. While this topic is hotly debated in Islamic circles, the proponents of interest-free Islamic economics mostly seek ways to adapt it to Western capitalism. But the economic system of Zakah, grounded in the Quran, is unique, relying on the desire of individuals to uplift themselves morally and spiritually, not materially. Brothers and sisters! Just as Islam is opposed to Communism for putting the State before God and the "Self"(Soul), it is also opposed to Capitalism for putting money before God and the "Self."

The term Riba in the Quran encompasses more than "interest." Riba is the foundation of an economic system that is so directly opposed to the economic system of the Quran that Allah Almighty asks believers in the Quran to declare that this system is a war against "Allah Almighty and the Prophet (PBUH), " (2:279) and, therefore, to fight it. Ironically, today our Ulema occupy themselves with seeking solutions to the Riba -based economy of an un-Quranic system. Otherwise, what other explanation could there be for Imams (religious leaders) and Fuqahaa (religious jurists) who allow indirect silent partnership in business or land (read investment), a relatively mild form of exploitation compared to Riba ? [Detailed discussion of Riba requires a separate article.]

To recollect, our discussion of Zakah thus far can be summarized as follows:

1) Whatever is collected in the name of Zakah nowadays is really a charity. It has nothing to do with the Quranic Zakah.

2) For Zakah, the existence of an Islamic government based solely on the Quran as its Constitution is essential (22:40). This must replace any man-made economic system (like Capitalism or Communism) or purify any system based on an amalgamation with the divine system like the one based on the so-called "Shariah" developed under the Abbasi rule.

3) It is this government that can truly give (the Quranic) Zakah (" Aatawuz Zakah ") to its people by providing the means of growth and nourishment to everyone equally while demolishing such barriers as wealth, status, race, gender, ethnicity, language, etc.

4) To discharge this responsibility, the entire revenue of this government can be called Zakah. There cannot be a permanent fixed-for-all-time Zakah rate or Zakah items. The government will determine these based on the needs of the time and place. Whatever the Prophet ( PBUH ) fixed was based upon the needs of his time and place and was not meant to be permanent for all times and all places.

5) The charitable contributions to deal with emergency situations are called Sadaqaat (not Zakah) by the Quran.

Incentive for Giving: As we have seen, according to the Quran, it is the responsibility of the Islamic state to provide equal opportunity to all as a basic human right for growth and development. For this purpose, every family returns its surplus wealth to the Islamic state (2:219). Moreover, it is the duty of Muslims to extend this system to include the entire humanity (1:2).

What is the incentive that will drive people to give their surplus wealth to the Islamic system willingly? What benefit will the individual derive who gives his/her surplus wealth to this system?

Without satisfactory answers to the above questions, people will not be motivated to part with their surplus wealth. No one wants to part with his/her hard earned money without receiving some benefits in return. The Quran says: He sends down water from the skies, and the channels flow, each according to its measure: But the torrent bears away the foam that mounts up to the surface. Even so, from that (ore) which they heat in the fire, to make ornaments or utensils therewith, there is a scum likewise. Thus doth God (by parables) show forth Truth and Vanity. For the scum disappears like froth cast out; while that which is for the good of mankind remains on the earth. Thus doth God set forth parables. [ar-Ra`d 13:17, Translation: Yusufali]

The above verse reveals clearly and beautifully the answer to our questions: only that system will stay forever which is beneficial to all of humanity. This is the fundamental law that decides whether a system or an ideology is capable of being maintained or is transient and will disappear. According to this law, a system which is designed to benefit only a particular group or nation, will disappear sooner or later. The ruins of past empires (including Muslim ones) attest to the effectiveness of this law.

Therefore, when we choose an ideology of life other than what the Quran prescribes, we have to face the consequence of that choice.

Two Alternatives, Two Choices: Individuals tend to work for their own benefit. This is the driving force which motivates people to work. But according to the Quran:

Ø That system in which everyone works for one's own individual benefit does not have the ability to stay-no matter how much tinkering or patch-up job is done to save it. On the contrary,

Ø The system in which everyone works for the benefit of entire humankind will stay forever. It stays on the basis of its own intrinsic strength and power.

In the second system, individual benefits are not ignored. They just do not occur immediately or directly. Rather, they occur indirectly - and in the long run, while, in the first system, everyone gets his/her individual benefit right away. The Quran calls this short-term gain or Mataa'uddunya , while the long-term gain that comes to a person who has shared and circulated his/her worldly benefits with humankind, is called the future benefit or Aakhira . This is also referred to as the life of the future or Ha-yaatul Aakhira which includes the life after death as well (87:16-17).

Thus, according to the Quran, an ideology based on the welfare of the individual is short-sighted and doomed to perish, while the one based on the welfare of the entire humankind is just.

Quran: Tell Us About Universal Welfare

The Quran does not advocate this ideology on the basis of emotion or blind faith. Unlike other religions, the Quran provides objective proof for every claim it makes. So, why is an ideology based on the welfare of an individual or a family, or a race, or a nation wrong while the one based on universal welfare right? The Quran explains it through a practical example and provides an objective proof for this claim.

If human beings lived only at the animal level, then it would have been acceptable to look for one's own self-interest. Eating, drinking, and the pursuit of happiness from material things in life would have been their goal (47:12). But life at the human level is different than at the animal level. Animals do not have a sense of tomorrow or future. This distinguishes human beings from everything else in the universe. The human body in this world, which is a vehicle for the "self," or "soul," is left behind while the soul journeys on to another dimension which the Quran calls Ha-yaatul Aakhira , just as the mother's womb is a vehicle for the fetus which eventually separates and journeys on independently.

It is this sense of a larger future (or future life) that binds a human being with the rest of humanity just as individual members of a family work together for the future success of all the family members. Working for the benefit of humanity's future leads, in turn, to development and growth of the "self," an essential requirement for each individuals' future journey. The Quran says:

Verily, (the ends) ye strive for are diverse. So he who gives and fears [Wattaqa], And (in all sincerity) testifies to the best,- We will indeed make smooth for him the path to Bliss . But he who is a greedy miser and thinks himself self-sufficient, And gives the lie to the best,- We will indeed make smooth for him the path to Misery; Nor will his wealth profit him when he falls headlong (into the Pit). Verily We take upon Ourselves to guide, And verily unto Us (belong) the End and the Beginning. Therefore do I warn you of a Fire blazing fiercely; None shall reach it but those most unfortunate ones Who give the lie to Truth and turn their backs. But those most devoted to God shall be removed far from it,- Those who spend their wealth for increase in self-purification, [Surah Al-Layl 92:4-18, Translation: Yusufali.]

Human efforts are spent in different directions. But the one who "gives" (Muttaqi) saves himself/herself from dangers. (The root of Taqwa is: protection from dangers, therefore Muttaqi is one who is protected).

