‘ASSET BACKED’ PRINCIPLE IN ISLAMIC FINANCE AND BANKING

One of the key differentiator between Islamic and conventional banking is that in Islamic banking money is not a commodity to be bought and sold at profit. In Islamic Finance Money has no Intrinsic value of its own and is only used as a means of exchange.

You cannot sell or exchange USD 1 for USD 1.5 or lend 1million Ghanian Cedis to get back 1.5million Cedis as this will lead to Riba. Money does not beget money.

You might by now be asking; how then do Islamic banks operate and remain profitable? To answer the question, we shall today discuss the Asset Backed principle in Islamic Finance and Banking.

To bring our discussion into perspective, we shall start by looking at the Hadith found in Sahih Muslim where the Prophet ﷺ said; ‘gold for gold, silver for silver, wheat for wheat, barley for barley, dates for dates and salt for salt; like for like, equal for equal and hand to hand; if the commodities differ, then you may sell as you wish, provided that the exchange is hand to hand’. End of quote

The hadith indicates that exchange of the mentioned items should be in the same measure and an increase in their exchange is Riba. For example the exchange of 1gram of gold should be 1gram of gold and any exchange of 1 gram of gold and 1.5gram of gold is not allowed. Any unequal exchange of the homogenous items mentioned here is Riba.

One can however exchange Gold and Silver in whichever measures one would like and it would not be referred to as Riba so long as it is done hand for hand, the exchange can be done between a Shilling and a Dollar in any given measure provided that it is done hand for hand so as to avoid Riba.

How Is The Hadith Applicable In Banking Today?

Contemporary scholars, among them the International Islamic Fiqhi Academy (Majma’ Al Fihi Al islami Adauliy) have agreed unanimously that Dinar (gold) and Dirham (silver) can be equated to the today’s currencies and what applied to gold and silver also applies to the today’s currencies.

It therefore means that the exchange of dollar and dollar must be equal, or the exchange of cedi and cedi must be equal, the exchange of Dirham and Dirham must be equal, the exchange of shilling and shilling must be equal and any unequal exchange of the same is tantamount to Riba.

It is allowed to exchange 100 US Dollar for 1 Tonne of Wheat, or 1,000 US Dollars for a Tonne of Dates, A Dollar for a kilo of Salt and a Dirham for 2kilos of Barley. In other words we are allowed to have an asset backed transaction so as to avoid the money on money transactions which is prohibited in Shari’ah unless the exchange is at par value. Who would do that kind of business of exchanging at par?

Allah in Quran chapter 2 verse 275 warns those who devour Riba and also confirms that he has permitted trade and forbade Riba. In the verse and also in sharia the word ‘bai/bay’ is used.

The verse reads in part; ‘… Those who consume interest cannot stand on the Day of Resurrection except as one stands who is being beaten by Satan into insanity. That is because they say, “Trade is just like interest.” But Allah has permitted trade and has forbidden interest…’

In the verse, Allah is categorical that he has permitted trade where the exchange is between a currency (price) and a commodity of trade (asset) e.g. a US Dollar for a Tonne of barley and forbade Riba which is the exchange of money and money (currency for currency) at profit.

In Islam, trade is not only permitted but highly encouraged, Al suyuti mentioned in Al jami’ Assaghir, a hadith on the authority of Rafi’ that: The prophet ﷺ was asked: ”Which are the best forms of income generation? He (ﷺ) replied. “A man’s labour, and every legitimate sale”. End of quote.

A valid trade is concluded in Islam if the seller and buyer exchange an offer and acceptance. The offer and acceptance must specify the object of sale and the price, and they both agree.

This is outlined in Quran Chapter 4 verse 29 which reads; ‘O you who believe! Eat not up your property among yourselves unjustly except it be a trade amongst you, by mutual consent..’. The is also mentioned in a hadith of the Prophet ﷺ where he said ‘I shall meet Allah before I give anyone something owned by another without his consent, for a trade requires mutual consent’. End of quote.

Any financing conducted through valid trading by mutual consent is permissible.

Because of the avoidance of Riba creeping into banking, contemporary jurists recommended number of principles (of Islamic Finance) to be adhered to in order to effect a Shari’ah compliant transaction/sale, one of them being that the transactions have to be asset backed.

The asset backed transactions are effected through a shari’ah compliant contract such as Murabaha so as to seal all the loopholes that might allow the infiltration of Riba/usury. Islamic banks cannot therefore engage in business of lending a dollar for more dollars but in that of buying and selling goods and service to its clients at profit.

In Murabaha for instance, if you wish to borrow USD 10,000 for purchasing a car, an Islamic bank will purchase the car from the vendor and sell the same to you at profit to be paid on differed payment over the agreed period of time. Allah has permitted trade.

We shall look at each and every Islamic financial contracts in our subsequent articles in shaa Allah.

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