Elimination of Riba: Concept & Problems
The Holy Qur’an has prohibited riba. What is meant by this term? What is its true definition and connotation in the light of the Holy Qur’an and Sunnah of the Holy Prophet (pbuh)?
Riba is the Qur’anic term for usury or interest, and the definition of riba as given in the Qur’an is very clear and unambiguous. It categorically forbids riba as any claim in excess of the principal sum lent.
The Qur’an has not left any ambiguity in respect of the concept and definition of riba. It explicitly and categorically lays down that:
“O believers, fear God, and give up the interest (riba) that remains outstanding if you are believer.” (al-Qur’an, 2:278)
Mawlana Sayyid Abul A’la Mawdudi has also discussed this concept in his book Sood, (Lahore, Islamic Publications Ltd, 9th edition, 1978, pp. 150-155). Similarly, a clear and definitive exposition of the concept is given in r Muhammad Umar Chapra’s Towards a Just Monetary System (Leicester, The Islamic Foundation, 1985, chapter 2, PP- 5 66 and Appendix I, pp. 235-246). It may be added that Dr Chapra was awarded on this book the Islamic Development Bank Award and King Faisal International Prize.
In economic terms, this means that Islam prohibits predetermined pricing of capital. Briefly, the Islamic position is that if a loan is given or taken for moral or humanitarian reasons, the principal amount should be protected and any excess on that is forbidden as immoral and exploitative. If loan or investment is made for economic reasons, then the owner of capital has no right to demand a fixed rate of return. One cannot legitimately ask for any additional payment without sharing the risk of business. Thus if a simple loan is advanced without risk-sharing, any additional payment, small or laige, in excess of the original amount of the loan, constitutes riba and as such is forbidden.
As far as the question of riba on money-based transactions is concerned there has been complete unanimity on its prohibition throughout Muslim history. All major authorities have claimed ijma on this. (See Mufti Muhammad Shafi, Mas’ala-e Sood, and Shaikh Yusuf al-Qardawi, Fawaid al- Bunuk Heya al-Riba al-Haram. Also see: the resolution of Islamic Fiqh Academy of India (1989) and resolution of the Islamic Fiqh Academy of the OIC (December 1985). Even though there have been some dissenting voices, yet literature produced during the last 50 years bears witness to the fact that there is a near consensus amongst the ulema and the economists on the definition and concept of riba as given above.
This position has been acknowledged in an article on Islamic Interest-Free Banking by a leading economist working as assistant director. Research Department, IMF. The author says:
“Riba is the Arabic word for the predetermined return on the use of money. In the past there has been dispute about whether riba refers to interest or usury but there is now consensus amongst Muslim scholars that the term covers all forms of interest and not only “excessive” interest. Thus in ensuing discussion the term riba and interest will be used interchangeably, and an Islamic banking system will be one in which a payment or receipt of interest is forbidden.” (IMF Staff Papers, Vol 33 No 1, Mareh 1986, pp 4-5)
Some people have made an effort to differentiate between interest and usury in the context of discussion on the nature of riba. Three caveats have been thrown into the debate:
- That riba means usury and as such interest, particularly bank interest, does not fall into the ambit of riba;
- That usury or riba relates to loans contracted by the poor and the needy persons for consumption purposes while interest constitutes reward on commercial, productive and profitable loans; and
- Interest stands for a reasonable rate of return on capital while usury represents an excessive, exorbitant and exploitative rate of interest.
It is submitted that all the three premises are totally incorrect, theoretically inadmissible and empirically baseless.
There cannot be any economic or Shari‘ah justification for confining riba to usury and excluding interest from its jurisdiction. As far as economic analysis is concerned there is no technical difference between interest and usury. Whether we look upon the phenomenon from the demand side of economic analysis or the supply side, the rationale developed in economic theory for interest and usury are the same. If it is a reward for waiting or time-preference, there cannot be any differentiation between interest or usury. If the question is examined from the productivity approach, again there cannot be any differentiation between the two. That is why whatever differentiation has been introduced in the literature comes mostly on moral grounds alleging that one is high and exorbitant (usury) and the other is low and as such reasonable and secondly that usury deals with loans to the poor for consumption purposes while interest deals with profitable commercial advances. There is no economic substance in any of these excuses.
As far as Islam is concerned it has laid down very clear and precise criteria: if the loan carries a predetermined fixed reward related to time of loan-use and decided upon as a condition of loan it is riba, pure and simple. There is no difference between consumption loan or production loan or high rate or low rate or loan taken by a poor person or rich. Both the caveats are inadmissible. Interestingly enough, the Shari‘ah and economics have no quarrel on this count. William L. Miller, drawing upon J.M. Keynes, defines interest in A Dictionary of the Social Sciences (London: Tavistock Publications, 1964, p. 341):
“Interest, in economics, denotes the price or rent paid on money in exchange for the use of a sum of money, the premium, obtained on current cash over deferred cash. (J.M. Keynes, ‘The Theory of the Rate of Interest’, The Lessons of Monetary Experience: Essays in Honour of Irving Fischer, ed. by A.D. Gayer, London, Alcn and Unwin, 1937, p. 145).”
Don Patinkin, a leading British authority on monetary economics, explains interest as follows:
“Interest usually originates in the payment for a loan of money over a period of time — although it can also arise from loan in kind. Interest is essentially measured by the difference between the amount that the borrower repays and the amount that he originally received from the lender (which is called the principal).” (Article on “Interest”, International Encyclopaedia of the Social Sciences, London, 1968, vol. 7 & 8, p. 471.)‘
This differential between the amount received by the borrower and the amount paid by him is interest. And that is exactly what riba is, notwithstanding the rate of interest or the use of borrowed funds. Historically, interest and usury were always treated as one and the same thing. It was only in the post-Christian, post- 1
Renaissance period of European history that the term interest was used as a substitute for usury to wriggle out of the religious and moral prohibition.