The above verses also provide the motivation for why one should "give." "Giving" achieves two things. First, it provides a source of nourishment, growth and development at the physical level. This is so obvious that it does not require further elaboration. Second, what is not so obvious is how it affects the non-physical or "human" aspect of life. In the interest of simplicity and brevity it is said that "giving" leads to spiritual growth. But what is this spiritual growth and how does it occur?

Human Activity Is Subject to Higher Law: The Quran explains in concrete terms that "spiritual growth" is not something imaginary or metaphysical. It says there is a higher law that operates on the "self" just as the physical law operates on the body. This higher law is that the "self" grows by giving whereas the body grows by "taking." Let us see a rational explanation for this law.

When human beings employ intelligence as a tool, human emotion tries to fulfill its ambitions and desires to excel by competition. Since human intelligence knows no other world than its own, it guides human beings to compete for this world. This is the material concept of life in which people try to outwit each other in conflict situations using every means, primarily power, money, influence. This is amplified several folds (in terms of its influence and impact) at the national and international levels. The Quran says that this way of life is transient, leads to waste of human potential, and ultimately to human catastrophe.

Human Desire: To Compete Cannot Be Crushed

Thus, according to the above verse, the Quran recognizes the very real existence of the human emotion to compete. But it also warns that the end result of the competition for material things is short-lived. The race for material things weakens rather than strengthens the human "self" and character. Instead, the Quran tells us to compete in a different arena, one which will not only strengthen our character and "self", but the results of which will encompass both this world and the hereafter:

Race one with another for forgiveness from your Lord [Rab or Nourisher] and a Garden whereof the breadth is as the breadth of the heavens and the earth, which is in store for those who believe in Allah Almighty and His messengers. Such is the bounty of Allah, which He bestoweth upon whom He will, and Allah Almighty is of Infinite Bounty. [Sura Al-Hadid 57:21, Translation: Pickthall]

This competition leads to a system in which Allah's bounty flows like a continuous river - a river that covers the breadth of the heavens and the earth-satisfying everyone's needs in this life and extending to the other. No one, in this system, erects any barriers in this free flowing economic bounty (garden) of life. Rather, everyone seeks forgiveness from Allah Almighty from such acts so that this bounty remains freely available for nourishment and growth for all, as Allah Almighty has promised (1:2, 17:31).

Economics: Concept and Purpose in Islam

In part I of this article, we had examined the prevailing opinions of both religious and secular Muslims, as well as the prevailing system of Zakat in some so-called Muslim countries. We had concluded that the concept and practice of Zakat has been reduced to a lifeless ritual by means of which the rich believe they can gain entry into Heaven in the Hereafter. On the other hand, our Prophet (pbuh) acted to establish the Deen of Allah Almighty in Medina by implementing the system of Salaah and Zakat as spelled out in the Quran. In this part we will look closely at this system of Zakat.

If Zakat is one of the pillars of the Deen , it stands to reason that this pillar must stand on a firm foundation. That firm foundation is comprised of each Muslim's unshakable conviction, 100% commitment, utter sincerity, and complete dedication to the belief that the Allah-owned resources on the planet must be made available to all creatures and human beings for their sustenance, nourishment, and growth.

The Arabic word Zakat , with its root Z -K -W means growth and development. A tree is nourished and grows in the presence of Allah-owned resources such as the soil, the rain, the sun, and the air (56:63-72; 80:24-31). Any interference in the flow of any of these resources will retard the growth and development of the tree. Similarly, any individual, group, government, or system which disrupts the natural flow of Allah-owned resources on the planet to all human beings creates an imbalance in society: the rich/poor, the master/slave, the owner/worker. In the West, this awareness is dawning in respect to plants, animal and insect species which are becoming extinct due to this imbalance in nature caused by the actions of human beings.

However, the global economic imbalance continues to grow unchecked because human beings have refused, in their greed, to believe in the basic economic principle of Zakat : unrestricted flow of resources to all human beings (41:10, 50:11, 55:10, 56:73, 79:33, and 80:32).

The capitalist New World Order of the West actively seeks to control the natural resources of weaker nations under the guise of "global economic security." Using the United Nations as a tool, the weak are intimidated into submission either through economic sanctions or military force. Allama Iqbal beautifully captured this mentality of the powerful when he said: "Hai wo sultan ghair ki kheti pe ho jiski nazar." (The master is one who always has an eye on others' lands.) Muslims, too, have abandoned the Quranic Zakat, which is Allah's assured challenge to this naked exploitation of the weak by the strong. Unlike other religions, Islam is a Deen , a system of life, a constitutionally-run, collective life that encompasses the social, economic, political, judicial, and military aspects of a community. The leaders of this community are not priests, or scholars, or the rich, or the strong: they are the most upright who commit to upholding the laws of Allah Almighty in the land, " Amr bil ma'aroof " (enjoining what is right) and " Nahya 'anil munkar " (forbidding what is wrong). They make sure the Quran, the Constitution of Allah, is en acted i.e. put into action.

What then, is the position of the Quran on the Economic World Order that should prevail, in other words, Zakat? The Quran emphasizes the importance of economics in human life. While describing the life of Heaven, the Quran says there will be no hunger and no misery there.

"There is therein (enough provision) for thee not to go hungry nor to go naked." [Yusuf Ali (20:118)]

Too, the Quran teaches us to work for the good of this life, as well as the hereafter (2:201, 7:156), in contrast to the mindset of those who consider economic prosperity in this life to be an end in itself. According to the Quran, such people live at the animal level:

"Verily Allah Almighty will admit those who believe and do righteous deeds, to Gardens beneath which rivers flow; while those who reject Allah Almighty will enjoy (this world) and eat as cattle eat; and the Fire will be their abode." [Yusuf Ali (47:12)]

Taqwaa (righteous works) includes the use of economic prosperity to achieve a higher and nobler goal (10:63-64, 16:30). Economic prosperity is a means, not an end; it is a source for life, not the end of life; it is a prerequisite for growth and development in life, not the final goal of life. Since economic prosperity is so essential to human growth and development, Allah Almighty has addressed the issue of Zakat in great depth in the Quran.

To begin with, Allah Almighty says He is Rahman and Rahim :

"There is no moving creature on earth but its sustenance dependeth on Allah: He knoweth the time and place of its definite abode and its temporary deposit: All is in a clear Record." [Yusuf Ali (11:6)]

"How many are the creatures that carry not their own sustenance? It is Allah Almighty who feeds (both) them and you: for He hears and knows (all things)." [Yusuf Ali (29:60). Also see verses (6:152) and (17:31)]

Allah, of course, does not personally feed anyone: And when they are told, "Spend ye of (the bounties) with which God has provided you," the Unbelievers say to those who believe: "Shall we then feed those whom, if God had so willed, He would have fed, (Himself)? - Ye are in nothing but manifest error." [Yusuf Ali (36:47)]

Allah Almighty fulfills this promise by creating the resources for the nourishment and growth of all moving creatures. No one, therefore, has the right to own or control the Allah-given natural resources or to restrict their flow to humanity at large (107:7, 17:20). Otherwise, this is tantamount to belying the Deen of Allah Almighty (107:1-6). Any association or partnership with Allah Almighty in this respect is Shirk, an unforgivable sin in the sight of Allah. Allah Almighty says:

"Join not anything as equal with Him; be good to your parents; Kill not your children on a plea of Want- We provide sustenance for you and for them ." [Yusuf Ali 6:151]

Secondly, Allah Almighty is clearly the real owner of the resources He has created. The following verses in the Quran leave no doubt about this:

The earth and all its resources belong to Allah. It is such an obvious fact that no one can deny it (6:12, 10:31, 29:61 &63, 31:25, 34:24, 39:10 &38, 43:9).

