FACULTY OF ACCOUNTANCY
MAT402 BUSINESS MATHEMATICS
BASIC ISLAMIC BANKING CONCEPT &
COMPARISON BETWEEN CONVENTIAL AND ISLAMIC BANKING
PREPARED BY :NUR AMIRAH BINTI ABDUL WAHAB
PREPARED FOR :
PN. ZAMMARIYAH BINTI MUSTAFA KAMAL
DATE OF SUBMMISION :10 OCTOBER 2018
PREFACE BASIC ISLAMIC BANKING CONCEPT COMPARISON BETWEEN CONVENTIAL AND ISLAMIC BANKING CONCLUSION REFERENCES
This assignment has been prepared to write a report about information of Islamic Banking in order to gain a knowledge about this topic. This report also include a basic Islamic Banking concept and comparison between the Conventional and Islamic Banking.
Doing this assignment report has been helped us to get more understanding about the basic Islamic Banking concept and comparison between Conventional and Islamic Banking system.
BASIC ISLAMIC BANKING CONCEPT
Islamic banking is a finance management system that is based on the Islamic rules of Sharia. The main concept of the Islamic banking is ”a financial institution whose status, rules and procedures expressly state commitment to the principle of Islamic Shariah and to the banning of collection of interest, receipt and payment of interest on any of its operations”. Banking in Islam is a saving money framework that depends on the standards of Islamic law, additionally known as Shariah law, and guided by Islamic financial matters. Dr Shawki Ismail Shehta viewing the concept from perspective of an Islamic economy and the prospective role to be played by an Islamic bank therein opines that “It is therefore, natural and, indeed, imperative for an Islamic bank incorporate in its functions and practices commercial investment and social activities, an institution design to promote the civilized mission of an Islamic economy.” Dr. Ziaul Ahmed also says, “Islamic banking is essentially a normative concept and could be define conduct of banking in consonance will the ethos of the value system of Islam.”
It appears from the above definitions that Islamic banking is a system of financial intermediation that avoids receipt and payment of interest in its transactions and conducting operations in a way that it helps achieving the objectives of an Islamic economy. Alternatively, this is a banking system whose operation is based on Islamic principle transactions of which profit and loss sharing (PLS) is a major feature ensuring justice equity in an economy.Banks earns profit from participating in economy, by sharing risks and rewards through pricing of goods, service and benefits which is that is why Islamic banks are often known as PLS-banks. The remuneration it receives is justified either by its status as co-owner, to the results of the project financed (losses or profits) in provision of marketing or leasing of property previously Acquired by it in the case of a Mudharabah, an Idjar (Leasing) or a Salam, or, finally, by the manufacture / construction of movable or immovable property by it or by third parties, In the case of an Istsina’a (contract of work) .
Islamic banking concepts have an indistinguishable reason from traditional managing an account aside from that it works as per the guidelines of Shari’ah, known as Fiqh al-Muamalat. Banking in Islam as an account exercises must be polished reliable with the Shari’ah and its pragmatic application through the improvement of Islamic financial aspects. A significant number of these standards whereupon banking in Islam is based are regularly acknowledged everywhere throughout the world, for quite a long time as opposed to decades. These standards are not new but rather their unique state has been changed throughout the hundreds of years. Hence Islamic Banking is said to be done when the internal processes, procedures and financial transactions are in compliance with the rules prescribed by Qur’an and Hadith. Whereas, the basic concept on which the conventional banks are operating is “interest” in Sharia’ah, it is known as”usury”. The element of Interest is present in Fixed Deposit, Saving Deposit and every Loan related product. Which helps in growing capitalist system of economy based on riba (interest), maisir (Gambling), and Gharar (uncertainty) is not allowed in Islam on any transaction and is strongly condemned which is followed by serious consequences in the life and hereafter.
Conventional banking is essentially based on debtor-creditor relationship between depositors and the bank in the one hand and between the borrowers and the bank on the interest is considered as the price of credit, reflecting the opportunity cost of money. Islam, on the other hand, considers loan to be given or taken, free of charge, to meet contingency and that the creditor should not lake any advantage of the borrower. The money is lent out on the basis of interest, more often it happens that it leads to some kind of injustice. The first Islamic principle underlying such kinds of transactions is that “deal not unjustly and ye shall not be dealt with unjustly”. Hence, commercial banking in an Islamic framework is not based on debtor-creditor relationship.
