Shari’a is the foundation of the Islamic finance industry. It differentiates the industry with conventional finance. But the replication of products creates substantive issues for the industry. The industry fails to recognise that law has the power to influence behaviour. In this article, we explore the concept of law and how it is pivotal in creating a defined culture.
That the Islamic financial industry is growing is seen by exponents to be a reflection of the support for the principles and products of the industry. It highlights both increased religious sensitivities of the people along with an acknowledgement that the industry has the products to meet the needs of a discerning clientele.
That the Islamic finance industry is growing is not providing detractors any comfort. The industry is as capitalist as the interest-based financial system, its substantive values are the same, the difference is only terminology (and even then some would argue we should change product names to their English counterparts). The never-ending form vs. substance debate plagues the industry but it is not destroying the industry. It is just benign tumor: frustrating, not debilitating.
That the Islamic finance industry is growing is good, or is it? The industry is only 40 years old; it could have furnished any model it wanted, but it chose this model, and it is this model that is flourishing. It is a model where clients, bankers, lawyers, marketing managers and Islamic scholars butt heads and form a unified opinion which meets the objective of each. For the banker and client, it is profit; for the market manager it is revenue; for the Islamic scholar it is Shari’a complicity, and for the lawyer, it is simply the harmony of client needs with regulatory requirements.
So what is the contemporary Islamic finance model? For all the many laws and products, fatwas and industry standards, the fundamental premise is simple: if the Prophet Muhammad was present today, these are the rulings he would have passed.
“Indeed, following his demise all juristic activity in Islamic law is about empathising with the Prophet, attempting to think what his opinion would have been for any given situation.”
This is hardly an easy feat; there is bound to be disagreement on the legislative intent of the Prophet. Thus Islamic finance, like Islamic law as a whole, has been confronted with differences of opinions. Nevertheless, there is much the industry does agree upon allowing there to be a unifying bond between most Islamic financial scholars.
Even so, transposing the opinions of a 7th-century legislator to the 21th century is wrought full of uncertainty. Contextual (and temporal) differences make it difficult for the Islamic scholar living many miles and years from desert Medina to empathise completely. What is harder is providing a Shari’a opinion for new phenomena. A mistake is to assume that an opinion on new phenomena that has no precedent during the time of the Prophet is part of the Shari’a. Today’s banking and finance sector is completely novel and unique. Contract practiced at the time of the Prophet, such as mudaraba, are different to that is practiced today. For one thing, the former was used for single projects, whereas today’s mudaraba can be used to fund multiple projects. The best scholars can do is to relate principles.
In addition to this Shari’a engineering, we hear of the industry being ethical and an alternative to the conventional financial industry. Emphasising the ethical element presupposes the capitalist system is unethical, a quite damning statement for a sector that is operational in every country in the world and remains in demand despite concerns. There are undoubtedly unethical elements in banking and finance, but its universality shows its strength. People willingly go to banks for their financial requirements and are generally satisfied. To boast of being an alternative, the industry proclaims that its offerings are substantively different. This does not appear to be the case. For example, businesses wishing to build capital can access bank loans or sukuk. Both instruments ultimately place the business in a position of debt.
Even though the industry is currently not substantively different, it is attractive because scholars deem that products and services are Shari’a complaints. In other words, products and services are those that the Prophet, as legislator, would have accepted if he had been present today. As it is, the derivation of the law is assumed to be an objective task, without being mired by the subjectivities of the scholar and fully connected to the canonical sources of Islamic law: the Quran and the Sunnah. In consequence, the law, by having this connection has more immediate power than the effect of the law. Hence, strange decisions have been proffered in which validation for the legal opinion comes from tenuous links to the source. As one example, the 33% threshold for debt to equity ration in stock screening methodologies derives from a hadith on inheritance and perhaps one on culinary habits. The link is fallacious.