· Allah Almighty is the inheritor of the earth (19:40). The earth has been created for the benefit of all (55:10).

It has been created to provide nourishment for all (56:73).

To Him belongs all that is in heavens and the earth, "La hu ma fissamawati fil ardh" (2:116, 2:255, 4:171, 5:40, 14:2, 16:52, 20:6, 22:64).

"Lillahi ma fissamawati fil ardh" (2:284, 3:109, 3:129, 4:131,132, 5:40, 10:55, 10:67, 14:2, 16:52, 20:6, 21:19, 34:1, 42:4, 42:53, 53:21).

"Lillahi miraathus samaawaatti wal ardh" (3:180).

As Owner, then, Allah Almighty has given us these resources as a trust which we are required to disburse according to His Will (the system of Zakat), which is, to make available to all living creatures according to their needs, without any hindrance or control, the sustenance and provisions of life.

It was the Prophet's ( pbuh ) unshakable conviction, his utter commitment, and total obedience to this system of Zakat that led to the establishment of the basic infrastructure of a universal, welfare-based economic system in Medina, and which reached its pinnacle during Khalifa 'Umar's (R) time when, it is said, hardly anyone was in need of charity. The Prophet (pbuh) lived his life true to this principle: he was not an owner of anything, no land, no possessions; he was merely an enforcer of the Will of Allah Almighty - he established the system of Zakat.

Shirk - Associating Other Owners besides Allah Almighty to the Ownership of the Earth

Since Allah Almighty owns the Earth and its resources, then no one else can be an owner. A simple example illustrates this well: I wish to buy a piece of land. The seller and I sign the papers, and legally, I become the new owner. But if we carry this process back far enough, a point will come where this mutual deal will come to an end. Someone must have acquired that land illegally at first without any mutual agreement. Now, in legal jargon, any illegally acquired property, no matter how many times it is bought and sold thereafter, remains illegal. So, how can I say that "I" am the "legal" owner of that land? In my own defense I may claim that I acquired the land "legally," or that it is not my responsibility to worry about someone else's very first illegal acquisition of that land, or that I bought it from halal earned income, so I "own" it. But it does not change the reality - I am involved in a deal which was Shirk to begin with. And, as long as I believe in "my ownership," I am involved in Shirk.

Brothers and sisters! It is not difficult to understand this kind of Shirk if our hearts and minds are open and sincere. According to the Quran, Muslim believers are required to enter into a contract with Allah Almighty in which they must sell their life and wealth to Him in exchange for Jannah : "Allah Almighty hath purchased of the believers their persons and their goods; for theirs (in return) is the garden (of Paradise)" [Yusuf Ali 9:111]

But, if we cling to the attitude that we own our life and wealth (in violation of the above ayah) then how can we practice and establish Zakat? First, this Shirk (having two owners, Allah Almighty and us) has to be slowly and gradually eliminated before the tree of Zakat can take firm root in a land rooted in Tauheed (with Allah Almighty only being the owner of everything including our lives) and not in Shirk (in which others are also owners along with Allah). That is where Sadaqaa or charity comes in.

What is Sadaqaa?

Our Islamic scholars interpret both Zakat and Sadaqaa as charity. And whatever instruction Allah Almighty has given in the Quran in the following verse for Sadaqaat they attribute it to Zakat .

Alms [Sadaqaat] are for the poor and the needy, and those employed to administer the (funds); for those whose hearts have been (recently) reconciled (to Truth); for those in bondage and in debt; in the cause of God; and for the wayfarer: (thus is it) ordained by God, and God is full of knowledge and wisdom. [Yusuf Ali (9:60)]

But, first of all, why would Allah Almighty use two different terms if they mean exactly the same thing? It does not make sense. Secondly, the Arabic language also does not support it. While the root meaning of Zakat comes from Z-K-W , meaning growth and development, the root meaning of Sadaqaa comes from the root S-D-Q , meaning truth and power. Therefore, all the words that are derived from this root will have these two meanings (truth and power) embedded in them. Siddeeq is one who proves his trust and belief by his actions. As-Sadaqatu is anything that is given in the way of Allah Almighty voluntarily to prove one's promise and belief in Him as opposed to Zakat , which is compulsory [Tajul 'Uroos]. Therefore, Sadaqqa has a different purpose in Islam than Zakat and both cannot be equated with each other. How can income tax (a compulsory thing) be equated with charity (a voluntary thing)?

Economics:Concept and Purpose in Islam

The economics of zakah and its relevance to modern times is a hotly debated issue among both religious and liberal Muslims. This series of articles will attempt to explain the concept of zakah in the light of only the Quran and the faithful implementation of this concept by our Prophet (pbuh). We will see how a similarly implemented system can solve the current economic problems of not just Muslims, but of the whole world.

Economics: Zakah, First Universal Welfare System

Contrary to the beliefs of both religious and secular Muslims, the Prophet's achievements were based not on ephemeral but on the permanent values of the Quran. He brought about the greatest revolution - even an economic and political miracle - in human history (see Michael Hart, THE 100, pages 3-10). In a very short time after the prophet migrated to Medina and implemented the system of salaah and zakah, the economic condition of the people changed. (For a detailed discussion about the system of salaah, see a two part article in MONITOR, pages 6-10, September/October 1998, and pages 7-12, December1998/January 1999)

The Prophet (pbuh) is reported to have said: If a single person were to sleep hungry in a town, then God's protection is lifted from such a town. [Masnad Imam Ahmad ] This hadith emphasizes that no one (Muslim or non-Muslim) under this system should go hungry. Thus this zakah system created the first universal welfare system in human history. It also gradually transformed the existing slave-based economy to a universal welfare-based economy. By the end of the Prophet's period, the entire Arabian Peninsula enjoyed economic as well as political security. This system reached its pinnacle during Khalifa 'Umar's time (again, see Michael Hart, THE 100, pages 261-265), a time when, history tells us, hardly anyone was in need of charity.

What has occurred then in the intervening years that the Muslim masses are suffering economic deprivation even though they live in areas with plenty of natural resources?

What Happened Then?

