Note from the editor

Note from the editor

Article Type: Note from the editor From: International Journal of Islamic and Middle Eastern Finance and Management, Volume 2, Issue 1

In this first issue for 2009, we are introducing a new feature in our journal. Subsequent to an exchange of views among editors, it has been decided to accept brief comments, technical notes, and comments on papers previously published.

The piece below is the first to fall within this category. Starting from this issue, it is thus the journal’s policy to welcome any such brief notes or comments. All contributions of this kind will be reviewed in the normal fashion.

Editor

Islamic finance: commodity murabaha remains in the lurch: note

The year 2008, recorded some elating developments in the area of Islamic finance worldwide. The size of Shari’ah compliant assets rose to around $500 billion. The market share of Islamic Financial Institutions stood, it is estimated, at 12 percent in Malaysia and at 17 percent in the six GCC countries where it is currently expanding much faster than anywhere else. Some leading rating agencies believe that the market potential of Islamic financial services is close to $4 trillion, of which no more than 10 percent has so far been realized (Al-Amine, 2008, p. 1). The current financial meltdown is diverting global attention to Islamic finance as a better and safer alternative. Thus, the future of Islamic finance looked bright at the turn of the year.

However, one seldom comes across rose-beds without thorns. And, the worrisome thorn pinching the side of Islamic finance that attracted much attention in 2008 was the legality of commodity “murabaha.” The lurch on the issue may prove of consequence for the future development Islamic finance more than any other factor. This brief note analyses what in fact ails commodity murabaha and what can be done to remedy the situation.

Commodity murabaha is one of the most commonly used financing technique in Islamic banking, including sukuks. It falls in the same generic category of uqud al-mu’awadhat or exchange contracts that covers all types of transactions that Islam allows. However, first Sheik Muhammad Taqi Usmani (2008, p. 13) declared early in the year that most of the murabaha-based sukuks issued in the market defied Islamic norms. On the heels of this pronouncement came some court decisions involving deferred contracts going against Islamic banks in Malaysia. The developments have put the common man in a quandary; it is being increasingly asked: does commodity murabaha violate Islamic norms? The answer is: in principle it does not. Commodity murabaha falls in the same generic category of uqud al-mu’awadhat or exchange contracts that covers all types of transactions Islam allows.

In exchange contracts, a given quantity of one commodity is traded for a given quantity of another commodity, including money. The money value of a commodity is called its price. The delivery of a commodity and the payment of price may be simultaneous, i.e. on the spot or the obligation of one of the parties may be deferred to a future date. Commodity murabaha belongs to the deferred contracts’ group. A client may, for example, request his bank to purchase a car for him on a cost-plus basis. Cost here refers to the cash payment for the car the bank makes to the dealer, and “plus” implies the addition of a profit margin the customer agrees to allow the bank for late payment. We find that the arrangement per se does not contain any element of interest (Halim, 2001).

Islam does not grant a time value for money in contracts if money were exchanged for money; that is the whole basis for banning interest. However, the addition to cost or mark-up in commodity murabaha is allowed on the ground that “time has a share in price” (lil zamani hazzun fil thaman). Indeed, it is this juristic pronouncement that constitutes the justification for allowing the deferring of obligations in Islamic contracts. Even the courts may not have thrown out the cases alluded to above on pure juridical basis; the structuring of contracts was probably to blame. It follows that the causes of current discomfiture have to be sought elsewhere.

We do not have to travel far. One finds the reason made explicit by Sheikh Taqi Usmani in his paper alluded to above He wrote:

Undoubtedly, Shari’ah supervisory boards, academic councils and legal seminars have given permission to Islamic banks to carry out certain operations that more closely resemble stratagems than actual transactions. Such permission, however, was granted in order to facilitate, under difficult circumstances, the figurative turning of the wheels of those institutions when they were few in number [and short of capital and human resources]. It was expected that Islamic banks would progress in time to genuine operations based on the objectives of an Islamic economic system and that they would distance themselves, even step by step, from what resembled interest-based enterprises. What is happening at the present time, however, is the opposite. Islamic financial institutions have now begun competing to present themselves with all the same characteristics of the conventional banks, interest-based market place, and to offer new products that march backwards towards interest-based enterprises rather than away from them. Oftentimes these products are rushed to the market using ploys that sound minds reject and bring laughter to enemies (Emphasis added).

The statement is an eye-opener. It ends out the message that the jurists of all shades and levels must realize what injury one may inflict on the Islamic positions if interpretations of the facility principle are stretched to allow tempting strategies on the presumption that they would be reversed after serving their purpose. This is like opening the proverbial cork to let the jinn out to do miracles but only to lament later that it is hard to put the monster back into the bottle. Efforts are needed and are indeed being made to avoid juridical divisions that have had begun to surface.

Presumably, the bank managers too eager to expand the market fast also contributed to the lapse on the Shari’ah front. Islamic finance is no longer seen by common people much different from other businesses operating in the economy.

The Islamic economic system has social implications related to economic development, especially for the fulfillment of basic needs and achieving distributional equity. Islamic banking operations are not contributing much to these goals; they are essentially guided by profit considerations. Admittedly, profit is important, rather imperative, but cannot be the sole criterion in evaluating their performance. Like mainstream banks, they too are found diverting the savings of those at the lower rungs of society to the richer classes. In addition, the distribution of earnings between the owners of banks and the depositors, especially the smaller ones, is skewed in favor of the former (Hasan, 2009).

Commodity murabaha contracts may not individually defy the Shari’ah norms, but their overwhelming use is worrisome. Naturally, debt transactions dominate the scene at the cost of real economy. The use of deferred contracts seems to have already been carried too far. Of late, even Zeti, the illustrious governor of Bank Negara Malaysia, has advised Islamic banks to curb the temptation of using fixed return transactions. Presumably, it is time to apply the principle of saad-al-dharai that closes the potential avenues for circumventing the Shari’ah, more so its objectives and spirit. It is not the permissibility of murabaha contracts per se but their indiscreet use and faulty structuring – guaranteeing in many cases not only a fixed profit rate bench marked on interest but also the return of the principal through buy-back provisions – which is fueling the perception that Islamic banks are providing cover to the taking of interest from the back door.

It would certainly help if Shari’ah scholars are given a thorough – not superficial – instructions and training in mainstream economics and finance. Indeed, Islamic finance needs scholars well-versed in both areas – Shari’ah and finance. Currently we find economists in the field having comparatively better understanding of Shari’ah requirements than jurists have of economics, especially of macroeconomic analysis and policies. Until such dual experts become available it may help avoid pitfalls if competent economists are put on advisory boards.

Zubair Hasan

INCEIF: The Global University in Islamic Finance,Kuala Lumpur, Malaysia