The formalist approach – relying exclusively on the Quran and Sunnah – towards law originates from the thought of Imam Shafi, who was committed to ensuring that the subjective opinions of the scholars were minimised. But this could not always be maintained, and thus scholars relied on concepts of maslaha (public benefits) or darura (necessity) to show that the Shari’a had the power to adapt to changing exigencies. This is the instrumental approach. In Islamic finance both approaches are used and through their utilisation, substantive values of the law are conveyed. Any form of law carries and confers a set of values which imbues itself in the law and spreads in the action that is commanded, or in the absence of an action that is prohibited. Islamic finance is no different, but the substantive values of the law appear to be very similar to that of the conventional financial service sector. This is forgotten and could be detrimental for the industry in the long run.
LAW AS A POWER TO SHAPE BEHAVIOUR
Returning to the original question, what is the contemporary Islamic financial model, the answer is that today’s model of Islamic finance is one rooted in the Islamic sources but shaped to meet the needs of a capitalist mentality. The term, capitalism, is casually used in the Islamic finance industry and is considered as a negative. Generally, detractors of capitalism are quick to deplore it, slow to offer any alternative. They shout inequality, while probably working in a capitalist organisation. Capitalism is to do with the private ownership of land, labour or capital. Its opposite would be state ownership. By owning the factors of production, a private organisation profits off what it owns. Thus, the capitalist mentality of a person is to profit off that which they own.
The financial sector exists to allocate money. They help an individual or business to gather money in order to 1) transact for day-to-day needs; 2) be secure in emergencies; 3) speculate for profit;
4) spend charitably. The Islamic finance industry attempts to encourage the fourth, but this is more of an afterthought especially as very few, if any, commercial enterprise is preoccupied with profiting in order to disburse charitably.
Islamic finance uses a combination of the formalist and instrumental approach to the Shari’a, but as few if any 7th century law offers appropriate analogies in the 21st century, most of the laws in Islamic finance are in fact instrumental.
“So, if the Islamic finance industry upholds a capitalist mentality, then the Shari’a is its instrument to achieve this.”
This means the subjectivities of the Islamic finance scholars will affect the law passed. At this juncture, we turn to look to the concept of law in order to explain the impact of subjectivities on law. All laws exist to guide behaviour by rules. It is typically issued by a higher authority, which is usually the state. For religious laws, the authority would be God and His messenger. The state uses the law as a means to ensure order in society. Any descent into anarchy would weaken the state and create disunity. Creating order does not simple mean limiting violence; it also means justice and fairness prevails between citizens.
For political philosophers, the state is the natural evolution of men’s communal needs. Aristotle argues that the state commenced with individuals. Individuals create families. Numerous families create communities and numerous communities create the state. The objective of each group is to secure happiness, and the state’s objective is to ensure that each grouping under its authority achieves happiness. To achieve this happiness, each member of society should be virtuous, and the state, through the issuance of law, encourages the inculcation of virtue. Part of virtue is being just, and justice between members of society should be equal or it should be the consequence after one party has lost something in a transaction with another party.
However, the consent of virtue is going to reflect the substantive values of the ruling regime. Aristotle believed the regime could either function as an authority looking out for the best interests of the citizens, or it could look out for itself. Each regime has their own unique set of values, which would be reflected in the laws that were passed. Hence, there is an axiological unity between the regime, the laws passed and the overall morality of society.
In relation to making laws, these could be created by customary practice of different communities or enacted by the state. Aristotle opined that the best system is the former, where precedents are formed and these are utilised to determine similar cases. Here he is preempting the common law system used in the UK and former British colonies. In terms of the latter, this alludes to the passing of statutes. Statutes are passed either as a codification of customary law or to account for a new development. In light of the notion of separation of powers – the idea that a state should rule by dividing their authoritative powers into three independent organs: Executive (the power to administer a state); Legislature (the power to issue laws); and Judiciary (the power to adjudicate whether citizen has followed the law) – only the Legislature can pass laws. So, for any new phenomena a judge cannot promulgate law and must wait till new statute is ordained.
The judiciary, then, only has recourse to the customary and enacted law, and occasionally the facts may not fit the law. It is up to the judiciary to pull the law to the case. Aristotle gives the example of a law that makes it illegal to injure a person with an iron instrument. In a case, a man hits another, and on his hand is a ring made of iron. Should the man be prosecuted under this law? The literal meaning of the law would suggest yes, but intuition would suggest otherwise. In situations where the law is not exact – and these situations are many – then the judiciary has to place themselves in the shoes of the legislator, to think of the purpose of the law and what could be captured under it. In this case, rings were unlikely to have been captured by the legislator.