Muslims and non-Muslims alike ask the question: If the system implemented by our Prophet (pbuh) and Sahabaa (r) was so good, why did it not continue? The answer is simple: we changed or abandoned the system implemented by the Prophet. Instead of deciding matters with open consultation, as the Quran requires, the Ummayad and Abbasid dynastic rulers created a dictatorship under the guise of " Shari'iah " and " Ijma'a ". This was a ploy to fool the people. The rulers first acquired illegal political authority, and then delegated religious authority to Imams appointed by themselves.

Thus they hijacked the train of Islam from the track of our Prophet (pbuh) and his Sahabba (r) and put it on a new track called " Shari'ah ." Since then, a minority of the rich and powerful has been riding this train and entertaining their friends while exploiting the vast majority of Muslims along the way. Consequently, common Muslims have continued to live in poverty and to suffer intergenerational economic misery. Islam's system of zakah has had nothing to do with this sad state of affairs.

Zakah: Our Approach

Today, we are taught that zakah is one of the pillars of Islam. zakah is generally translated as charity or poor-due and it is required to be distributed according to the details given in the Shari'ah . However, the descendents of the Prophet (pbuh), generally known as "Syeds" in the Indian subcontinent, are forbidden to take zakah according to this Shari'ah . No matter how poor, they are considered superior by birth compared to other Muslims due to their supposed relationship with the Prophet (pbuh). Obviously, this is against our Prophet's Sunnah since he proclaimed justice, fairness, and equality for all, regardless of family or blood relationship.

The dispensation of zakah is regulated by different rates (called shar'h ) for different items (called nisaab ) whose details are given in books of hadith and Fiqh . Zakah on money is 2.5% of the savings over a period of one year according to the Shari'ah . There are many conditions attached to the giving and receiving of zakah. There is no uniformity even among the Sunnis in the restrictions, rates, and even the items of zakah.

In addition, there are different books of Fiqh and Shari'ah for different Muslim sects or schools of thought! Although Islamic scholars know about these differences in zakah among the Muslim sects, they rarely bring them out into the open, since it is in the interest of these scholars to keep the people ignorant.

The differences in zakah among the four Sunni Imams are not as major as among the Sunni and Shi'ia Imams. For example, in Fiqh Jaffariah , there is no zakah on paper currency. So, for the followers of this Fiqh there is no Zakah on bank accounts. When General Zia-ul-Haq, the Pakistani military ruler instituted compulsory zakah in Pakistan, the Shi'ia 'Ulema revolted against it and refused to abide by the government's zakah ordinance. Ultimately, the government excluded Shi'ias from the yearly bank account deductions. This led many Sunnis to declare themselves Shi'ias on their bank forms to avoid paying zakah on their bank accounts.

Conclusion

Dear sisters and brothers! We must re-turn to the true spirit of the Quran; we must have the courage to follow the Islam of our Prophet (pbuh), which requires real sacrifice and a drastic change in our lifestyles. We must go back to the Quran as the primary source, and not to the rulings of Islamic scholars from the time of the Ummayad and Abbasid rulers.

In Part 2 of this article we will look at the real meaning and significance of zakah - the Arabic word zakah with its root z-k-w , which means growth and development, not charity or poor-due. Keeping this meaning in full view, zakah is supposed to ultimately lead to growth and development of all human beings; it is supposed to remove the need for charity or poor-due in the long term. We will see how zakah not only leads to the economic progress of individuals and all human beings, but to their spiritual progress as well. We will also note the difference between Sadaqaa and Zakah.

Astronomy

Prophet Muhammad has been accused with all sorts of lies. One of the accusations of the Pagans in Makkah that he had secret Christian and Jewish companions that taught him the Jewish and Christian history. Past and present critics of Islam enjoy this theory of secret companions. If this theory holds, we would like to add other names to these “secret” companions such as the American astronomer Vesto M. Slipher, Dr. Edwin Hubble, and Professor Alan Guth among many other astronomy and physics scholars.

In 1912 the American astronomer Vesto M. Slipher (1875-1969), working at the Lowell Observatory in Arizona, discovered the "red shift," which paved the way to the Big Bang, one of the greatest discovery in the twentieth century.

Edwin Hubble (1889-1953) studied at the Yerkes Observatory, and in 1917, received a doctorate in astronomy from the University of Chicago. Hubble developed a classification system for the Galaxies he observed. In 1924, he saw a large number of galaxies beyond our Milky Way. It was then he discovered that Galaxies were moving away from each other at a constant rate in 1929. He announced the discovery of the linear relation between distant galaxies and their red shifts. This relation, which was called Hubble constant, helps astronomers to introduce the Big Bang, determine the age of the universe, and prove that the universe was expanding.

Professor Alan H. Guth, of MIT introduced the inflation theory that explained a number of puzzling features of the conventional Big Bang in 1998. It accounts for the fact that the closely packed infant universe expanded neither so slowly that gravity could crush it back into nothingness, nor so fast that it could thin out before galaxies and stars could form. The inflation theory proposed a fine balance of the density of the universe. Too much density would close the universe round on itself and collapse; too low density would open out the universe uncontrollably.

The Big Bang and expansion of the universe are considered the most awesome discoveries of the twentieth century. The evidences the Big Bang and expansion of the universe are so powerful to the extent that they are considered a fact. The discussions of cosmologists are focusing now on the mechanism and the factors that affect this expansion.

The Quran refers to the Big Bang in one short Ayah (verse}, presenting an accurate outline to the conditions that led to creating the universe:

Surah (chapter) 21, Ayah (verse) 30 "Do not the unbelievers see that the heavens and the earth were joined together (as one unit of creation) before We clove them asunder?"

In the above Ayah, Allah declares clearly that the universe (the skies and the earth) was joined together, and then Allah caused it to explode. There is a very important choice of words in the original Arabic text whose translation is given above. The Arabic word “ratq” translated as "joined together" means "mixed in each, blended" in Arabic dictionaries. It is used to refer to two or more different substances that make up a whole. The phrase "We clove them asunder" is the verb “fataqa” in Arabic and implies that something comes into being by tearing apart or destroying the structure of “ratq.” In this Ayah, skies and earth are at first subject to the status of “ratq” and then they exploded. Intriguingly, cosmologists speak of a "cosmic egg" that consisted of all the matter in the universe prior to the Big Bang. In other words, all the heavens and earth were included in this egg in a condition of “ratq.” This cosmic egg exploded violently causing its matter to “fataqa“ and in the process created the structure of the whole universe.

The accuracy of the Arabic words of such divine description of starting the universe is well beyond comprehension. A cosmic fact was revealed to an unlettered Arab that took humanity one thousand and four hundred years to discover. This Ayah addresses the unbelievers with an overwhelming challenge. No one can claim that Muhammad had knowledge of spectroscopic observations or he had instruments to measure red shifts of distance galaxies. Also, he was not a genius mathematician. This Ayah, as with many of the scientific miracles in the Quran, addresses the unbelievers in a strong challenge. If they could not use their intuition to figure out the existence and the uniqueness of One Creator and to believe in the authenticity of the Quran, then they can listen to an unlettered Arab explaining the creation of the universe.

