An Islamic financial system has the potential to redress the serious threat to global financial stability because of its fundamental operating principle of a close link between financial and productive flows and because of its requirements of risk sharing.Elimination of interest is the core of the Islamic financial system. Not only in Islam but in all the major religions of the world, interest has been regarded with contempt. Besides Islam, Hinduism, Judaism and Christianity have also tried to restrict the practice of interest in some way or other. Among Christians interest was severely condemned till the beginning of the industrial revolution. Judaism permitted exaction of interest only from non-Jews, whereas in Hinduism, Manu’s laws tried to put a limit on interest charged. Aptly pointed by a World Bank researcher, “The prohibition of interest is not limited to Islam as the first interest-free bank in documented history, Agibi Bank, was established in the pre-Islamic period circa 700 B.C. in Babylonia.”
Interest-based banking system, which now forms the foundation of the present day monetary system in the world, originated from the practices of goldsmiths who established the first modern bank in Europe. These goldsmiths initially began their services as safe-keepers of precious metals. Later on, receipts of these deposits started circulating among the public since these were mostly in bearer form, and more so they were accepted as payments for goods and services. Thus, these receipts became the earliest form of ‘bank money’. Since goldsmiths were also involved in financing and lending, it was convenient for them to issue receipts as proxies for gold or silver coins. This was of great advantage as receipts could be manufactured at almost no cost, whereas by lending the receipts the interest charged would remain as revenue. Thus, credit creation came into practice and the foundation of modernday banking was laid. Over the years, as the need of capital for the industrial revolution increased, goldsmiths started establishing banking institutions/companies. The modus operandi of such institutions was to accept deposits from the public (purchase) at a lower price and lend the same (sell) at a higher price and pocket the difference (spread). |
