4(a) Money, Banking and Investment

At this stage it is perhaps desirable to throw some lights on the concept of money, banking and investment in Islam.

Concept of Money and its Role

In Islam money is viewed as a medium of exchange, not a commodity. The widespread acceptance of this role of money is intended to eliminate possibilities of injustice, unfairness and exploitation under the barter economy. Since injustices under the barter economy can, among others, be classified as Riba-al-Fazal which is prohibited in Islam, the role of money as medium of exchange is justified. Therefore,
in Islam money does not in itself produce anything. As such interest (Riba) on money lending and borrowing is prohibited.
Once the role of money as a medium of exchange is recognised, money can play its role as a unit of account and as a store of value in an Islamic economy. It can very well serve as a measure of opportunity cost (i.e., foregone income).
At a theoretical level, abolition of interest and imposition of 2.5 percent annum Zakah levy on idle money are most likely to disco urge speculative motive for holding cash, thereby contributing stability in the value of money. This is not to suggest that stability of money depends only on abolition of interest and imposition of Zakah. It depends on other endogenous factors such as level of business activity, level of expected profit, commercial banks’ ability to respond to economic incentives as well as exogenous factors such as the control of the Central bank.
Nevertheless, absence of interest and presence of Zakah levy puts an Islamic economy in a better position to handle the problem of unfair speculation and hoarding of money, thereby enabling money to perform its other derivative functions in an easier way. This does not mean that Islamic economy does not need a sound monetary policy. Because there is still a controversy as to whether central banks should have the sole authority of money creation in an Islamic economy or whether the commercial banks should also be allowed to create money by credit.

Money as a Medium of Non-Exchange

In an Islamic economy money has a special social and religious role to play. Because, it provides the best measure for channelling purchasing power in the form of transfer payments to the poor. The trasfer payments has its special religious significance in an Islamic economic society. Because in Islam it is not merely a voluntary obligation on the part of the Muslims but also compulsory obligations particularly in respect of payment of Zakah by the rich to the poor. The religious significance of the role of money lies in the fact that it enables us to calculate Nisiib and to assess exactly the rates of Zakah. Under the money economy, it is relatively easy to assess one’s exact contribution in respect of one’s intra-family and community obligations particularly where there is no end-product available for bartering. The point is that a scale of Islamically justified way of channeling transfer payments can be laid down more effectively under the money economy.

Islamic Banking and Investment

As noted earlier, in Islam money does not in itself produce interest or profit and is not viewed as a commodity. Since riba (i.e., interest) is prohibited, the status of the Islamic bank in relation to its clients is that of partners, investors and traders whereas in commercial banks in the West, the relation is that of creditor or debtor.
In its actual operation Islamic banks use various techniques and methods of investments such as Mudarabah contract under which financiers provide capital and the Mudareb (labour partner) provides his technical know-how and skill and the profit is shared between the partners according to agreed percentage. Islamic banks are also involved in Murabaha (cost plus) contract under which banks purchase a certain commodity according to its clients’ specifications and gives delivery on the basis sharing agreed ratio of profit. Under Musharaka, both the banks and the clients enter into partnership by contributing capital in varying degrees and agree upon a ratio of profit in advance for a limited period of time gradually. The bank draws its contributions once the enterprise can stand on its own footing. Islamic banks are also involved in dealing with foreign exchange markets and other banking service operations such as letters of credit, and letters of guarantee. Islamic banks may also provide various non-banking services such as trust business, real estate and con-sultancy services.
It is to be noted here that Islamic financial market can provide a built-in-stabilizer to investment based on different types of financial instruments derived from Musharaka, Mudaraba and Murabaha concept. Besides, the cost of investment being the function of rate of return is likely to be less prone to speculative gains rather than capital gains.