Allah refers to the expanding universe in the following verse:

Surah (chapter) 51, Ayah (verse) 47 "We have built the firmaments with might and we indeed have vast power."

The above translation does not reflect the actual meaning of the Ayah. Any Arab speaking person will translate the above verse as follows:

"We have built the skies with might and we indeed are expanding (them)"

The Arabic verb used means continually expanding, and refers to the previous noun that is the skies. Other translations of this verb include "width and generosity", and "to make them wider." One of the translations called "The choice" or in Arabic "Montakhab", stated clearly its Arabic meaning that the universe is expanding.

The fact is that Allah described the expansion of the universe in a short sentence. Muhammad stated this fact that took humanity ages to discover and measure. Who told him that? This fact could not be envisioned in the seventh century and authored by an unlettered Arab when he had no previous knowledge about cosmology. It must have been a divine inspiration from the Creator of the Universe!

The fact is the Quran is authentic and valid for all times, ages, and places. The above two verses confirm this fact, when these verses were understood and validated after 14 centuries of the revelation. It is now obvious the powerful statement of the Quran which states:

Surah (chapter) 15, Ayah (verse) 9 “We have, without doubt, sent down the Message; and We will assuredly guard it (from corruption).”

The purity of the Arabic text of the Quran through fourteen centuries is a foretaste of the eternal care with which Allah’s Truth is guarded through all ages. Allah’s Pure and Holy Truth will never suffer eclipse in any time or in any place. Unlike the Bible, in the present day, millions of Muslims (Arabs and non-Arabs) memorize the whole Arabic text of the Quran by heart. Some of them have been able to memorize the entire Quran by the age of ten. This is a simple and yet an overwhelming fact. Not only did God preserve the Arabic text of the Quran, but also the style of reciting the Quran by today’s Muslims is exactly the same style of recitation as that of Muhammad himself. Muslims, when reading verses of the Quran, stop where the Messenger of Allah stopped, and continue where he continued. One may really wonder about the strength of God’s promise to preserve the Quran in writing as well as in reading. When one recites the Quran, one is reading the authentic Words of the Only God, with the exact reading style of Muhammad, the greatest man ever lived. This is definitely an enormous spiritual experience.

The Quran was introduced to Prophet Muhammad to humanity as a revelation from God. At this point we have a tremendous challenge. We have only two choices:

• Accept the whole Quran as the authentic revelation from God.
• Add other names such as the American astronomer Vesto M. Slipher, Dr. Edwin Hubble, and Professor Alan Guth among many other astronomy and physics scholars to these “secret” companions of Prophet Muhammad!!

It is now your option to pick up one of the above two choices. You be the judge.

FAREWELL SERMON BY THE HOLY PROPHET S.A.W. AT THE LAST PILGRIMAGE

The following is an English translation of the last sermon which the Holy Prophet S.A.W. delivered at Mount ‘Araf«t on his last pilgrimage. This sermon is very famous and very important, as it has laid down the foundations of human rights, dignity and freedom. It was delivered on the ninth day of Zul Hijjah 10 A.H.:

“O People! Listen to me. I do not think that after this year, you and I shall even meet in this place. Remember, there is none worthy of being worshipped except Allah (S.W.T.); He is one, He has no partner, the sovereignty belongs to Him. All praise is due to Him, He is the giver of life and death, and has power over all things.

“O People! From now onwards your blood and your properties are as safe as this city (Makkah) and this month (Zul Hijjah).

“Remember! You shall have to meet your Lord very soon; then He will question you about your deeds. I have conveyed His Message to you. He who is entrusted with property belonging to another shall deliver his trust to the person to whom it belongs. All transactions involving usury are forbidden; your capital is yours. Do not do injustice to others nor let injustice be done to you.

“It has been ordained by Allah (S.W.T.) that all usury is forbidden. To start with I give up the usury that is due to my relations. And all interest by debtors to ‘Abb«s, my uncle, son of ‘Abd al‑Muèèalib is given up.

“Compensation for bloodshed committed during the days of ignorance is canceled. On my part, I give up my claim for compensation, i.e. the claim for compensation for the life of the son Rabia Bin £«rith is canceled.

“O People ! Satan, (the evil one) has despaired of being followed in your land; but he will be followed in other lands. Therefore, you be careful of your faith, lest the people of other lands obliterate your good deeds.

“O People ! The postponement of the sacred month (Zul £ijjah) is an addition of the days of disbelief; those who choose disbelief stay on the wrong path; they make it sacred in one year and non-sacred in another in order to make up the number of sacred months fixed by Allah (S.W.T.), so that they make non-sacred what Allah (S.W.T.) has made sacred. And time revolves as it has been shaped since the day heavens and earth were created by Him. The number of months with Allah (S.W.T.) are twelve and four are sacred ‑ three consecutive months, i.e. Shaww«l, Zul Qa‘dah, and Zul £ijjah, and Rajab between Jam«dâ al- Awwal and Sha‘b«n.

“O People ! Fear Allah (S.W.T.) and carry out his injunctions about women; you have got them unto you as a sacred trust from Allah (S.W.T.), and He has made them lawful for you by His word. You have got your rights over your wives and they have theirs over you. Your rights over them are that they should observe chastity and avoid immorality. If, however, they go astray, you may keep them off and you are allowed to punish them without causing injury. But if they repent you may forgive them. Then their rights over you are that you should feed them and clothe them with fairness.

“And advise men to treat their womenfolk fairly for they have been given in your charge.

“O People ! Note well what I have said, I have conveyed my message to you, I have left with you the Book of Allah (S.W.T.) (the Holy Qur'«n) and my Sunnah. If you adopt these and act up to them you shall never go astray.

“O People ! Listen to my message and understand it well. There is no superiority for ‘Arabs over non‑‘Arabs and for non‑‘Arabs over ‘Arabs, for you are all children of ÿdam and ÿdam was created out of clay. You have been taught that each Muslim is a brother of every other Muslim and that Muslims are one brotherhood. It is not lawful for any man to appropriate for himself anything which belongs to his brother except with the latter's own free will and consent. Therefore, do not be unjust to one another.

“O People ! There is no prophet after me. There is no new religious community (Ummah) after you (Muslims). You shall have to serve your Lord (Allah S.W.T.), perform prayers five times a day, fast in the month of Ramaî«n; pay zak«t (compulsory tax for charitable purposes on your properties), perform £ajj to the sacred house of Allah (S.W.T.) in Makkah and obey your religious and temporal leader. Even if a black man from amongst the salves is chosen your leader and if he rules over you according to the Book of Allah (S.W.T.), follow him and obey him. As a reward for these from Allah (S.W.T.) you will enter Paradise.

“Let all those who are now present carry this message to those who are absent. O Allah (S.W.T.) Be Thou the witness. I have delivered my message to mankind”.

