Shariah based financial system needs to be clearly distinguished from its conventional counterparts. Shariah based financial solutions can effectively promote itself only when it is seen as an alternative rather than a complement to the conventional banking system. To use transport as an analogy, Islamic and conventional banking should be seen as trains and cars and not as different brands of cars. The objectives are the same, i.e. to get from point A to point B but the mechanics, platform, driving methods, fuel system are different despite having some similarities.
So how does an Islamic bank differ from their conventional counterparts?
First and foremost is the basic principle. Shariah based banking is a built on trade and partnership whereas conventional banking is purely a lender-borrower arrangement. Therefore, the personnel in an Islamic bank must be trained towards managing a trade and/or business partnership relationship rather than that of a lender-borrower.
How different are the two relationships? When a lender lends, his objective to recoup the money lent plus a compensation for the opportunity cost, i.e. principal plus interest. Information on the utilisation of the funds is only for the purposes of obtaining credit approval and once the loan is approved, the lender plays no part in assuring the proper utilisation of the funds. The lender is only interested in getting back the loaned funds plus interest. Inability of the borrower to repay the loan will result in him losing his collateral and could even be slapped with late payment penalties.
On the other hand, when an Islamic bank enters into a trade or business partnership, the objective is to make a gain from the relationship but the gain is dependant upon the business and economic conditions. Unlike the lender-borrower relationship where the lender expects the funds to be returned regardless of the economic condition, an Islamic bank cannot demand the same. The bank has to work with the partner throughout the tenure of the relationship and any realised gains or losses are to be shared as agreed. If unfavourable economic conditions caused the venture to register lower returns or even losses; the Islamic bank cannot demand anything from the partner (unless it can be proven that the loss is caused by negligence of the partner). If the venture turns a loss, the partner should not be compelled to bear the loss alone but instead the bank should work together to recover or at least minimise the losses. The role of a Relationship Manager in an Islamic bank is wider; it also covers the role of active business partner.
Secondly, the credit evaluation process in an Islamic financial institution should not be identical to that of a conventional bank. The reason is simple; a conventional bank looks at credit from the perspective of the customer’s ability to pay whereas an Islamic bank looks at credit based on the viability of the business venture.
As with my other postings, the point I’m trying to drive through is that conventional banking and Islamic banking, despite its similar objectives, cannot be run on similar platforms. Islamic banking has to operate from its own platform, on its own terms. Unless it does, there is no point in its existence.
So how does an Islamic bank differ from their conventional counterparts?
First and foremost is the basic principle. Shariah based banking is a built on trade and partnership whereas conventional banking is purely a lender-borrower arrangement. Therefore, the personnel in an Islamic bank must be trained towards managing a trade and/or business partnership relationship rather than that of a lender-borrower.
How different are the two relationships? When a lender lends, his objective to recoup the money lent plus a compensation for the opportunity cost, i.e. principal plus interest. Information on the utilisation of the funds is only for the purposes of obtaining credit approval and once the loan is approved, the lender plays no part in assuring the proper utilisation of the funds. The lender is only interested in getting back the loaned funds plus interest. Inability of the borrower to repay the loan will result in him losing his collateral and could even be slapped with late payment penalties.
On the other hand, when an Islamic bank enters into a trade or business partnership, the objective is to make a gain from the relationship but the gain is dependant upon the business and economic conditions. Unlike the lender-borrower relationship where the lender expects the funds to be returned regardless of the economic condition, an Islamic bank cannot demand the same. The bank has to work with the partner throughout the tenure of the relationship and any realised gains or losses are to be shared as agreed. If unfavourable economic conditions caused the venture to register lower returns or even losses; the Islamic bank cannot demand anything from the partner (unless it can be proven that the loss is caused by negligence of the partner). If the venture turns a loss, the partner should not be compelled to bear the loss alone but instead the bank should work together to recover or at least minimise the losses. The role of a Relationship Manager in an Islamic bank is wider; it also covers the role of active business partner.
Secondly, the credit evaluation process in an Islamic financial institution should not be identical to that of a conventional bank. The reason is simple; a conventional bank looks at credit from the perspective of the customer’s ability to pay whereas an Islamic bank looks at credit based on the viability of the business venture.
As with my other postings, the point I’m trying to drive through is that conventional banking and Islamic banking, despite its similar objectives, cannot be run on similar platforms. Islamic banking has to operate from its own platform, on its own terms. Unless it does, there is no point in its existence.
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