PLS vis-à-vis DST in Islamic Banks (IBS) in Bangladesh

Several research findings confirm that DST transaction, especially Mura­baha, heavily dominates IBS’ financing in Bangladesh and very little recourse has been made to use PLS approach.

Quite consistent with the above findings, a recent study of Islamic Banking Institute demonstrates that that predominance of Murabaha financing in the portfolio management of investment funds and the utilisation of ‘interest rate as a criterion for fixing the profit margin’ by IBS of Bangladesh have sparked widespread outcry.^[547] One of the major unresolved problems lies within the Murabaha framework is the ‘tech­nique’ of financing based on a fixed and assured return, and IBS have been nurturing ‘interest’ in its substance under the pretext of a different name by only changing the nomenclature of their transactions.^[548] The most controversial aspects of Murabaha, is ‘mark-up’ which has become a common financing practice to raise capital.

Mark-up, as endorsed in Murabaha is realised by IBS through a predetermined fixed instalment to be paid by the client over a specific period of time. More fundamentally, the rate of return that gets fixed beforehand is excessive - normally more than the prevailing interest rates charged by their conventional analogues, and is recovered via a deferred­payment method. This prefixed return along with the resulting total payment and their interconnectedness with the wealth creation resemble the characteristics of interest-based transactions practiced by the conven­tional banks, which essentially contradict and disrespect the divine values of Shari’ah. Any form of interest is prohibited in Islam because of, inter alia, to discourage exploitation, undue accumulation of wealth and sustain a system accommodating social development and ethical stand­ards. The proponent of Murabaha, however, contends:

The particular nature of the Mudaraba and Musharaka is a threat to banking... A bank cannot finance in an equal chance of making profit or losing capital because it is, after all, a financial intermediary and is engaged in banking business with depositors’ money. Moreover, the deposit is payable on demand so it is protected by a banking safety-net, and besides, banks are under obligation to safeguard depositors’ money.^[549]

By upholding this, Chapra argues that Murabaha is different from the conventional interest-oriented banking transactions on a series of accounts.^[550] Firstly, in Murabaha transaction the bank purchases the asset in reliance on an agreement, and then resells it (real asset) to the same client consistent with Shari’ah which requires ‘ownership’ to be obtained in order to give effect to any sales transaction. Secondly, in between these two transactions the Bank assumes certain risks, for example, a sudden fall in price may convince the client to change its decision or there may be a delay in payment due to unexpected circumstances.

Despite the third point having some merits, for several reasons, the above remaining claims cannot be sustained from a Shari’ah point of view. The first claim fails to satisfy one of the core requirements of selling asset: the seller must own and possess the asset being sold. That is, the asset in question must be in physical possession of the bank before its sale to the client. The bank never possessed this asset in between the two transactions and therefore all the theoretical connections to the asset as claimed are illusory in practice. Although Justice Taqi Usmani recommends that even though there should be a gap between purchasing the commodity and selling it to the customer, in practice, ‘there is no gap... the bank makes the payment almost simultaneously or even after the goods are delivered at the premises of the client’.^[554]

The second - regarding potential risks undertaken by the bank - does not have a substantive basis either; since no interim period practically exists in between the two transactions as mentioned, the bank does not actually assume any risk ‘including even the risk of the goods’.^[555] Even if that is sustained, from another important angle this claim can also be refuted; Murabaha is essentially a sales contract between the parties^[556] which is legally enforceable. The risks are always highly leveraged (in favour of the seller, i.e., the financier) with all possible strong/legal terms included in the respective contractual arrangements.

4.2 When the Seller shall have purchased Supplies, the Purchaser shall be absolutely, unconditionally and irrevocably obliged to purchase such Supplies from the Seller and to pay (a) all sums as mentioned in the Acceptance relating to such Supplies and (b) all other sums expressed or agreed to be payable hereunder in respect of such Supplies, in all cases notwithstanding any defect, deficiency or any loss or any other breach of any Supply contract relating thereto by the Supplier or any other matter or thing whatsoever.^[557]

More relevantly, these conditions were enforced by the court against the buyer (client); the Court in Islamic Investment Company of the Gulf (Bahamas) Ltd. v. Symphony Gems N.V. & Ors observed that ‘delivery of goods is not a prerequisite to recovery by the seller of the relevant instalments of the sale price from the purchaser’.^[558] Even in the ‘event of a failure of delivery, the court holds, the defendant remains under the obligation to pay the purchase price’.^[559] This simply illustrates how risks are recognised and remedied in Murabaha transactions in favour of the seller (the bank).

