It has become clearer than ever before that a major overhaul of the worldwide financial system is required. There has been no feasible long-term solution to the crisis, or a workable system for dealing with its ramifications and implications, from the viewpoints of both proponents and opponents of both government intervention and free market economies.
Maurice Allais, a Nobel Prize-winning economist from France, predicted the current global structural economic crisis and warned of its effects in 1988. It is his firm belief that the best way out of these crises is to implement structural reforms that go beyond simply managing the symptoms to developing an efficient monetary system that can actually avoid these crises from occurring in the future. The proposed approach relies on cutting the interest rate to 0% and increasing the tax rate by around 2%. As a side note, Islam prohibits interest (riba) and mandates all Muslims who have a net worth above their essential needs (Nisab) to pay Zakah (2.5 percent of the assets that have been owned over a year). Economically, Zakah is an important tool for Muslims to achieve social equality and fairness. In the past interest rates had been reduced to between 0% and 0.025%, and the desire for major tax reductions has been growing.
Islamic finance has the potential to become an alternative paradigm for the global system, according to a number of Muslim thinkers and practitioners. The following Islamic financial theory pillars serve as the foundation for their reasoning.
Ethical and socially responsible investments and affinity marketing are all part of the Islamic Finance paradigm. Muslims believe that the best way to ensure that future generations will prosper is to ensure fairness, social and economic justice and an unwavering commitment to protecting our planet's rich resources. Islam's philosophy of finance is based on the idea that wealth accumulation and distribution should not be prejudiced in favour of a wealthy minority at the expense of the poor majority, which is why Islamic financial principles are based on fairness, justice, and equality. The ultimate goal is to ensure that all people, regardless of where they live, have equal access to economic opportunity. It is a fundamental tenet of Islamic finance that payoffs and reward structures should be fair and equitable for everyone. Islam emphasises "moderation" in all facets of people's lives and demands that they live within their means. Every person has an obligation to ensure that justice is served to all, and that injustice is strictly forbidden for all. Muslims and non-Muslims alike are forbidden from committing acts of injustice, regardless of whether the victim is a Muslim or a non-Muslim.
The precepts of Islamic finance have potential as a viable alternative to the current global financial system, as discussed above in relation to the reasons of the current financial crisis. There are a number of reasons why Shariah-compliant banking is a good option. There must be a corresponding increase in the amount of money available in the economy in order to ensure long-term growth and a fair distribution of wealth. It is widely believed that a "return to some type of commodity [gold] currency peg" is necessary to reestablish money's worth and streamline its production in order to combat inflation. Due to excessive liquidity, massive deficits in fiscal and monetary policies, and central banks' efforts to limit excessive spending, interest rates are likely to rise to new heights as a result of the printing of trillions of dollars and other currencies without sufficient support.
There are a few exceptions to this rule, however, which have been officially prohibited (haram) by Shariah because of their detrimental and destructive ramifications. Conceptual Shariah-compliance, which states that Muslims' financial decisions should be guided by two basic rules, is an essential pillar in the Islamic banking business. Islam forbids Muslims from participating in or trading in any sort of interest-bearing, uncertain, or speculative financial transactions. This includes lending money to those who might lose their money in the future. Islam discourages and forbids Muslims to invest their money and time into illegitimate companies (haram). Alcohol, pork, drugs, gambling, conventional insurance, profiteering from war, and immoral entertainment are only a few examples of the kind of products and services that go against Islamic values.
Islam forbids the payment or receipt of a fixed return on loaned or lent money, in any form. In general, charging interest (riba) tends to make the poor poorer and the affluent richer without their doing any labor or incurring any risk. Another way that Riba contributes to economic growth is through creating wealth that isn't directly tied to an increase in commodity supply. To Muslims, this means that all interest-based financial agreements are immoral and morally abhorrent, and consequently all the money derived from them is regarded as a form of "unearned wealth." Intriguingly, all three great monotheistic religions (Judaism, Christianity, and Islam), as well as other ethical traditions like Buddhism and Hinduism, agreed that usury was an immoral and unethical activity.
To put it another way, the money generated by "rent-seeking behavior" like charging interest is not the lifeblood of markets, but rather new but fictitious capital. Trading, not banking, is the essential purpose of markets, and the essence of the market is entrepreneurship. Economic activity that generates fair and legitimate profit is encouraged by Islam, which strengthens the favourable relationship between financial flow and production. As a result, "Islamic finance is protected from the possible hazards coming from excessive leverage and speculative financial activity. Trillions of dollars have been lost from the global economy as a result of the present financial crisis. Some Muslim scholars have interpreted the financial disaster as a fulfilment of God's promise that "Allah will deprive usury of all blessing and will nourish actions of charity" (The Holy Qura'an [Al Baqarah] 2:276), citing the enormity of the financial crisis.
Because Islamic finance does not use interest-based transactions, the relationships between lenders and borrowers are best explained by looking at the PLS contracts. If you enter into a musharakah (partnership) contract, you're both sharing the risk (and potential rewards) and want to see the partnership arrangement through to its conclusion. This is known as the PLS principle.
Those who care about the ethical content of their financial transactions, regardless of their religious inclination, are more likely to favor Islamic finance since it encompasses so much more than the simple absence of riba. Many academics, political leaders as well as private investors are becoming increasingly concerned about the importance of corporate social responsibility, sustainability and morality. In contrast to Western debates on these issues, the Islamic ethical code of conduct includes them and they are regarded as important truths by observant Muslims.
"Woe to those who trade in fraud," says the Holy Qur'an (Al-Mutaffifin, 83:1), and Muslims are forbidden by Shariah law from participating in any transaction that might include fraud, dishonesty, exploitative practices, or ambiguity. Honesty is emphasized by the Prophet Mohammad (Peace be upon him, PBUH) when it comes to economic dealings. "If somebody sells a defective object without drawing notice to it, he/she remains under the wrath of Allah," the Prophet (PBUH) remarked, according to Ibn Majah. Many Muslims, as well as non-Muslims, hold these noble principles in high regard, despite the fact that socially responsible investments may yield a lower rate of return. To round up our list of reasons why Islamic financial institutions should lead the charge in fostering innovation and entrepreneurship, here are a few more:
1. Being an Islamic organization with a responsible mandate, the [Islamic] bank must behave with more developmental orientation.
2. Islamic Financial Institutions are expected to demonstrate their true spirit and prove their viability as partners in development rather than instruments of exploitation, while conventional banks are expected to maximize profit by unjustly charging optimal interest rates in a capitalist market economy.
3. The Islamic financial system adheres to the principle of "no pain, no gain," which states that no one is entitled to a reward (profit) if they do not share the risk of losing money. This approach could help bring greater discipline to the financial sector.
4. Financial institutions would surely become more cautious in their lending and underwriting methods if they were aware of the positive correlation between the sharing of profit and the sharing of risk in each economic transaction. They will act as partners rather than simply lenders (borrower).