Elimination of Interest: Pakistan

In view of the clear and unequivocal commandments of the Holy Quran on the subject the elimination of riba is the bounden duty of an Islamic State. The Constitution of Pakistan 1973, in its article 227 provides that all existing laws shall be brought in conformity with the injunctions of Islam as laid down in the Holy Quran and Sunnah. Article 31 states that steps should be taken to enable the Muslims of Pakistan, individually and collectively, to order their lives in accordance with the fundamental principles and basic concepts of Islam. Article 37 dealing with Principles of Policy enjoins upon the State to eliminate riba as early as possible. There is complete unanimity among all schools of religious thought that the term riba covers interest in all its manifestations.

It is unfortunate that during the first three decades of the country’s existence as an independent state no attention was paid to the elimination of riba. The work on finding ways and means to eliminate interest started in right earnest only after the President of Pakistan, General Muhammad Zia-Ul-Haq specifically asked the Council of Islamic Ideology on 29-9-1977 to prepare a blue-print of an interest- free economic system and later on the occasion of 12 Rabiul-Awwal, 1399 set a time limit of three years for the elimination of interest from the economy. All along, the President has not only taken a keen interest in the work of the Council but also in the practical implementation of its recommendations. As a result, concrete action has already been taken by the Government on the Council’s Report on the introduction of Zakah and Ushr and its interim recommendations relating to the elimination of interest from the operations of National Investment Trust, Investment Corporation of Pakistan and House Building Finance Corporation.

To assist the Council in the delicate task of finding the ways and means to eliminate Interest (riba) from the country’s economy, and to re-model the economic and financial system of the country in accordance with the injunctions of Islam, the Council appointed a Panel of Economists and Bankers in November, 1977. The Panel submitted its' Report to the Council in February, 1980, which was considered by the Council in several meetings. While considering the Report, the Council modified or substituted some of the recommendations so as to bring them in conformity with the Shari’ah and finally adopted a consolidated Report in its meeting held at Karachi on 15th June, 1980.

The Report, therefore, is a product of the combined efforts of the experts in economics and banking and those of the SharVah. Now, the Council, in all humility, presents this Report to the public in general.

This Report, besides Introduction consists of 5 Sections with a Summary of Conclusions and Recommendations at the end. In the Section introductory the Report discusses the nature and the rationale of the prohibition of riba in Islam. The Section I entitled “Issues, Problems and Strategy” deals exhaustively with practical considerations in applying the profit/loss-sharing system, other possible devices for replacing interest and safeguards for the success of the new system. The Section II discusses in detail the mechanisms for the elimination of interest from the operations of the commercial banks. It provides detailed guidelines for re-orientating the financing operations of the commercial banks in respect of assistance to be provided to industry, agriculture, commerce, construction, transport and other sectors so as to eliminate interest. In respect of bank deposits, the Council has recommended an alternative system under which, after a transitional period, savings and time deposits will cease to earn a fixed return but would instead get a variable return. The Section III deals with ways and means of eliminating interest from the operations of specialized financial institutions. The Section IV deals with Central Banking and Monetary Policy in an interest-free economy. For influencing the allocation of productive resources in the interest-free system, the Report recommends that the State Bank be empowered to fix and vary its profit-sharing ratios in respect of its own financial assistance to banks and other financial institutions in respect of finance provided by them. The final Section of the Report deals with the elimination of interest from Government transactions. The Report points out that after the abolition of interest, it would not be possible for the Government to borrow from the financial institutions or the general public on the basis of interest. The borrowing requirements of the Govern- ment will have to be met largely by the State Bank on interest-free basis. However, it would have to be ensured that inflow of central bank money into the economy is kept within safe limit. Government borrowing from external sources will have to be continued for the time being on the basis of interest. The Council has recommended that efforts should be made to reduce dependence on foreign aid in general and interest-bearing foreign assistance in particular. In addition, efforts should be made to foster greater economic co-operation among Muslim countries so as to promote movement of capital on the basis of profit/ loss-sharing or otfer non-interest basis. With such increased economic co-operation among Muslim countries it is not unlikely that, with the passage of time, non-Muslim aid-giving countries and international financial institutions may also begin to deal with Muslim countries on a basis compatible with Shari‘ah.