Moreover, under the legal presumption of any commercial agreement, for example, the burden of proof always lies with the claimant.^[560] Thus if such an instance of refusal arises (by the client) after the first transaction, it is the client who needs to prove that it did not intend to buy the asset from the bank. Thus it appears illogical to accept that the bank takes the exclusive risk and cannot enforce the agreement in case of the client’s subsequent refusal to buy the asset from the bank. Instead, the bank gets a return at a pre-determined fixed rate without taking any effort and risk; this is clearly unacceptable (especially when they are doing Islamic business) and more importantly, is in violation of Shari’ah. For any transaction to have a reward under Shari’ah is required to take the corresponding risks as well.^[561] Shahid Siddiqui maintained:

It does not appeal to the mind that by simply assuming some risks by banks in financing through murabaha and the like during ‘shifting of stocks’ from the godown of the seller to the entrepreneur (party availing finance from the bank) which can also be practically avoided and ensuring a fixed return on financing while not sharing in the operational losses of the entrepreneur, which is the essence of Islamic banking, the objectives of the Shari’ah are met.^[562]

The fourth, the client does not have a choice but to agree the bank’s fixed rate simply because he/she could not afford to buy the asset on his/her own but genuinely intends to be submissive to the divine spirit of Islam.

In regards to the second part - the determination of the price of the good or service sold - and how this is made. Understandably, the price is calculated based on a predatory and irrational assumption about the asset’s capacity of producing higher future value which is essentially uncertain in principle. In such a case, the client bears the exclusive risk, unlike the bank, as it remains indecisive how much value/prospect the asset would generate in future. Hence it is a sale ‘of an uncertain gain for a certain gain’ that epitomises a speculative sale which is forbidden in Islam,^[564] and is exploitative in essence despite the fact that the deal was agreed upon.

Nicop-Swartz considered a Murabaha transaction ‘two sales in one’ which is also prohibited in Islam. By referring to Imam Malik, he quoted:

Imam Malik wrote in his Muwatta: ‘Yahya related to me from Malik that he had heard that the Messenger of Allah, may Allah bless him and grant him peace, forbade two sales in one sale.’^[565]

These apart, a few issues and the resulting consequences of this trans­action need to be resolved, which include: whether mark-up is allowed in Shari’ah; how fair is this agreed fixed and excessive rate; whether this excessive rate is conducive to promoting social and religious dimensions upon which IBS are premised.

Inevitably, the mark-up as entrenched in Murabaha is interest in substance, galvanising a back door to institutionalise its practice and to reproduce the similar effect with extended returns and security.^[566] Aqdas Ali Kazmi, who has researched the standpoint of Islamic jurists on mark-up during the past three decades, concludes, ‘[in] its operations, structure and use, mark-up resembles interest...

Nijatullah Siddiqui comments on ‘mark-up’:

I would prefer that Bai' Mu'ajjal is removed from the list of permissible methods altogether. Even if we concede its permissibility in legal form, we have the overriding legal maxim that anything leading to something prohibited stands prohibited. It will be advisable to apply this maxim to Bai’Mu’ajjal in order to save interest-free banking from being sabotaged from within.^[569]

Pakistan Council of Islamic Ideology, considered mark-up a ‘crude trading practice’ approved by some religious scholars (under specified conditions) but seriously condemned by others, and its general use as a technique of financing must never be allowed as it ‘does not differ in essence from the interest system’.^[570] The similar view has been reflected in a judicial decision in which the Supreme Court of Pakistan held:

The major condition for the permissibility of a mark-up transaction is that it should not be charged on lending or advancing money.... By not even gradually enhancing the financing on PLS basis, the basic philosophy of Islamic banking seems to be totally neglected by the Islamic banks.^[571]

