Introduction to Islamic Banking and Finance: Principles and Practice PDF

Introduction to Islamic Banking and Finance: Principles and Practice M. Kabir Hassan, Rasem N. Kayed, and Umar A. Oseni Chapter 1 Introduction to Islamic Banking and Finance Learning Objectives Upon the completion of this chapter, the reader should be able to: 1. Descri...

Introduction to Islamic Banking and Finance: Principles and Practice M. Kabir Hassan, Rasem N. Kayed, and Umar A. Oseni Chapter 1 Introduction to Islamic Banking and Finance Learning Objectives Upon the completion of this chapter, the reader should be able to: 1. Describe the conceptual basis of the modern practice of Islamic banking and finance; 2. Explain the historical development and conceptual arguments of Islamic banking and finance; 3. Understand the components and operating structure of the Islamic banking and finance industry as well as the process of development of Islamic finance products; 4. Describe the current size and worldwide spread if Islamic banking and finance.  Learning Objective 1.1 Describe the conceptual Basis of Islamic Banking and Finance basis of the modern practice of Islamic banking and finance. The basis of Islamic finance is Islamic law, which is also known as the Shari’ah The central ruling body is the International Islamic Fiqh Academy (IIFA) The underlying principles of the modern Islamic banking and finance industry include: ○ The prohibition of interest and excessive risk ○ The permissibility of lawful sales ○ Islamic entrepreneurship  Learning Objective 1.1 Describe the conceptual Basis of Islamic Banking and Finance basis of the modern practice of Islamic banking and finance. The Shari’ah Defines man-to-God and man-to-man relationships Shari’ah is the Devine prescriptions in the form of faith and belief, laws and moral norms broadly classified into two strands: – ibadah (worship and devotional practices) – muamalat (civil transactions) The primary sources of the Shari’ah are the Qur’an and Sunnah  Learning Objective 1.1 Describe the conceptual Basis of Islamic Banking and Finance basis of the modern practice of Islamic banking and finance. Figure 1.1: Shari’ah as the Basis of Islamic Banking and Finance  Learning Objective 1.1 Describe the conceptual Basis of Islamic Banking and Finance basis of the modern practice of Islamic banking and finance. The Qur’an The first source of the Shari’ah General and specific rules on religious, commercial, political, economic, legal and social norms Emphasis on mutual consent and consensus among consenting parties Prohibits exploitative measures: – Excessive risk or uncertaintly (gharar) – Usary or interest (riba) Prohibits cheating and corrupt practices in the management of funds Does not allow dealings in prohibited products  Learning Objective 1.1 Describe the conceptual Basis of Islamic Banking and Finance basis of the modern practice of Islamic banking and finance. The Sunnah The second primary source of the Shari’ah Comprises the sayings, practices and tacit approvals of the Prophet Muhammad (PBUH) Meant to further explain the injunctions of the Qur’an For example, there are many prophetic traditions that deal with riba that highlight the affirmative evidence of the prohibition of riba already mentioned in the Qur’an  Learning Objective 1.2 Explain the historical Origins and Historical Overview of development and conceptual arguments of Islamic Banking and Finance Islamic banking and finance The history of Islamic finance is divided into two general aspects: The early days transactions The modern-day experiments  Learning Objective 1.2 Explain the historical Origins and Historical Overview of development and conceptual arguments of Islamic Banking and Finance Islamic banking and finance The early days transactions The Era of the Prophet The Period of Orthodox Caliphate (632 – 661 C.E.) Period of the Noble Companions and the Succeeding Generations The Umayyad and Abbasid Eras  Learning Objective 1.2 Explain the historical Origins and Historical Overview of development and conceptual arguments of Islamic Banking and Finance Islamic banking and finance The Era of the Prophet The prevailing modes of transactions during this era include: Shirkah (partnership) based on profit-and-loss sharing (PLS) Al qard Al hasan (benevolent loan) Salam (Forward) contract Sarf (exchange of money), i.e. gold for gold and silver for silver at the same sitting Ijarah (leasing) Trans-regional trade involved trade caravans from Mecca to Syria and vice versa  Learning Objective 1.2 Explain the historical Origins and Historical Overview of development and conceptual arguments of Islamic Banking and Finance Islamic banking and finance The Period of Orthodox four rightly-guided Caliphs: (632 – 661 C.E.) Abu Bakr Assidique (632 – 634) Failure of a segment of the Islamic state to pay the compulsory alms known as zakat. Umar ibn Al-Khattab (634 – 644) - Dramatic reforms in the economic policy of the state. - The introduction of a centralized and permanent Bait al- mal (the Treasury House) Uthman ibn Affan (644 – 656) The introduction of the first Muslim coins Ali ibn Abi Talib (656 – 661)  