The Council has recommended that a detailed blue-print for the switch over to the interest-free system should be drawn up by the Government in the light of the recommendations of the Council by the end of December, 1980. It has recommended the setting up of study groups for effecting such changes in banking laws and other legislation as may be necessitated by the proposed switch over. It calls for urgent action to familiarise the banking personnel with the new modes of financing and to motivate them to implement the new system with a missionary zeal. The Report expresses the hope that the Government of Pakistan would adopt the Council’s Report on the elimination of interest as an essential element of the national policy package and would forge ahead with its practical implementation without any loss of time.

The Council has pointed out that the ideal alternatives to interest in an Islamic economic system are profit/loss-sharing and qard-hasanah. However, in view of the difficulties in the practical application of the system of profit/loss-sharing in certain spheres, the Council has endorsed the recommendations of the Panel of Economists and Bankers that certain other methods like leasing, hire-purchase, Bai Muajjal, investment auctioning and financing on the basis of normal rate of return with a clear provision for adjustment on the basis of actual operating results may also be used in interest-free banking operations. Cautioning against the danger that these other methods could be misused as a means for opening a back-door for interest, the Council has urged that a basic policy decision should be taken to the effect that with the passage of time the operational field of profit/loss-sharing and qard- hasanah should gradually be expanded while that of the other alternatives reduced.

The Council has also pointed out that the elimination of interest is but a part of the overall value system of Islam, and this measure alone cannot be expected to transform the entire economic system in accordance with the Islamic vision. It has, therefore, emphasised the need for reformatory measures at moral building and eradication of false values of life. It has also recommended a comprehensive reappraisal of the tax system as well as a thorough reform of the present auditing system to ensure the success of interest-free banking.

The Council recognizes the difficulties in the elimination of interest from transactions relating to international trade and aid and has, therefore, recommended that initially the objective should be to eliminate interest from domestic transactions. In this context, it has recommended an action plan spread over three phases so as to achieve complete elimination of interest from domestic transactions by the end of December, 1981. The Council has expressed its strong opposition to the setting up of any model bank or the opening of separate interest- free counters in commercial banks as, in its opinion, such measures are likely to entail perpetuation of the interest-based system and undermine the efforts at introducing interest-free banking in the country.

Nothing in the world is perfect and no word is the last word in any branch of knowledge, least of all in the field of Islamizing the economic concepts and practices, particularly in view of the complexities of the modern fiscal and economic system and practices as developed in the Western world. The efforts of the Council will be duly rewarded if this Report succeeds in providing a direction to the ultimate objective of eliminating interest (riba) from the economy of the Muslim World in general and that of Pakistan in particular.

The elimination of interest occupies a key position in the establishment of the Islamic order. The phraseology of the verses of the Holy Quran as well as of the Ahadith which condemn the institution of interest clearly portrays the Islamic viewpoint in this regard. Pakistan being an ideological State, the abolition of riba has from the very beginning formed an integral part of State Policy as enshrined in her Constitution. In this connection, the Council of Islamic Ideology has frequently been called upon to delineate the true meaning of riba and to elucidate the verses of the Holy Quran pertaining thereto. The Council has all along expressed the view that the term riba encompasses interest in all its manifestations, irrespective of whether it relates to loans for consumption purposes or for productive purposes, whether the loans are of personal nature or of commercial type, whether the borrower is a government, a private individual or a concern, and whether the rate of interest is low or high. Yet, there has hitherto been hardly any noteworthy progress towards the elimination of interest from the country’s economy. However, in the recent past, the President of Pakistan, General Muhammad Zia-Ul-Haq not only entrusted to the Council of Islamic Ideology the task of preparing a blueprint of an interest-free economic system but has also set a time limit of three years for the elimination of interest from the economy. Further, the Presidential declaration in regard to the time limit has been given the form of a Constitutional provision through an amendment in the Constitution which stipulates that the exclusion of the laws pertaining to Financial matters from the jurisdiction of the Shari'ah Courts will be valid only for a period of three years.

