In practice, other than refusing to finance ‘sin' industries, these expectations are hard to meet. Despite the expectation of profit sharing, most of the financing in the Islamic financial sector is debt based, where the form of financing is changed to that of a sale or a lease without necessarily changing its economic substance. For example, the payment schedule and terms and conditions in home financing in the Islamic financial sector may look very similar to, if not the same as, those in a conventional mortgage.
Customers are usually told that the difference between Islamic finance and conventional finance lies in fulfilling certain technical conditions of classic Islamic commercial jurisprudence, which give financing the contractual form of a trade or a lease. Some customers scale down their expectations and take what is available; others turn away in disappointment.
This gap between expectations and practice produces sarcastic media coverage—for example, ‘Don't Call It Interest' (Richard C. Morais, Forbes, 2007) and ‘How Sharia-Compliant Is Islamic Banking?' (John Foster, BBC News, 2009). Academic research papers such as ‘Incoherence of Contract-Based Islamic Financial Jurisprudence in the Age of Financial Engineering' (Mahmoud A. El-Gamal, 2007) also raise similar issues. Unfortunately, form versus substance is a persistent debate in Islamic finance, with no closure in sight.
Regarding doing good and avoiding harm to society and the environment, some argue that the job of financial institutions is to maximise profit for their shareholders and that profitable business leads to a prosperous society. If shareholders want to do something charitable, they can do so in their private lives.
A counterargument is that to use the ‘Islamic' label, financial institutions need to go beyond changing the form of financing and earn their profits while actively doing something positive. For example, Islamic banking should focus on SMEs rather than high–net-worth individuals; Islamic financing for cars should finance fuel-efficient vehicles, such as hybrids, instead of fancy gas guzzlers and Islamic project financing should push for fair treatment of construction workers and efficiencies in energy, waste, water and carbon emissions.
The catch here is that for such positive pursuits to work, customers also have to do their part - for the financier to lease a hybrid vehicle, the customer also has to want one. To avoid interest-bearing debt in financing, customers have to be ready to share profits with the financier and to make investments rather than extend interest-bearing loans; customers should probably seek equity funds and not bank accounts.
Similarly, if customers want institutions that offer Islamic financial services to pursue socio-economic goals, they should be willing to share any additional risks and costs. If customers are unwilling to put their money where their heart is, finance, pragmatic as it is, may also be unwilling to go very far in nonfinancial pursuits.
This gap between expectations and practice is not unique to Islamic finance. Other shades of ethical finance, such as SRI, face it too. One would think that because lending money on interest is not an issue in SRI, meeting expectations would be easy - not exactly.
In 2004, in a research paper titled ‘Socially Responsible Investing,' Paul Hawken found that ‘the cumulative investment portfolio of the combined SRI mutual funds is virtually no different to the combined portfolio of conventional mutual funds.' In other words, the expected ethical difference was blurred.
In its 2007 ‘Guide to Climate Change Investment,' Holden & Partners provided a similar finding: ‘SRI and ethical funds perform just as well (if not slightly better) than their mainstream counterparts because in most cases they are in fact mainstream.'
Perhaps the titles of these two biting articles published in 2010 summarise their content: ‘100 Best Corporate Citizens? What a CROck!' (Marc Gunther) and ‘When Pigs Fly: Halliburton Makes the Dow Jones Sustainability Index' (R.P. Siegel). Paul Hawken also noted in 2004 that ‘Muslim investors may be puzzled to find Halliburton on the Dow Jones Islamic Index fund.'
How to deal with this gap between expectations and practice? Do financial institutions mislead customers with labels like ‘Islamic,' ‘responsible' and ‘sustainable' or do customers have unrealistic expectations? Is it possible to bring the practice and expectations closer?
There is no easy answer to these questions. Having said that, one thing that could help in narrowing the gap between expectations and practice is honest communication of what exactly is the ethical proposition so that when someone takes ‘a small step' toward ethical ideals, it is not criticised for not being ‘a giant leap' but appreciated for what it is.
By: Usman Hayat
source: New Horizon