The second principle regarding financial transactions in Islam is that there should not be any reward without risk-taking. This principle is applicable both to labor and capital. As no payment is allowed to labor unless it is applied to work, no reward for capital should be allowed unless it is exposed to business risks.
Thus, financial intermediation in an Islamic framework has been visualized on the basis of the above principles. Consequently financial relationships in Islam have been participatory in nature. Several theorists suggest that commercial banking in an interest-free system should be organized on the principle of profit and loss sharing. The institution of interest is thus replaced by a principle of participation in profit and loss. That means, a fixed rate of interest is replaced by a variable rate of return based on real economic activities. The distinct characteristics which provide Islamic banking with its main points of departure from the traditional interest-based commercial banking system are: (a) the Islamic banking system is essentially a profit and loss sharing system and not merely an interest-free (Riba) banking system; and (b) investment (loans and advances in conventional sense) under this system of banking must serve simultaneously both the interest of the investor and those of the local community. The financial relationship as pointed above is referred to in Islamic jurisprudence as Mudarabah.
Conclusion, The preceding discussion makes it clear that Islamic banking is not a negligible or merely temporary phenomenon. Islamic banks are here to stay and there are signs that they will continue to grow and expand. Even if one does not subscribe to the Islamic injunction against the institution of interest, one may find in Islamic banking some innovative ideas which could add more variety to the existing financial network.
COMPARISON BETWEEN CONVENTIONAL AND ISLAMIC BANKING
Conventional Banking System Islamic Banking System
Money is a product besides medium of exchange and store of value Real Asset is a product. Money is just a medium of exchange
Time value is the basis for charging interest on capital Profit on exchange of goods ; services is the basis for earning profit
The expanded money in the money market without backing the real assets, results deficit financing Balance budget is the outcome of no expansion of money
Interest is charged even in case, the organization suffers losses. Thus no concept of sharing loss Loss is shared when the organization suffers loss
While disbursing cash finance, running finance or working capital finance, no agreement for exchange of goods ; services is made The execution of agreements for the exchange of goods ; services is must, while disbursing funds under Murabaha, Salam ; Istisna contracts
Due to non existence of goods ; services behind the money while disbursing funds, the expansion of money takes place, which creates inflation Due to existence of goods ; services no expansion of money takes place and thus no inflation is created
Due to inflation the entrepreneur increases prices of his goods ; services, due to incorporating inflationary effect into cost of product Due to control over inflation, no extra price is charged by the entrepreneur
Bridge financing and long term loans lending is not made on the basis of existence of capital goods Musharakah ; Diminishing Musharakah agreements are made after making sure the existence of capital good before disbursing funds for a capital project
Government very easily obtains loans from Central Bank through Money Market Operations without initiating capital development expenditure Government can not obtain loans from the Monetary Agency without making sure the delivery of goods to National Investment fund
Real growth of wealth does not take place, as the money remains in few hands Real growth in the wealth of the people of the society takes place, due to multiplier effect and real wealth goes into the ownership of lot of hands
Due to failure of the projects the loan is written off as it becomes non performing loan Due to failure of the project, the management of the organization can be taken over to hand over to a better management
Debts financing gets the advantage of leverage for an enterprise, due to interest expense as deductible item form taxable profits. This causes huge burden of taxes on salaried persons. Thus the saving and disposable income of the people is effected badly. This results decrease in the real gross domestic product Sharing profits in case of Mudarabah and sharing in the organization of business venture in case of Musharakah, provides extra tax to Federal Government. This leads to minimize the tax burden over salaried persons. Due to which savings ; disposable income of the people is increased, which results the increase in the real gross domestic product
Due to decrease in the real GDP, the net exports amount becomes negative. This invites further foreign debts and the local-currency becomes weaker Due to increase in the real GDP, the net exports amount becomes positive, this reduces foreign debts burden and local-currency becomes stronger
One of the main selling points of Islamic banking, at least in theory, is that, unlike conventional banking, it is concerned about the viability of the project and the profitability of the operation but not the size of the collateral. Good projects which might be turned down by conventional banks for lack of collateral would be financed by Islamic banks on a profit-sharing basis. It is especially in this sense that Islamic banks can play a catalytic role in stimulating economic development. In many developing countries, of course, development banks are supposed to perform this function. Islamic banks are expected to be more enterprising than their conventional counterparts. In practice, however, Islamic banks have been concentrating on short-term trade finance which is the least risky.
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