The following verse was revealed at the end of this sermon:

“This day I have perfected your religion for you and completed my favors unto you and have chosen for you al‑Islam as your religion” (5:3).

Islamic Finance : Innovation, Challenges and Opportunities

The rise and acceptance of Islamic finance can be counted among the most significant innovations the financial industry has witnessed. A lot has been accomplished by innovatively addressing the financial needs of customers within the framework of underlying tenets of religious faith. What are the challenges and opportunities going forward?

The Pillars of Islamic Finance

Islamic finance is an outcome of the need to extend the tenets of religious faith to economic activity in such a way that benefits are evenly shared among all the stakeholders and the economy as a whole (see box: Basic Pillars of Islamic Finance). Some of the other underlying features of Islamic finance include:

• Time due of money. Under Islamic finance, time due of money is not recognized, i.e. once the sale price is fixed for financing, even if the asset were to become 'non-performing' the institution¹ cannot claim more than the pre-fixed sale price. The dues to the institution, once fixed, remain fixed.
• Asset backed: Typically all Islamic structures have an underlying asset backing the deal. As such, financing under Islamic structures has a propensity to control inflation.
• Means and end: Though profitability can be stated as a common 'end' for both Islamic and conventional financial institutions, the Islamic institutions carefully structure and adhere to procedures and process steps (means) to ensure that the profits earned are in line with the Shari'a prescriptions.
• Process orientation: Each of the financing structures is composed of processes and tasks. Even if a transaction was to be fulfilled by missing 'one task', the transaction will be rendered invalid in the eyes of Shari'a. For example, in a Murabaha transaction, the institution is permitted to earn profit only as a reward for risk undertaken as evidenced by the institution taking prior possession of the asset. If the institution did not have the prior possession (and hence the risk of destruction) the transaction would be invalid.

The Journey So Far

Flexibility

Institutions have demonstrated flexibility and innovation in structuring financing under multiple structures. For example, property finance (ready-built) can be extended under Murabaha, Ijarah or even Diminishing Musharaka. Typically this flexibility offers customers choice to opt for financing under any of the available structures. Also, since the institution cannot be expected to manage the 'asset layer' on its own, the concept of agency (Wakalah) is deployed both at procurement level and post-sale level (e.g. maintenance in an Ijarah contract) where the customer itself is appointed as the agent.

The balance between customer and institution

Islamic finance principles ensure that a mutually beneficial balance is maintained between the customer and the institution. The customer, for example, is protected in an Ijarah transaction if the asset were to be totally destroyed owing to factors beyond the customer's control. The customer also benefits from upfront clarity since typically the deal and the underlying documentation are structured in an unambiguous manner (to rule out 'Gharar' - uncertainty). Also 'mutual consent' is required for any modifications/alterations to any of the partnership-based structures. These underlying principles ensure that the customer is duly represented in the deal right through the term. The structures also ensure that the institution is not placed in a position of disadvantage. Islamic institutions face greater risks since they go beyond the financing layer to the underlying 'asset layer'. As such, built-in structures in terms of security deposit (Hamish Jiddiyah), documentation e.g. unilateral promise/undertaking, trust deed, etc., ensure that institution's interests are duly protected.

Innovation

Institutions have been introducing products based on innovative structures, such as:

• Credit cards based on annual fee (Ujr) without any other profit element added.
• Utilization of concept of Tawarruq (tripartite sale) for addressing the liquidity needs of the customers.
• Leverage of services Ijarah towards financing education, medical treatment etc, thereby eliminating the need to extend monetary financing to customers.

Collaborative network

Financing based on structures like Istisna'a and Salam require an institution to enter into independent parallel contracts. Such contracts are entered into with manufacturers and buyers of the underlying asset respectively. Thus the institution acts as an interlinking factor by managing a collaborative network of demand and supply.

Collaboration with conventional banks

Increasingly conventional banks are collaborating in syndicated financing deals with the institutions. Large deals based on Ijarah, Musharaka structures are being financed in this manner.

The Basic Pillars of Islamic Finance

• Basis of Shari'a: Shari'a (Islamic law) forms the basis of the framework of Islamic finance. The Shari'a is derived from five sources - The Holy Qur'an, the Sunna of the Holy Prophet (PBUH), 'Ijma' - consensus among the jurists, 'Qiyas' - analogy and 'Ijtihad' - reasoning.
• Schools of thought: Over time, various schools of thought have shaped and lead the development of Islamic finance. The popular schools are: Hanafi, Maliki, Shafi and Hanbali.
• Prohibitions: The following are specifically prohibited - 'Riba' - interest, 'Gharar' - uncertainty, 'Maysir' - gambling, hoarding, and dealing in unlawful goods or services. Islamic institutions structure their products and processes to ensure total compliance.
• Basic Islamic Finance Structures: The popular Islamic financing structures are:
• Musharaka - A partnership structure that represents a 'joint enterprise' in which all partners share the profit and loss of the joint venture. Various products such as financing imports, exports, working capital, project finance, etc., can be structured using this concept.
• Mudaraba - A partnership structure where contribution is from one partner and management is by the other. Various deposit products are structured using this concept.
• Murabaha - A sale structure where a specific commodity is sold on a cost-plus basis. Various products like auto/vehicle loans, goods loans, property loans and equipment loans are structured under Murabaha. This is the most popular mode of financing.
• Ijarah - A sale structure based on rentals for usage of underlying asset/services. Comparable to 'leasing' product from the conventional world, it is a very popular mode of financing.
• Istisna'a - A sale structure where the underlying asset is to be built. Various products like project financing, construction financing are structured under Istisna'a.
• Salam - A sale structure that provides for future dated sales against advance payment.

Challenges and Opportunities: How to Progress

The players for the Islamic finance market can be viewed in three categories:

• Conventional Islamic banks.
• Commercial banks with an Islamic finance window/subsidiary.
• Commercial banks evaluating an entry into Islamic finance.

The challenges and opportunities facing each of these categories of institutions will be different given different points of departure (where they are) and points of arrival (where they want to be). Some of the possible areas that need greater focus from a 'conventional Islamic bank' perspective are discussed below at two levels: external and internal.

External to the institution

Growth markets and scope of services

Institutions are subject to 'dual compliance' viz both Shari'a and regulation of the land (where the institution is domiciled). Viewed as 2x2 matrix - with X axis as 'regulation of the land' with 'permissible' and 'non-permissible' options and Y axis as Shari'a regulation with 'permissible' and 'non-permissible' options, the scope of operations of Islamic institutions is limited to a 'single quadrant' that has permissibility under both the laws. In traditional home markets where there is greater alignment between both the laws, the scope of services is relatively higher. With conventional banks providing Shari'a compliant products in home markets under the 'Islamic window'/'subsidiary' route, pursuit of growth outside the home markets will be an imperative. Institutions that attempt to enter newer markets will have to measure the alignment and levels of 'co-existence' between the two sets of regulations and determine the scope of services.

