Islamic Banks as financial intermediaries
The fact that Shari'ah strictly prohibits interest-based transactions does not imply that it excludes financial intermediation. In fact, Islamic banks form a part and parcel and interconnecting medium of the Islamic developmental framework. This intermediation seeks to enhance the efficiency of the saving/investment process by eliminating the mismatches in the requirements/availability of financial resources of borrowers/entrepreneurs and the disparity in risk preferences between small savers and entrepreneurs.
The intermediation function of Islamic banks is very important. They are responsible for identifying good projects for financing as well as for monitoring their progress and ensuring proper accounting and auditing. But as an intermediary, they should play no part in managing the project or in making policy decisions that is the exclusive domain of the entrepreneur. This allows them to have a factual picture of the health of the projects in where they invest.
Besides, the profit-sharing principle being in the core of the Islamic financial model puts justice and fairness in the midpoint of this intermediation since it contributes to a more equitable distribution of income and wealth. This is not the case of debt-financing model that penalizes entrepreneurship by obliging it to return the principal even when part of it is lost due to circumstances beyond the entrepreneur’s control. Besides, when a project fails and a business person defaults, the financial intermediary must also default, and the ripple effects destabilize the whole system. Islamic finance is more efficient in that it allocates funds on the basis of the productivity of projects rather than on the criterion of the creditworthiness of project holders.
In addition, by applying general Shari’ah precepts, Islamic banks also aim to contribute towards the economic development of the countries wherein they operate. By creating an environment which would draw more funds for Musharakah /Mudarabah-based financing of productive projects and by investing in real-sector businesses, implementing trading, leasing, real-estate related contracts and using Islamic modes of financing that avoids interest and speculation, Islamic banks lead to increases in production and employment and therefore become agencies of sustainability of the socioeconomic order as much as they are investment oriented financial intermediaries.
The PLS modes used by Islamic banks could be applied for project financing, import/export financing, working capital financing and for financing of more specific transactions in short, medium, and long-term. Socio-economic projects, such as infrastructure projects, could also be developed on this principle. Banks could use a form a consortium or issue certificates to the public for subscription if they need large amounts of money.
The PLS mode of financing could be complemented by non-PLS modes to provide flexibility to meet the needs of different sectors and economic agents in the society. This could be done through trade, Ijara and leasing or via other techniques such as Murabaha and Salam that could help in job creation and liquidity needs fulfilment. These mark-up modes put side by side with a profit-sharing system contribute to the growth of micro / SME sectors, to capital accumulation in the economy and to the alleviation of poverty.
The intermediation function of Islamic banks is very important. They are responsible for identifying good projects for financing as well as for monitoring their progress and ensuring proper accounting and auditing. But as an intermediary, they should play no part in managing the project or in making policy decisions that is the exclusive domain of the entrepreneur. This allows them to have a factual picture of the health of the projects in where they invest.
Besides, the profit-sharing principle being in the core of the Islamic financial model puts justice and fairness in the midpoint of this intermediation since it contributes to a more equitable distribution of income and wealth. This is not the case of debt-financing model that penalizes entrepreneurship by obliging it to return the principal even when part of it is lost due to circumstances beyond the entrepreneur’s control. Besides, when a project fails and a business person defaults, the financial intermediary must also default, and the ripple effects destabilize the whole system. Islamic finance is more efficient in that it allocates funds on the basis of the productivity of projects rather than on the criterion of the creditworthiness of project holders.
In addition, by applying general Shari’ah precepts, Islamic banks also aim to contribute towards the economic development of the countries wherein they operate. By creating an environment which would draw more funds for Musharakah /Mudarabah-based financing of productive projects and by investing in real-sector businesses, implementing trading, leasing, real-estate related contracts and using Islamic modes of financing that avoids interest and speculation, Islamic banks lead to increases in production and employment and therefore become agencies of sustainability of the socioeconomic order as much as they are investment oriented financial intermediaries.
The PLS modes used by Islamic banks could be applied for project financing, import/export financing, working capital financing and for financing of more specific transactions in short, medium, and long-term. Socio-economic projects, such as infrastructure projects, could also be developed on this principle. Banks could use a form a consortium or issue certificates to the public for subscription if they need large amounts of money.
The PLS mode of financing could be complemented by non-PLS modes to provide flexibility to meet the needs of different sectors and economic agents in the society. This could be done through trade, Ijara and leasing or via other techniques such as Murabaha and Salam that could help in job creation and liquidity needs fulfilment. These mark-up modes put side by side with a profit-sharing system contribute to the growth of micro / SME sectors, to capital accumulation in the economy and to the alleviation of poverty.