One of the reasons for the imposition of strict prohibition on the interest by Shari’ah is to ensure unqualified adherence to Islam as it demands by restricting the imbalance creation and distribution of wealth and advanc­ing social welfare. Accordingly, profits can only be legitimatised if it involves some proportionate risks. In Murabaha as discussed IBS not only consumes profit without virtually taking any risk but also imposes excessive burden (even more than the conventional banks) on the client. This is not only in breach of Shari’ah but also goes against the core principle of fairness and ethics especially when IBS end results are ideologically embedded to this. This is unfair because IBS’ return becomes secured and multiple via the extensive and unyielding use of Murabaha, which contributes neither to eradicating injustices arguably entrenched in the interest-based system nor to furthering socio-economic justice in the society as mandated by Shari’ah.^[572] Rather, it exacerbates the disadvantaged situation of the client in important ways. It is observed that:

To begin with, what murabaha does is that it replaces interest with mark-up... this puts it at a great disadvantage vis-à-vis the interest based conventional finance in circumstances where payment of interest on home finance for the purpose of income tax are deducted. Second, In comparison to conventional home finance where it requires only one transfer of property, murabaha requires two.... Stamp tax, public notary fees, and registry therefore end up being paid twice. As if that is not enough, the mark-up which is included in the price of that particular home facilitates a substantial increase of price at the second sale transaction and consequently a proportional stamp tax increase.^[573]

In particular, there are convincing arguments that there is no difference between IBS and conventional banks in regards to financing social aspects. Both are reluctant to extend credit facilities in favour of the underprivileged who need them most; it is the corporate giant who is empowered to seize both of their services because of its privileged position.^[574] Nevertheless, in case of IBS, it is more blameworthy because they are operating in order to achieve the true economic objectives of Islamic finance. Furthermore, their current transactions through Mura­baha ‘resulted in persons being burdened with a debt far in excess of what it would have been, had they taken conventional interest-based loans’.^[575] Khaled Qasaymeh argued ‘Islamic normative rules always intertwine ethical obligations with the compulsory obligations’ that encourages empowering of the disadvantaged through an equitable distri­bution of wealth, eliminating poverty and ensuring social prosperity; yet a significant shift from PLS to Murabaha derails IBS from their social purposes and renders their functions questionable.^[576] In the 1990s, Homoud stated that IBs must avoid exceeding the prevailing interest rate and exploiting the clients.^[577]

Despite these intense criticisms IBS continues to take recourse to a widespread and persistent use of Murabaha mode in financing invest­ment. On the other hand, the system to which they are officially embedded ‘stands for the furtherance of religious and social goals involving... economic development, the alleviation of poverty and maximise profit’, and advancement of a just society free from exploit­ation and unfairness. If this conflicting scenario continues to progress unabated different stakeholders will not only lose confidence in the whole system but also question the foundation - that is, IBS’ genuineness towards Islam which would be much more detrimental and insulting. El-Gamal observed:

Islamic finance as it functions bears ‘little resemblance’ to PLS upon which it was constructed. ‘Instead, a fast-growing industry is built on medieval ruses, with which contemporary financial practices are reproduced at a higher cost - to be borne by the industry’s captive market of Muslim clients.^[578]

Hence a genuine activism is urgently required to rescue the whole financial system from these anomalies and embarrassment and save the users from being financially and religiously deceived, and the sooner the better. Sincere attempts to revive PLS with new vigour and progressive devices may yield positive results. Many Islamic jurists have already echoed this by providing relevant policy recommendations.^[579] It is how­ever, important to acknowledge that PLS may produce a series of indisputable risks and even losses;^[580] yet these are common to all business transactions and some of PLS challenges can be remedied via short, medium and long-term financing or ‘investing in highly liquid, and low return equities’.^[581] This mere fact therefore should not deter IBS from pursuing their true economic goals especially when they are consensually and theoretically outfitted and committed to promote spiritual morals of Islam. Moreover, if the PLS-calculation (reached by its inherent risk factors) is not matched with the IBS’ plans, then the plans should be abandoned altogether instead of striving for the other whose credibility and authenticity has been seriously questioned. And inevitably, this would be much more benevolent than fostering something under the disguise of Islam which is injurious to the religious spirit of Islam and exploitative in its application.

IV.