To summarise, law according to Aristotle:
- Passed to encourage virtue amongst citizens
- Reflects the substantive values of the regime
- Can be based on customary practices or enacted by the regime
- Interpreted by the judiciary who attempt to empathise with legislator when passing the law.
ISLAMIC FINANCE AND LAW
Returning back to our discussion on Islamic finance, there is no sovereign authority present. Law is traditionally assumed to emanate from the regime. Previous regimes can pass laws which still perdure long after the individuals within have expired. The same is true with Islamic finance. The Prophet passed a set of laws, many of which are still relevant today. However, regimes change and are considered to be the new legislative power. In theory legislative power always resides with the Prophet.
That is theory. In practice, legislative power shifts in each and every generation. To deal with new phenomena requires new thinking. It means that Islamic finance scholars in fact create law. To create the law, they should be influenced by the “regime”, which would be the Prophet. But once again this is not the reality given that there are many different parties in the product structuring process. One could argue that there is a constructed regime in Islamic finance. The bank, the client, the lawyer, the standard-setting bodies are all part of the regime that administers, passes laws and adjudicates. The values of all parties of the regime will be imbued in the products created.
Yet any law passed has to be anchored to Islamic law, and this leads to frequent conflicts due to the tenuous connection between pre-modern Islamic law to modern exigencies. The Islamic finance scholars will then have to empathise with the legislator, and the best way is to rely on the maqasid (the higher objectives of Islamic law). This has become a buzzword for Islamic law as a whole as it is seen as an interpretative method that divests from a slavish following of rules passed in a context different to the modern day. The maqasid endeavour originate with scholars searching by induction for purpose of laws. They aggregated the laws to find that Islamic law is to protect five things: Life, Religion, Lineage, Wealth and Intellect.
In situations where a direct law is not present or cannot be analogised from an existing text, considering the maqasid helps the Islamic jurists to pass law. So, with a lot of Islamic financial laws, they are to protect wealth. But, as mentioned above, the laws are there to also encourage a capitalist mentality – that is to make profits. There is thus a dual aim to the construction of Islamic financial laws.
A case in point is the perspective on interest and its dissimilarity from the profit rate on a murabaha. Exponents argue that interest-based products are like pork – haram is haram. But let us look at it in another way. Khamr or grape wine is prohibited; there is no mention of beer or marijuana. Yet scholars find the reason of the prohibition is due to the intoxication resulting from consuming these products. They use analogy to connect the prohibition to all intoxicants. With interest-based products, the notion is that paying extra on loan is not allowed. The difference with murabaha is that it is a trade base product, but parties appear to be in the same position as of parties in a loan transaction. There is debt, and the repayment looks awfully like interest. Scholars did not analogise the effects of interest-based products with other products, yet they did so with Khamr.
Now it is not the purpose of this article to criticise the judgements of scholars. It is to show that a certain thinking prevailed to distinguish between interest-based products and murabaha. Another mode of thinking could have focused on the effects, which would have meant that murabaha, as it is practised today, would not have existed. But it does exist, and indicates the values of the Islamic finance regime.
HEED THE WARNING
That the Islamic finance industry has grown is definitely good and impressive. But it has to be self-aware. The power of law to motivate behaviour is rarely considered, and it has to be conscious that if the products are imbued with values of capitalism, then the overall industry will reflect that. The consequence of this is the development of a culture which may regard as not being “Islamic”. At the very least, and at the very worst, the industry will continue to be accused of being similar to the conventional finance sector if it remains on its present trajectory. Thus, to argue that it is an alternative, without providing an alternative way of practicing with substantial differences in value, will become more difficult as Muslims become more affluent. The industry itself may grow impressively with the growing demand. However, if it does not reconsider the content of the laws, there is a real possibility that the problems that afflict the conventional financial services sector will damage Islamic finance.
