Islamic Finance

Background Currently in Kenya there has been introduction of semi-pure system of Islamic banking by financial institutions such as First Community Bank and Dubai Bank Kenya ( in receivership). This explains why Islam in finance is important in the new world. The fact that in commercial law KADHIS Courts are properly entrenched is also an important fact.

Islamic finance refers to the means by which corporations in the Muslim world, including banks and other lending institutions, raise capital in accordance with Sharia, or Islamic law. It also refers to the types of investments that are permissible under this form of law.

Islamic banking is a type of banking or banking activity that is consistent with the principles of sharia (Islamic law) and its practical application through the development of Islamic economics. Under the principles of Islamic law, wealth must be generated from legitimate trade and asset-based investment. Also, investments must have a social and ethical benefit. In islam speculative investments are disallowed and muslim faithful are discouraged from engaging in forbidden trade, like selling of alcohol, pork, pornography and betting. These transactions are termed haraam. As of 2014, sharia compliant financial institutions represented approximately 1% of total world assets.By 2009, there were over 300 banks and 250 mutual funds around the world complying with Islamic principles and as of 2014 total assets of around $2 trillion were sharia-compliant. According to Ernst & Young, although Islamic Banking still makes up only a fraction of the banking assets of Muslims, it has been growing faster than banking assets as a whole, growing at an annual rate of 17.6% between 2009 and 2013, and will grow by an average of 19.7% a year to 2018. While secular historians and Islamic modernists see Islamic Banking as a modern phenomenon or "invented tradition", revivalists like Mohammed Naveed insist it is "as old as the religion itself with its principles primarily derived from the Quran".An early market economy and an early form of mercantilism, sometimes called Islamic capitalism, was developed between the eighth and twelfth centuries. The monetary economy of the period was based on the widely circulated currency the gold dinar, and it tied together regions that were previously economically independent. A number of economic concepts and techniques were applied in early Islamic banking, including bills of exchange, partnership (mufawada, including limited partnerships, or mudaraba), and forms of capital (al-mal), capital accumulation (nama al-mal),cheques, promissory notes,(Muslim traders are known to have used the cheque or ?akk system since the time of Harun al-Rashid (9th century) of the Abbasid Caliphate), trusts (Waqf),transactional accounts, loaning, ledgers and assignments. Organizational enterprises independent from the state also existed in the medieval Islamic world, while the agency institution was also introduced during that time. Many of these early capitalist concepts were adopted and further advanced in medieval Europe from the 13th century onwards. In theory, Islamic banking is an example of full-reserve banking, with banks achieving a 100% reserve ratio. However, in practice, this is not the case, and no examples of 100 per cent reserve banking are known to exist. In Kenya for example First Community Bank's liquidity in 2014 was 29.6% as per audited accounts. Principles of Islamic finance

a) Riba/usury This literally means excess or addition. This is interest out of money investment. As a consequence of the laws regarding the generation of wealth, it is strictly forbidden to use money for the purpose of making money - i.e. it is forbidden to charge interest (riba). Financial institutions cannot therefore make money by charging interest, but instead provide services for a fee or enter into a form of agreement with the client in which the risk and the profits or losses are shared between the institution and the client. Like the financial institution invests your money then you share the outcome of the investment.

b) Islamic financial instruments The following are some of the Islamic instruments available: i) Murabaha This is Islamic mortgage.This is a form of credit sale, where the customer receives the goods but pays for them later on a fixed date. However, instead of charging interest, a fixed price is agreed before delivery - the mark-up effectively including the time value of money. This is basically a concept of hedging for the financial institution to get some returns as the customer is safeguarded against imminent loses. ii) Ijara This is leasing, where the lessee pays rent to the lessor to use the asset. Depending on the agreement, at the end of the rental period the lessor might take back the asset (operating lease) or might sell it to the lessee (a finance lease- Ijara-wa-Iqtina). Whatever the agreement, the lessor remains the owner of the asset and is responsible for maintenance and insurance, thus incurring the risk of ownership. The lesee only exercises possession. iii) Muduraba This is similar to equity finance, or a special kind of partnership. The investor provides capital and the business partner operates the business. Profits are shared between both parties, but all losses are attributable to the investor. If capital is shared so are the loses. iv) Musharaka Islamic banks lend their money to companies by issuing floating rate interest loans. The floating rate of interest is pegged to the company`s individual rate of return. Thus, the bank`s profit on the loan is equal to a certain percentage of the company`s profits. Once the principal amount of the loan is repaid, the profit-sharing arrangement is concluded. v) Sukuk This is debt financing (Islamic bonds). Sukuk must have an underlying tangible collateral, and the holders of the Sukuk certificates have ownership of a proportional share of the asset, sharing revenues from the asset but also sharing the ownership risk. An example may be where the financial institution purchases a property financed by Sukuk certificates and rents it out at fixed rent. The certificate holders receive a share of the rent (instead of interest) and a share of the eventual sale proceeds. The Sukuk manager is responsible for managing the assets on behalf of the Sukuk holders (and can charge a fee). The Sukuk holders have the right to dismiss the manager. There can be a secondary market as with conventional debt (the purchase and sale of certificates on the stock exchange) it is currently very small. Most Sukuk are bought and held - virtually all of any trading is done by institutions.)

