INTEREST-FREE BANKING
1.Context
State Bank of Pakistan (SBP) and the National Bank of Pakistan (NBP) would withdraw the appeals it had earlier filed in the Supreme Court against the Federal Shariat Court’s (FSC) order to replace the conventional banking system with an interest-free one that would fulfill the injunctions of Islam within five years
While the government had made significant progress towards developing an Islamic financial system between 2013 and 2018, it was unable to sustain the speed of transformation over the last few years
2.About Islamic Banking
- Islamic banking refers to banking activity that confirms to laws and values laid down by Islamic law or Sharia.
- The basis of Islamic finance is the rejection of usury (the levying of unreasonable high-interest rates) while lending money, along with the requirement that there must not be any engagement with immoral businesses.
- Interest-free banking is a narrow concept within this system that denotes the number of banking operations that avoid interest.
- Riba is the Islamic term for interest charges on loans, and according to the current interpretation, covers all interest, not just excessive interest.
- Under Islamic law, a Muslim is prohibited from paying and accepting interest on a predetermined rate.
- As per Islamic banking, money can only be parked in a bank without interest and cannot be used for speculative trading, gambling, or trading in prohibited commodities such as alcohol or pork.
- Riba is the Islamic term for interest charges on loans, and according to the current interpretation, covers all interest, not just excessive interest.
- Under Islamic law, a Muslim is prohibited from paying and accepting interest on a predetermined rate
3.How Islamic Banking Works
- Various instruments are available for those who want to take credit from a Sharia-compliant bank.
- In an Ijarah contract, a bank purchases the asset on behalf of the client and allows its usage for a fixed rental rate. After a mutually agreed time, the ownership of the asset is transferred to the client
- In this financing technique, an asset is purchased by the bank at a market price and sold to the customer at a mutually-decided marked-up cost. The client is allowed to repay in installments.
- Musharaka refers to a joint investment by the bank and the client. Under the agreement, an Islamic bank provides funds, which are mixed with the funds of the business enterprise and others. The bank and the client both contribute to the funding of an investment of purchase and agree to share the profit or loss in agreed-upon proportions.
4.Federal Shariat Court’s (FSC) ruling
A three-judge bench of the FSC said that Riba in all its forms was prohibited by Islam, and asked the government to replace the conventional banking system with an interest-free one by December 31, 2027.
5.About Federal Shariat Court’s (FSC)
Established in 1980 during the government of General Muhammad Zia-ul-Haq, the FSC has the authority to determine whether Pakistan's laws comply with the Sharia.
The FSC gave the verdict this April after the Supreme Court had referred the case back to a religious court for its reconsideration in 2002 after the FSC in 1922 held Riba to be repugnant to Islam
While directing the government to establish an interest-free banking system and facilitate all loans accordingly, the FSC also stated that all forms of interest, either in banking or private transactions, are considered Riba, and thus against the teachings of Islam
6.Interest-free banking in India
A committee headed by Raghuram Rajan, a report submitted to the government in 2008 suggested the need to have interest-free banking in India.
“The non-availability of interest-free banking products (where the return to the investor is tied to the bearing of risk, in accordance with the principles of that faith) results in some Indians, including those in the economically disadvantaged strata of society, not being able to access banking products and services due to reasons of faith.
This non-availability also denies India access to substantial sources of savings from other countries in the region
The Reserve Bank of India (RBI) in 2016 suggested that given the complexities of Islamic finance and various regulatory challenges involved, Islamic banking could be gradually introduced through the opening of an "Islamic window" in conventional banks
