Abstract
Having developed a framework of virtues and business ethics in previous chapters, this chapter discusses the application of the ethical framework to Islamic economics and finance. An in-depth analysis of risk sharing, materiality, social and economic justice, and governance aspects of Islamic economics and finance are provided, arguing that such a framework provides rich ethical standards and ensures finance that is responsible and good for the society. Ethics are embedded in the core principles of Islam and each rule prescribed has explicit or implicit ethical dimensions reflecting its adherence to core values and virtues. The chapter discusses the ethical dimensions of risk-sharing finance and highlights various features of Islamic finance such as materiality, anti-fragility, stability, economic justice, and redistributive justice. These features address several ethical issues prevailing in global financial systems.
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Notes
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Kamali (2011). Gharar refers to elements of uncertainty in contracts that expose one or both of the contracting parties to risk. Gharar can also be caused by doubt or ignorance of one or both of the parties over the existence, quality, deliverability, or other material attributes of the subject matter of contract . The question whether risk taking in transactions amounts to gharar often depends on its scale and magnitude.
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The starting point of the risk-sharing feature of Islamic finance is verse 275 of Chapter 2 of the Qur’an, particularly the part of the verse that declares contract of Al-Bai’ permissible and that of Al-Riba nonpermissible. Arguably, these few words can be considered as constituting the organizing principle—the fundamental theorem as it were—of the Islamic economy. Much has been written by Muslim economists about this verse. As an example, Dr. Abdul Halim Ismail presented a comprehensive paper in this context in 1989. He chose to rely on well-known interpreters of the Qur’an on this verse, as well as on verse 282 of Chapter 2 and verse 29 of Chapter 4. After presenting the views of the interpreters, Dr. Ismail then gave his own hermeneutics, i.e., his personal-professional view, of the verses based on interpretations. The result was the following conclusions: (a) Al-Bai’ is a contract covering all types of exchange except those prohibited by the Shari’ah; (b) in this contract “a given quantity of a commodity or service is exchanged for a given quantity of a commodity (including money) or service”; (c) the delivery of a commodity being exchanged can be spot or deferred; (d) both Al-Bai’ (contract of exchange) and Al-Tijarah (contract of trade) “connote contract of exchange” and are synonymous; (e) the spectrum of contracts of exchange covered include cash sale at one end and mudharabah and musharakah at the other; (f) in between are salam sale, sale on order, leasing, cost plus, and deferred sale (Ismail 1989, p. 22, 33, 38, 42).
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Mirakhor (2004) argues that the second set of instruments is used to redeem the rights of the less able in the income and wealth of the more able. These are not instruments of charity, altruism, or beneficence. They are instruments of redemption of rights and repayment of obligations.
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Borrowed from Muslims and known as commenda in Western Europe, mudharabah became quite popular as means of financing long-term trade and investment (Mirakhor 1983; Al-Hassani and Mirakhor 2003; Udovitch 1970); Lopez (1976) suggests that there is a consensus among medieval historians that the commenda was of the highest importance and contributed greatly to the fast growth of trade and investment which led to economic change and growth in Europe. Commenda’s contribution to industrial development of Ruhr Valley in Germany and in building railroads in Europe was particularly pronounced.
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In order to fit into this framework, financial intermediation and banking in the Islamic financial system (and more generally in a risk-sharing system) has been proposed as having two tiers. The first is a banking system that accepts deposits for safekeeping without accruing any return and requiring 100 percent reserves, thus protecting the payment system of the economy while concurrently limiting the credit-creating ability of the banking system and thus obviating the need for a deposit guarantee, as in the conventional fractional reserve system. The second tier is an investment component that functions as a classical financial intermediary, channeling savings to investment projects, and where deposits in investment banks are considered as equity investments with no guarantees for their face value at maturity and subject to the sharing of profits and losses. Depositors are investors in the pool of assets maintained by the bank on the assets side of its balance sheet.
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Kamali (2011).
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See Reinhart and Rogoff (2009).
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See M.U. Chapra, “What Is Islamic Economics,” Islamic Development Bank Winner’s Lecture Series No. 9, Jeddah, Saudi Arabia (1996, pp. 25–26).
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It is important to compare and contrast the discussion of justice in the economic discipline and in Islam. Whereas the former looks at various dimensions and concepts of justice as a systemic phenomenon, i.e., allocations, exchange, market, distribution system, the latter considers them to be first and foremost as part and parcel of an individual’s adherence to and implementation of the “rights” of others. There is a specific right for every dimension of individual’s behavior. As a member of a family, as an employer/employee, as a member of a community, there are rights for the individual and there are rights for all those with whom the individual interacts. One of the earliest sources of Islam in which these rights are systematically cataloged and defined is the of Imam Zain ul Abedeen who lists 47 rights.
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It may be argued that the concept of value-matching structure is consistent with the marking-to-market process, which underlies the fair value accounting rules set forth by the Financial Accounting Standards Board and the organized exchange of futures contracts .
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In addition to automatic recapitalization, the resolution plans according to which too-big-to-fail financial institutions would, under certain conditions, liquidate themselves in an organized manner without precipitating widespread panic and increasing systemic risk are consistent with the notion of contingent claims. The so-called living wills define the terms under which liquidation can take place and facilitate, to some extent, the convergence toward the completeness of contracts .
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Reference can be made to the study by Avdjiev et al. (2013) for an interesting discussion about the structure, issuance, and pricing of contingent convertible-capital instruments.
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Boatright (2002).
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Considering the fact that several of the “renowned” corporate leaders involved in the current financial crisis are graduates of top academic institutions in the USA, including the Harvard Business School, a national discussion has started to review academic programs. Schools have also started to make one course in corporate responsibility a requirement for graduation.
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Iqbal, Z., Mirakhor, A. (2017). Ethical Dimensions of Islamic Economics and Finance. In: Ethical Dimensions of Islamic Finance. Palgrave Studies in Islamic Banking, Finance, and Economics. Palgrave Macmillan, Cham. https://doi.org/10.1007/978-3-319-66390-6_5
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