Islamic laws on trading The Qur`an prohibits gambling (games of chance involving money). The hadith, in addition to prohibiting gambling (games of chance), also prohibits bayu al-gharar (trading in risk, where the Arabic word gharar is taken to mean "risk" or excessive uncertainty). The Hanafi madhab (legal school) in Islam defines gharar as "that whose consequences are hidden." The Shafi legal school defined gharar as "that whose nature and consequences are hidden" or "that which admits two possibilities, with the less desirable one being more likely." The Hanbali school defined it as "that whose consequences are unknown" or "that which is undeliverable, whether it exists or not." Ibn Hazm of the Zahiri school wrote "Gharar is where the buyer does not know what he bought, or the seller does not know what he sold." The modern scholar of Islam, Professor Mustafa Al-Zarqa, said that "Gharar is the sale of probable items whose existence or characteristics are not certain, due to the risky nature that makes the trade similar to gambling." Other modern scholars, such as Dr. Sami al-Suwailem, have used Game Theory to try and reach a more measured definition of Gharar, defining it as "a zero-sum game with unequal payoffs" There are a number of hadith that forbid trading in gharar, often giving specific examples of gharhar transactions (e.g., selling the birds in the sky or the fish in the water, the catch of the diver, an unborn calf in its mother`s womb etc.). Jurists have sought many complete definitions of the term. They also came up with the concept of yasir (minor risk); a financial transaction with a minor risk is deemed to be halal (permissible) while trading in non-minor risk (bayu al-ghasar) is deemed to be haram. What gharar is, exactly, was never fully decided upon by the Muslim jurists. This was mainly due to the complication of having to decide what is and is not a minor risk. Derivatives instruments (such as stock options) have only become common relatively recently. Some Islamic banks do provide brokerage services for securities trading. Islamic financial institutions take different forms. They may be; 1. full-fledged Islamic financial institutions (for example Islami Bank Bangladesh Ltd, Meezan Bank in Pakistan); 2. Islamic windows in conventional financial institutions (for example: HSBC, American Express Bank, ANZ Grindlays, BNP-Paribas, Chase Manhattan, UBS, Kleinwort Benson, Commercial Bank of Saudi Arabia, Ahli United Bank Kuwait, Riyad Bank 3. Islamic subsidiaries of conventional financial institutions (Citibank subsidiary Citi Islamic Investment Bank (Bahrain), Union Bank of Switzerland subsidiary Noriba Bank. Financial accounting standards The Accounting and Auditing Organization for Islamic Financial Institutions (AAOIFI), has been publishing standards and norms for Islamic financial institutions since 1993. By 2010, it had issued "25 accounting standards, seven auditing standards, six governance standards, 41 shari`ah standards and two codes of ethics."The standards issued by AAOIFI are mandatory for Islamic financial institutions in Bahrain, Sudan, Jordan and Saudi Arabia, and recommended for other Muslim countries and Islamic financial institutions, like Kenya, according to Muhammad Akram Khan. Established in Algiers in 1990, its original name was Financial Accounting Organization for Islamic Banks and Financial Institutions(FAOIBFI). It later moved its headquarters to Bahrain. Individual countries also have accounting standards. The Institute of Chartered Accountants of Pakistan issues Islamic Financial Accounting Standards (IFAS) and guidelines. International regulations of Islamic finance The IMF has formed the interdepartmental working group with the objective to show its preparedness to accept and regulate Islamic banking. This group is supposed to advice and work with key stake holders to have rules and regulations as far as Islamic banking is concerned. The IMF has also come up with the External Advisory Grouyp comprised of standard setters for Islamic finance and leading international experts to assist in identifying policy issues to enhance coordination with different stake holders interested in Islamic finance. Each country has also its own regulations as far as Islamic financial business is to be conducted. This purely explains how this banking is special and fundamental in the whole world. The "most prominent" research and training institutions, exclusively devoted to Islamic economics and finance, according to Muhammad Akram Khan are as follows: ? Islamic Economic Institute, previously Islamic Economics Research Centre, and before that International Centre for Research in Islamic Economics, King Abdul-Aziz University, Jeddah, (Saudi Arabia) ? Islamic Research and Training Institute (IRTI), Islamic Development Bank (IDB) Jeddah, (Saudi Arabia) ? School of Islamic Islamic Banking and Finance, previously International Institute of Islamic Economics, Islamabad, (Pakistan) (IIUI), ? Institute of Islamic Banking and Insurance, London (UK) ? International Centre for Education in Islamic Finance (INCEIF), Malaysia ? Islamic Finance Training, Kuala Lumpur ? Islamic Finance Academy, Dubai ? Centre for Islamic banking and Finance Training, Kuala Lumpur ? Institute of Islamic Finance, London (UK) ? Islamic Finance Advisory and Assurance Services, Birmingham (UK) ? Islamic Finance Institute of South Africa ? Centre for Islamic Finance of Bahrain, Institute of Banking and Finance (BIBF) ? Centre for Banking and Financial Studies, Qatar

CONCLUSION Islamic finance is a fundamental subject in modern finance. As old as the Quran as some Islamic scholars claim, Islamic finance or Sharia compliant finance is concerned there is need to research more and create awareness to the whole world as IMF is currently doing. Christians should not feel it as a threat but a positive ideology to integrate with normal trading.