Standardization - a fine balance

The permissibility of a structure for an institution is in the hands of the Shari'a board of that particular institution. Based on extensive discussions, reasoning (Ijtihad), analogy (Qiyas) and the resultant consensus (Ijma) - a structure is approved or declined by the Shari'a board. On the other hand leading institutions like the Accounting and Auditing Organisation for Islamic Financial Institutions (AAOIFI) are working hard to align principles on a collective basis. A fine balance is required between the collective initiatives (collaborative space) and institution specific initiatives (competitive space) to ensure that standardization is achieved while keeping the flame of innovation alive.

Fee services/transaction banking

Institutions are comfortably placed in providing transaction services like payments, collections, account services, utility payments, etc to their customers. These services do not have an element of financing and are rendered for a fee. This could be an area that Institutions can attempt to grow on. This could also be one of the first services to be offered when institutions are looking at entering new markets. Latest advances in transaction banking like XML based messaging (ISO 20022) and trade services utility (TSU), etc can be fully leveraged.

Benchmarking

Selective benchmarking against conventional banking is a powerful tool that can provide useful insights into new product development. Conventional banks have always been up against restrictions and have been successful at arriving at acceptable business practices to ensure smoother operations. For example, intercompany lending (liquidity solutions) in China is accomplished using an 'entrust framework' where banks act as intermediaries. On similar lines, can liquidity solutions between related companies be arrived at using the Musharaka or any other structure? It is to be noted that such benchmarking will only be a source of ideas and as such 'only' those ideas that stand the test of Shari'a compliance will see the light of day.

Internal to the institution

Product configuration and process orchestration

It is a challenge to create and maintain the IT systems in such a manner that they continuously support the current products and also implementation of new product innovations on an end-to-end basis. Also some of the deals may be supported by the systems only to the extent of booking with little or no support in 'origination' and 'servicing', leaving such activities to be fulfilled manually. Deployment of process orchestration systems will assist in step wise fulfillment and visibility of processes. They also aid in wiping out possibilities of process non-compliance, which in some cases could render the transaction invalid in the eyes of Shari'a.

Greater operational risk

Owing to participation in the 'asset layer' there are additional sets of risks an institution is exposed to. These risks also vary depending upon the nature of the underlying asset and the financing structure. For example, in a normal lease the contract is terminated in case of complete destruction of the asset, whereas in a forward lease the contract is not terminated. Also, non-obtention of documents that essentially protect the interest of the institution like promise to purchase, trust deed, etc. could affect the enforceability and result in financial loss. Along with traditional risks (known in conventional banking) all such risks arising out of the structures of financing have to be identified, measured, monitored and managed at the institutional level.

Cost management

It is sometimes opined that Islamic financial services tend to be on the more expensive side than the comparable services of conventional counterparts. While fees can be charged for services rendered (Ujr) and all permissible expenses incurred by the institution under structures like Mudaraba are deductible, the institution will only be better off in utilizing offshore leverage and/or similar measures, that could effectively contribute to lowering the differential in cost of services and also contribute to a better profit pool available for sharing with customers under investment schemes (Mudaraba) and/or partnerships (Musharaka).

KYC norms

Know your customer (KYC) is equally important in Islamic finance. If the business/purpose for which the finance is being extended is prohibited in Shari'a, the whole transaction would be void. Also, such information can be a significant contributor to choose the structure under which finance is extended. For example, if working capital finance is extended under the Musharaka structure there is every possibility that the customer can project lower profits at the expiry of term, leading to a lower share of profits for the institution than are otherwise due. Hence it is very important to factor in the latest customer information prior to extending finance through a relevant structure.

E-documentation

Islamic finance tends to be document-intensive. This is because typically each transaction has multiple phases - contract, procurement, sale, financing and servicing. Various documents are required to be completed during the various stages of the deal. Completing all the documentation at once may render the transaction void. Also 'elapse of time' between the stages is some times primary to the acceptance of the structure itself (e.g. Tawarruq). Adoption of e-documentation can obviate the need for multiple physical meetings, evidence the elapse of time and also alleviate the need to maintain paper and related storage and retrieval costs.

Credit risk scoring and modelling

Products may be offered not only on the basis of assessment of customer's credit worthiness but also by linking the customer assessment to the risks of the structure of financing. For example, products for low risk customer segments can be structured on a Musharaka basis (sharing) whereas for relatively riskier customer finance may be extended on a Murabaha (cost-plus sale) basis. Also it is to be noted that some of the leading scholars believe that Musharaka and Mudaraba are the ideal structures and where possible, such structures are to be preferred over structures such as Murabaha. Risk scoring and modelling tools could assist in moving customers with a good track record from sale based structures to partnership (Musharaka and Mudaraba) structures thereby increasing the representation of partnership structure based advances in the overall portfolio.

Conclusion

Institutions have made a significant difference in their home markets. The time is ripe for them to 'up' their reach and scale. There are opportunities in the guise of challenges. Concerted effort both in the collaborative and competitive space will ensure that the institutions make concerted progress in many markets.

By: Venu Gopal, Tata Consultancy Services - Hari Krishna Prasad G, Tata Consultancy Services

The author would like to thank Vijaysankar CG for his contribution to this article.

¹In this article, the word ‘Institution’ means ‘Conventional Islamic Financial Institution’ unless otherwise mentioned.

Rise of Islamic Banking Assets, Coverage and Sophistication

The scope of Islamic banking has grown beyond all recognition since the establishment of the first Islamic Development Bank in the 1970s. This article discusses how the Islamic finance sector has been able to increase its profile around the world through increasingly sophisticated products.

Islamic banking is designed around the prohibition of usury and unearned profits, and is born out of strong religious views. As such, it outlaws any services based around the charging of interest, as well as activities such as gambling and trading in forbidden goods such as alcohol.

The origins of a uniform approach to Islamic banking can be traced back to localised activities in the 1960s and 1970s, with experimental projects such as informal profit-sharing savings institutions in Egypt, and Hajj savings programmes in Malaysia. Subsequently, a model for modern financing was first formed in 1973, when the Conference of Finance Ministers of Muslim Countries issued a Declaration of Intent to establish the first Islamic Development Bank (IDB), which was opened in 1975. The purpose of the IDB is to foster the economic development and social progress of member countries and Muslim communities individually, as well as jointly in accordance with the principles of Islamic law. The 1980s saw the increasing adoption of more formal approaches and transitions to a Sharia-compliant model. Pakistan was one leader of this, adopting a policy in 1979 to transform the country's banking operations over a three year period. Iran was another leader, passing a law for usury-free banking in 1983 that required banks to convert all deposits and operations in line with Sharia.

Striving for Global Convergence

At the Islamic Banking and Finance Conference in Washington DC in 2002, it was estimated that there are some US$300bn assets in Islamic banking, and it is largely accepted that this market is set to grow. In addition to this dollar amount, there are additional assets in conventional banking that will be transferred to Islamic banking as well as an indefinable amount of assets that are yet to be banked. This, along with the appearance of an increasing number of small, dedicated Islamic banking institutions has attracted global conventional banks to also offer Sharia-compliant products.

