In order for genuine riba-free banking reforms to be introduced, the first step should be to define what riba is and to properly understand why it was prohibited by God in His law. It is only after a proper understanding of riba is established that we can actually implement the true letter and spirit of it. If a correct definition of riba is not established, the process undertaken for eliminating it would be unable to achieve the real purpose of the project.
There are essentially three views on what constitutes riba: the conventional view, the modernist view, and the third view. The conventional view considers even a penny that is charged by the lender from the borrower over and above the principal amount as riba. The modernist view considers only an exorbitant rate of interest charged by a lender from a desperately needy borrower as riba. The third view considers demanding anything over and above the real value of loan as riba when the arrangement binds the borrower to do so even when he is incurring losses.
It is the conventional view on the basis of which the modern-day Islamic Banking is functioning. The view is neither textually accurate nor practically justifiable. It is because of this reason that the proponents of it are unable to answer properly questions raised regarding its understanding nor have they been able to run the banking system strictly in accordance with its own principles. Moreover, the system of banking that has been established in the light of its recommendations makes sure that a group of religious scholars decree what is acceptable to Islam in the banking operations and what is not while the bankers and common people are left either to meekly accept their verdicts or to remain sceptical about Islam’s ban on riba.
Among the questions that conventional definition of riba is unable to answer is the justification of returning to the lender the very same face value of the amount a borrower had received even when the amount returned is only a fraction of the real value of the one borrowed. The example of the case where Islamic banking’s theory and its practice are at odds with each other is the case of arguably the most revenue generating product of this form of banking: Murabahah. When a loan is given on the principle of Murabahah, the borrower has to pay a definite increment over and above the value of loan he has borrowed no matter whether he makes profits or runs into losses. Because he has technically purchased a product and not borrowed a loan, however, the arrangement is able to get away with the possibility of it being categorized as riba. But what practically happens is no different from any loan arrangement the conventional banks offer except for the fact that the interest, euphemistically described as mark-up, charged by Islamic banks is at a higher rate.
The modernist definition of riba on the other hand takes a position whereby they contend that low rate of interest that doesn’t exploit the borrower but enables him instead to get the much needed funds that help him in establishing or growing his business is not prohibited by the Qur’an. It’s a virtue, they say, and insist that it should be promoted as an unmistakable blessing by Muslims because of the enormous contributions it helps in promoting the economies of individuals and societies. Riba prohibited by the Qur’an in their opinion is the interest which is charged at an exorbitant rate and is often charged in a way that it is compounded too. The act of charging interest at a high rate is often referred to as usury and compounding of it as anatocism.
The third view defines riba as a fixed charge over and above the value of the principal amount under all circumstances. In other words, this view requires that real value of the loan should be returned to the lender and not the nominal face value of it. Moreover, it also contends that if the loan agreement has the following condition, it is not riba: The borrower is only obliged to pay to the lender anything over and above the principal value of the loan when he has made enough profits, and in case of low profits and losses, he shall not be obliged to pay anything. The fact is that it is the third definition of riba which appears not only consistent with the Qur’anic text and the explanations available in the ahadith, it also seems to be practically more workable too than the conventional understanding of the first view.
“The article was published at dailycapital.pk on 08-MAY-15. We are reproducing here by permission”