Islamic banking vs the Islamic way of banking

Rethinking Islamic banking to embody its intended spirit. As an Islamic banking practitioner, I have heard bankers and non-bankers alike share their perception of what Islamic Banking is. After listening to these diverse views, it reminds me of a story called "The Blind Men and the Elephant".

By Ali Allawala, Chief Executive Officer, Standard Chartered Saadiq Malaysia 

The story goes that a group of blindfolded men were asked to touch an elephant and describe what it looks like. The one who touched the elephant’s trunk described the elephant as a rope, while the other who touched the elephant’s leg described it as a tree. Each man had a different description, because each of them had only touched one part of the animal.

In the same way, Islamic banking has also been compartmentalised based on each persons’ different experience of it. Some describe it as “interest free banking” whereas others explain it as a form of banking where only the “underlying structure should be Shariah-compliant”.

While these are all important elements, however they do not reflect the true spirit. So instead of having another debate on what Islamic banking is, let’s look at the “Islamic way of banking”, one which goes beyond definition and touches upon the spirit of Islamic finance.

Universality of Islamic finance

First, we must not think of Islamic banking for Muslims only. Islamic finance is universal as it attempts to promote ‘Real Economy’ and create, through a financial system, a society with equitable distribution of wealth and prosperity.

Countries that have been able to achieve higher growth, lower unemployment, greater investment, with an equitable distribution of wealth, have certainly achieved one of the intended outcomes of Islamic finance.

Thinking beyond products and structures 

Islamic banking practitioners use various structures such as musharakah (partnership), murabaha (trading on cost-plus-profit basis) in order to avoid ‘Interest’ which is not permissible in Islam.

Let’s take a pause to understand why interest is forbidden. This is because as per Islamic principles, money is not a ‘commodity’, but rather a ‘medium of exchange’. Since it is a medium of exchange, money therefore cannot be sold at a price higher than its face value, or rented out. Profit should therefore be earned through “real economic activities” such as trading, earning fees for providing services, etc., thereby contributing towards greater development and prosperity.

So, by using these structures to avoid interest, has the transaction or product truly become Shariah-compliant? Some may say it has, but this would be akin to defining Islamic banking as interest-free banking only, which is a very restrictive definition.

The Islamic way of banking is embodied in giving equal emphasis to other aspects of business dealings such as transparency, full disclosure of defects, zero exploitation, and fair treatment of the customer. Also showing compassion towards debtors who are not able to repay due to genuine reasons such as loss of employment or financial calamity. We need to show consideration in such cases and work out an arrangement with the client based on humanitarian grounds until the client can repay.

So, unless and until we also comply with these requirements, we will not adhere to the Islamic way of banking. This signifies the wider scope of Islamic banking which goes beyond product structures. 

Differentiating Islamic banking 

Islamic banking is at a cross-road today. While it has come up with products that are Shariah compliant, however its contribution to the society or ‘real economy’ is almost the same as conventional banking.  So, if the Islamic way of banking is supposed to be more transparent, and considerate towards debtors, then shouldn’t it also offer a more favourable experience to the client?

The array of Shariah compliant products we have today were developed in the last 15 to 20 years. In its’ race to catch up to conventional banking, Islamic product developers ‘replicated’ conventional products. The result: Two products with different underlying structures, but essentially the same client experience.

As the product development race with conventional products is now almost over, Islamic banks need to differentiate itself in terms of client experience and align it with the true spirit of Islamic way of banking. 

All stakeholders, including regulators, have a part to play in creating this mindset change. There should be a concerted effort to develop a financial model which generates ‘real economic activity’ by creating a participative model of investing in viable business ventures, protecting rights of investors and depositors, and provide opportunities for small businesses and entrepreneurs to access capital. Bank Negara Malaysia’s Value Based Intermediation initiative is an encouraging step in this direction. It aims to do banking beyond profit, and focus on activities that create a positive impact on economy, society, and the planet. 

We need to adopt a more holistic approach to Islamic banking by focusing on its intended purpose and create a differentiated client experience. Only then we will be able to appreciate the universal nature of this financial system that aims to create real economic prosperity with equitable wealth distribution. So, the next time you hear anyone talking about Islamic banking as interest-free banking, think about the story of "The Blind Men and the Elephant"!

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