As a result, a key theme in today's Islamic banking market is the challenge to continue to transform the industry so that it can synthesise Islamic products and banking processes with some of the more recent innovations in Western banking in an appropriate way.

Filling the Regulatory Void in the Middle East

Regulation has played an important role in defining the current Islamic banking landscape. Today, there is still no structured regulatory view for the market. While the market is founded upon strong religious principles and some theoretical texts exist to guide financial activities, there is no governing body, which limits the growth of the market, particularly in the Middle East where it originated.

Instead of a governing body, each Islamic bank in the Middle East has its own Sharia Board. This board oversees the development and implementation of Sharia-compliant banking services and ensures that they are carried out in strict compliance with Islamic banking principles. It also has the authority to issue opinions and rulings on the bank's proposed activities. This model has led to the issue of non-standardisation between banks in relation to various common banking services. For example, if a bank wished to invest monies in the stock market, it could do so only by investing in Islamic companies and in compliance with Sharia-law, as regulated by the Sharia Board. The lack of a standard, detailed definition of permitted companies means that it is hard to compare one bank's offering in this area with another's. This lack of commonly understood permitted activities and investment definitions means there is less transparency of products and services to actual and prospective customers.

While the number of Sharia Boards continues to grow in line with the market, they are unlikely to appear at a central banking level and therefore will continue to offer only a fragmented and micro-level solution to the regulation issue. However, there have been some moves to adopt a national approach. In Pakistan, the State Bank has an Islamic Banking Department that aims to make Islamic Banking the first choice for providers and users of banking services. This department was founded in 2003, and is working to improve Sharia compliance, risk management and prudential management. This approach brings Pakistani Islamic Banking regulation more in line with conventional banking, and draws some parallels with other regulatory issues such as Basel II.

The Westernised Approach

While this addresses the landscape in predominantly Muslim regions, developments in predominantly non-Muslim countries have differed. In the UK, for example, there have been some early experiments, such as Al-Barakah, a London-based deposit-taking institution and, more recently, the Islamic Bank of Great Britain. The history of Dallah Al-Barakah is instructive in that its operations were found to be incompatible with the then existing Bank of England's regulations. Due to the inherent nature of its Sharia-compliant operations, it could not guarantee the return of deposits. This was a pre-requisite for the licensed deposit taking regulatory status at that time. This highlighted the fact that Western regulatory regimes would need to adapt their view of banking.

Also in the UK, the Chancellor of the Exchequer, Gordon Brown, acknowledged the significance of this important market by changing legislation to enable future growth. In Islamic banking, instead of loaning the money on an interest-based repayment scheme, the bank buys the property and then re-sells it to the purchaser. Instead of repaying a loan or mortgage, the purchaser pays a form of rent to the bank and at the end of the agreed term makes a final payment and takes over the ownership of the property. As the bank is forbidden to charge interest, it instead charges a management fee so is still able to make profit. As this includes two changes of ownership, under UK law this requires the two separate payments of stamp duty. In September 2002, Gordon Brown introduced new legislation that waived stamp duty on a second change of ownership, accommodating the Sharia-compliant approach to mortgages.

So while Islamic banking in the West might be constrained by Western banking practices, there are clear signs that the market is beginning to address the requirements and create a clearer path for growth. Today there are a number of examples of firms that are addressing the needs of Muslim communities in predominantly non-Muslim countries. These include the Islamic Bank International of Denmark, founded in 1982, and Islamic Banking System International Holding, founded in 1978 in Luxembourg.

As a result of national changes in regulation and the success of the smaller institutions, the path is clear for the larger conventional banks to also join the market. Global Westernised banks, such as HSBC, now also offer Islamic banking activities.

As more banks offer the services, the approach has become in some ways more distant from its religious foundation and more akin to conventional banking, with established Western firms offering Sharia-compliant products. And as the market, along with the number of players, grows, the approach becomes more product-orientated, with services such as trade finance and property finance becoming particularly prominent. This also extends to particular regions such as Asia, where there is a trend for greater product innovation, with the arrival of new services and twists on old ones.

Future Challenges

A future challenge from a business perspective is the inherent lack of flexibility and liquidity in the Islamic banking market as it currently operates. This results largely from the prohibition of usury-based activities stemming from the lending and borrowing of monies on the capital markets. Western style banks use the capital markets not just for speculative trading purposes, but also to allow them to cover funding and liquidity gaps. These markets give a degree of flexibility and financial agility to their participants that do not currently exist in the Islamic banking sector. This not only creates potential economic inefficiencies in the sector, but also raises the possibility of the failure of an institution for liquidity reasons. This is a challenge that the industry is keen to overcome in order for the market to truly flourish, both at a local level and in relation to the global banks.

There are now interest-free debt instruments known as Sukooks, but the market in them is not yet sufficiently liquid or deep for them to fully realise this role. An alternative solution to liquidity constraints would involve the creation of Islamic versions of the lender of last resort role often operated by central banks or other monetary authorities. Although this would reassure potential depositors in Islamic banks as to the likelihood of the bank continuing to operate, this only forms a safety net in the case of failure rather than as a mechanism to stop the failure from occurring in the first place. More attractive is the creation of an Islamic banking equivalent to the capital markets, by allowing banks to trade between each other to cover operational liquidity and other constraints in the short term. According to the Financial Times on 2 October 2006, Swiss investment bank UBS will launch an instrument that claims to be the world's first Sharia-compliant investment product linked to commodity prices, demonstrating the growing levels of product innovation in the industry. This is just one example of the growing innovation of products in the sector; which is of particular note in South East Asian countries.

The Islamic Development Bank could step in to either or both of these roles. It has helped the market from time to time by financing projects in less well-developed states and acted as an inter-governmental bank, so is potentially well-positioned to help to shoulder this responsibility.

While customers feel religiously compelled to use Islamic banking, their confidence in particular institutions is likely to dictate some of the growth patterns. Most dedicated Islamic banking institutions are small, so do not really mirror a typical, conventional Western bank. There are exceptions, such as the Dubai Islamic Bank, the world's first fully-fledged Islamic bank that has assets of US$15bn, as well as assets under management in funds and other collective investment and financing scheme considerably exceeding this. The bank now possesses A and A1 ratings from Standard and Poor's. And while it is unlikely that institutions in the Middle East will be allowed to fail, in predominantly non-Muslim countries it is less certain. As such, consumer confidence could well favour the more established firms, leaving the smaller dedicated banks behind.

As the market seems set for substantial growth, the industry now has to step up to the challenge of ensuring the products can meet the demand, while adhering to the laws of Islam. There will inevitably be risks along the way, such as the possibility of large-scale failures. However, once these are avoided and firms, along with national governments, demonstrate a coherent, stable and innovative approach, the path will be clear for the market to reach its true potential.

By: Nicholas Brewer, Temenos