Learning Objective 1.2 Explain the historical Origins and Historical Overview of development and conceptual arguments of Islamic Banking and Finance Islamic banking and finance Period of the Noble Companions and the Succeeding Generations marked by: Building on the reforms introduced by the Prophet (PBUH) Tremendous increase in commercial interaction between merchants in the Islamic state and elsewhere Further development of fiqh (Islamic jurisprudence) Advanced economic reforms based on self-exerted judgment (ijtihad)  Learning Objective 1.2 Origins and Historical Overview of Explain the historical development and Islamic Banking and Finance conceptual arguments of Islamic banking and finance The Umayyad and Abbasid Eras Issuance of the first Islamic dirham (containing the crescent, the star, and bismillah) Shifting of the Treasury House to Damascus, capital of the Umayyad, where a bigger building was designated as Bait al-Mal The Treasury House still significant during the Abbasid period and Mamluk era The dinar and dirham still used as mediums of exchange  Learning Objective 1.2 Explain the historical Origins and Historical Overview of development and conceptual arguments of Islamic Banking and Finance Islamic banking and finance Modern-Day Experiments of Islamic Finance marked by: The Ottoman Empire’s fall resulting in fragmentation of Muslim nation into different countries Prevalence of interest-based banking and finance system Lack of awareness among Muslim communities across nations on whether to return to Islamic roots Experiments in Islamic finance in Egypt, Malaysia, and Pakistan: the basis of modern Islamic banking and finance  Learning Objective 1.2 Origins and Historical Overview of Explain the historical development and Islamic Banking and Finance conceptual arguments of Islamic banking and finance Timeline of Modern-day Experiments of Islamic Banking and Finance from 1962 to 1975 Initial Reforms in the Banking Industry in Pakistan in 1962 Mit Ghamr Local Savings Bank in Egypt of 1963 (“the first modern-day trial of Islamic baking”) The Malaysian Pilgrims Savings Board, Tabung Haji of 1969 (managing savings of prospective pilgrims by investing in Sharī’ah- compliant investments) The Founding of the Islamic Development Bank (IDB) in 1975  Learning Objective 1.2 Explain the historical Origins and Historical Overview of development and conceptual arguments of Islamic Banking and Finance Islamic banking and finance The functions of the IDB are: To participate in equity capital and to grant loans To provide financial assistance to member countries To establish and operate special funds for specific purposes To accept deposits and to mobilize financial resources through Sharī’ah compatible modes To promote foreign trade, especially in capital goods, among member countries  Learning Objective 1.2 Explain the historical Origins and Historical Overview of development and conceptual arguments of Islamic Banking and Finance Islamic banking and finance Dubai Islamic Bank (DIB) The first fully-fledged Islamic world commercial bank in 1975. Operates five main business groups: Retail banking Corporate banking Real estate Investment banking Proprietary trading investments  Learning Objective 1.2 Explain the historical Origins and Historical Overview of development and conceptual arguments of Islamic Banking and Finance Islamic banking and finance Timeline of Modern-day Experiments of Islamic banking and finance from 1962 – 1975 Figure 1.2: Timeline of Modern-day Experiments of Islamic banking and finance from 1962 to 1975  Learning Objective 1.2 Explain the historical Conceptual Arguments for Islamic development and conceptual arguments of Banking and Finance Islamic banking and finance The fundamentals of Islamic banking and finance business are: Interest-free Ethical Asset-based and asset-backed Partnership investment based on profit and loss sharing (PLS) between financer and entrepreneur  Learning Objective 1.2 Explain the historical The Development of Islamic Banking development and conceptual arguments of and Finance Industry Islamic banking and finance Emergence of the modern Islamic banking and finance industry in the 1960s Gradual expansion of the Asian markets between the 1980s and ‘90s Introduction of Islamic insurance (takaful) Introduction of project financing with the support of the IDB Introduction of sukuk (Islamic bonds) and equities markets in the 1990s Internationalization of Islamic banking and finance from the early 2000s  Learning Objective 1.3 Understand the Components of Islamic Banking and components and operating structures of the Islamic Finance Industry banking and finance industry as well as the process of development of Islamic finance products. The four major components of the Islamic banking and finance industry are: Islamic banking Takaful Islamic capital markets Islamic non-bank financial institutions These form the Islamic financial architecture and infrastructure  Learning Objective 1.4 Describe the current size Global Coverage of Islamic Finance and worldwide spread of Islamic banking and finance. Figure 1.6: Global Coverage of Islamic Finance