With a view to formulating a framework for reorganising the economic system in conformity with the injunctions and teachings of Islam, the Council, soon after its reconstitution, appointed a Panel of Economists and Bankers which was assigned the responsibility, inter alia, of examining the technical aspects of the elimination of interest and recommending ways and means for reorganising the country’s banking system in conformity with the Shari'ah. The Panel has accordingly submitted its recommendations to the Council which provide a workable basis for elimination of interest from the economy, to the maximum extent feasible under the present circumstances, indicating broadly the lines on which the new system should be organised. The Council has adopted these recommendations and the present Report of the Council is largely based on the work accomplished by the Panel. However, in adopting these recommendations, the Council has incorporated amendments, wherever necessary, so as to ensure complete conformity with the Shari'ah. The Council fervently hopes that the President of Pakistan and his colleagues would adopt the present Report as an essential element of the national policy package and would forge ahead with its practical implementation without any loss of time.

1. The Council wishes to place on record its deep appreciation of the contribution made by the Panel and for their tireless efforts, sincerity of purpose and maximum devotion of their intellectual powers and technical skills which enabled them to submit three valuable Reports in a relatively short span of two and a quarter year. The first Report of the Panel pertained to the introduction of Zakah in Pakistan which was followed by an Interim Report on the elimination of interest from the operations of selected financial institutions. The two Reports, together with the comments and suggestions of the Council, have already been submitted to the Government. The third Report of the Panel represents the culmination of its efforts which commenced with its work on the Interim Report. It deals more comprehensively with the issues involved in eliminating interest from the economy as a whole and also indicates in considerable detail the measures needed to achieve the objective. It is the view of the Council that this Report of the Panel is a historic document which not only offers a practical basis for the elimination of interest in this country but would also prove to be a source of inspiration and guidance to others both for policy formulation and further study and research on the subject. By virtue of its scope and technique this document is perhaps the first comprehensive treatise written in the contemporary Muslim World through joint efforts of experts on economics and banking who possessed both practical experience in the field as well as commanded deep insight in the theoretical aspects of the formidable task entrusted to them. The basic work having been accomplished, the next step that needs to be taken by the Government immediately is the setting up of various working groups which should be charged with the task of working out the full details of the new system and suggest the necessary modifications in the relevant laws or prepare drafts of new laws that may be considered essential for effective implementation of the desired changes and to formulate a comprehensive and workable plan for action. These working groups should take up their work with a real sense of urgency and national duty. It also needs to be emphasised that during this whole process extreme care must be exercised to ensure that basic stipulations of the new system are faithfully adhered to.
2. The Council fully endorses the view expressed by the Panel that the elimination of interest is but a part of the overall value system of Islam and this measure alone cannot be expected to transform the entire economic system in accordance with the Islamic vision. Moreover, in proceeding in this direction it will be necessary to keep in view the fact that an interest-free banking system can successfully function and really prove to be fruitful only subject to the condition that simultaneously with its introduction strenuous efforts are made on a wide front to inculcate in the society such basic virtues as fear of God, honesty, trustworthiness, sense of duty and patriotism. Unfortunately, in the context of the introduction of Islamic laws this aspect has hitherto failed to receive the attention that it deserves. The need for reformatory measures at moral building and eradication of false values of life was emphasised by the Council earlier while submitting its recommendations on the laws of hudood and the introduction of Zakah. However, now as the country is poised for the introduction of an interest-free banking system this need has increased immeasurably in its urgency. The Council, therefore, once again reiterates with utmost emphasis its recommendations that the mass media may forthwith be mobilised for launching a well thought-out persuasive campaign designed to bring home to the people the details of the new system, the need for change over to the new system both from the worldly point of view and in the Hereafter, as also the obligations that devolve on them for making the new system a success. The aim of the campaign should be not only to make the people conscious of the full meaning and purport of the new system but also to persuade them to willingly and wholeheartedly accept the challenge and to act with a missionary zeal.
3. The Council wishes to stress that with a view to ensuring the success of the new system of banking, it is of paramount importance that the Government should carry out a thorough reappraisal of the tax system, focusing in particular on the need for greatly simplifying the system of Income Tax. The need for this measure was earlier underscored by the Council while submitting its Report on the introduction of Zakah and it was pointed out in this context that proper collection of Zakah would be difficult to achieve so long as the Income Tax system was not simplified and made sufficiently easy for the assessees. Regrettably, however, this recommendation of the Council has yet to be given effect. In submitting its present Report, the Council wishes to express its deep concern in this regard once again, particularly in view of the fact that a thorough-going reform of the Income-Tax system is a sine qua non for the success of an interest-free banking system. This is because of the fact that under the new system, the income of the bank would crucially depend upon the profits of the business firms which receive financial assistance from them. If the existing system of Income Tax remains as it is the business firms would continue the malpractice of concealing their profits and maintaining multiple sets of accounts which would deprive the banks from their rightful share in the profits of these concerns and would thus adversely affect the earnings of the banks.

In regard to the operative aspects of the interest-free banking system, the Council considers it of vital importance to make it clear at the very outset that ideally the real alternatives to interest under an Islamic economic system are profit/loss-sharing or qard-hasanah, i.e. loaning without additional charge over and above the principal amount. Although the recommendations contained in this Report are based largely on the principle of profit/loss-sharing, yet some of the recommendations lean on other methods such as “leasing”, “hire-purchase”, “Bai Muajjal”, and “investment auctioning” in view of the difficulties faced in the practical application of the system of profit/loss-sharing in its pure form on account of the prevalent standards of morality in the society. The Council has, of course, incorporated the necessary modifications in these alternative methods so as to rule out the possibility of any built-in element of interest in them. However, it needs to be pointed out that these alternative methods, though free of the interest element in the form in which they are specifically laid down in this Report, are no more than a second best solution from the viewpoint of an ideal Islamic economic system. Moreover, there is also a danger that they could eventually be misused as a means for opening a back-door for interest along with its attendant evils. It is, therefore, imperative that the use of these methods should be kept to the minimum extent that may be unavoidably necessary under the given conditions and that their use as general techniques of financing must never be allowed. The Council, therefore, recommends that a basic policy decision may be taken to the effect that with the passage of time the operational field of profit/loss-sharing and qard-hasanah should gradually be expanded while that of the other alternatives reduced.

The Council is of the view that at present two factors militate against a wide-ranging application of the principle of profit/loss-sharing viz., (1) wide-spread prevalence of unethical practices in the society, and (2) illiteracy. It is, therefore, necessary to remove both of these factors if the objective of setting up of an ideal Islamic system is to be achieved. The Holy Quran and the Ahadith have laid great emphasis on honesty and fairness in dealings as well as on acquisition of knowledge. In fact, the Holy Quran specifically exhorts the believers to scribe the loan transactions, which is of great help in ensuring fairness in the dealings. We have, therefore, to bend all our energies and resources towards promoting honesty among the people and for banishing illiteracy. Once a substantial improvement in the standards of honesty in the society is achieved and literacy becomes wide-spread, then the above-mentioned alternative methods will be automatically rendered superfluous and the financial institutions will be able to operate purely on the basis of profit/loss-sharing and qard-hasanah.

In the modern era, the banking system plays a vital role in the economic sphere. For remodelling the banking system on Islamic lines, therefore, it is indispensable to make the necessary changes in respect of all such matters as have a bearing on the operations of banks. Accordingly, the existing laws relating to sale of goods, mortgage, hire, lease, agency, loans, trust, partnership and defalcation etc., should be so amended as to make them conform with the SharVah. The Council, therefore, recommends that simultaneously with the initiation of the process of eliminating interest, the task of amending and remodelling of these laws may be taken in hand.

Source: Money and Banking in Islam, Ziauddin Ahmed; Munawar Iqabal; M. Fahim Khan. Republished with permission.