Henry W. Spiejel, in his entry on “usury” in The New Palgrave: A Dictionary of Economics (London, Macmillan, 1987, vol. IV, p. 769) says:
“Usury, in the scholastic economic thought of the Middle Ages, referred to a lender’s intention to obtain more in return than the principal amount of the loan. As a general rule this meant that any interesttaking was usurious and forbidden, whereas in modem parlance only exorbitant interest is considered usurious.”
Raymond De Roover tries to clarify the confusion about interest and usury in his article on “Economic Thought: Ancient and Medieval Thought”, in International Encyclopaedia of the Social Sciences (London, 1968, vol. 3 & 4, p. 434):
“A great deal of misunderstanding exists about usury. According to modem concepts, usury is an exorbitant, oppressive interest rate; but definition given by the schoolmen was quite different. Usury was any increment, whether excessive or moderate, beyond the principal of a loan.”
This is also supported by Professor Hany who has this to say about usury in History of Economic Thought:
“The term was used to cover what we designate as interest, and in a broader sense, to include any price in excess of the Jus turn pretrium: qui plus quam dederit accipit, usures expelit — he who receives more than he gives, demands usury... As late as 1311 it was declared absolutely illegal. The broad simple ground for this action was the belief that to take interest for a loan of money was, like charging more than the just price, unjust.” (p. 101).
Encyclopaedia Judaice also makes the following observation:
“The prohibition on interest is not a prohibition on usury in the modem sense of the term, that is, excessive interest, but of all, even minimal interest. There is no difference in law between various rates of interest, as all interest is prohibited.” Encyclopaedia Judaice (Jerusalem, 1972, vol. 16, p. 28)
As to the Islamic view, leading western scholars have also accepted that riba covers both interest and usury. T. B. Hughes in A Dictionary of Islam, (Lahore, Premier Book House, 1985 reprint, p. 544) defines riba as follows:
Riba/Usury. A term in Muslim law defined as an excess according to a legal standard of measurement or weight, in one or two, homogenous articles opposed to each other in contract of exchange and in which such excess is stipulated as an obligatory condition on one of the parties without any return.
Andy Mullineux of the University of Birmingham discusses the concept of interest in the context of the current debate in the Muslim world. Three short extracts from this entry on “Interest” in The Social Science Encyclopaedia (edited by Adam Kuper and Jessica Kuper, London, Routlcdge & Kegan Paul, 1985, pp. 405-406) are as follows:
“The charge made (or price paid) for the use of loanable funds is called interest. The rate of interest is the amount payable, usually expressed as a percentage of the principal sum borrowed, per period of time, usually, per month, quarter or year.
“The reasons for condemning interest rate charges, given by the fundamentalists include: their role in reinforcing the accumulation of wealth in the hands of the few, and thereby reducing man’s concern for fellow man; the fact that Islam does not permit gain from financial activity unless the beneficiary is also subject to risk of potential loss; and that Islam regards the accumulation of wealth through interest as selfish compared with that accumulated through hard work...
“The rate of interest, being the contractual income expressed as a percentage of the nominal value of the security, is to be differentiated from the yield of a security which is a percentage relationship of its income to its current market price."
Let us sum up the above discussion by clearly identifying what Islam has forbidden, i.e. any premium or excess, small, moderate or large, contractually agreed upon at the time of lending money or loanable funds, fixed as rate or datum for the use of money or loanable funds over a period of time, is riba. And this is what has been described as interest or usury in economics and banking over the centuries.
The distinction between consumption loans and commercial loans or loans taken by the poor or by the rich can have no basis in economics. Economics is not concerned with the end-use; it is concerned with the facts of:
- Waiting and sacrifice or call it liquidity-preference;
- Lending; and
- Expected usefulness or productivity of the funds lent.
Morality and religion are concerned about the end-use as well as the quality of the user (poor or otherwise), not economics, as it has been developed in the western tradition. Islam is concerned with ethics as well as economics. That is why it has provided for helping the poor and the needy, in the form of sadaqaat as well as qard-e-hasan, one is outright gift, the other a loan without interest. But if funds are to be utilised for commercial purposes, then they should be advanced or borrowed on the basis of equity-sharing or profit- sharing. This would negate the possibility of a predetermined fixed interest and open up the avenues for variable rate of return on capital’s actual productivity and profitability. Instead of a fixed and assured return from an anticipated gain, there would be a variable return, based on actual performance of the project or investment.
The question of the volume of the rate of return, i.e. interest being ‘moderate’ and usury being ‘exorbitant and oppressive’ is also irrelevant. Every predetermined excess on loan is looked upon by Islam as unjust. Empirical evidence on this count is also very revealing. Rates of interest have varied between 0.1 percent to over 10,000 percent in different periods of time. What was looked upon as ‘exorbitant’ at one time was regarded as ‘normal and moderate’ at another time. A very interesting study has been made by Sidney Homer on interest rates called A History of Interest Rates (2nd edition. New Brunswick: Rutgers University Press, 1977). The author comes to the conclusion:
“A bird’s eye view of the history of interest rates will unsettle most preconceived ideas of what is a high rate or a low rate or an average rate. Each generation tends to consider normal the range of interest rates with which it grew up; rates much higher suggest a crisis or seem extortionate, while rates much lower seem artificial or inadequate. Almost every generation is eventually shocked by the behaviour of interest rates because, in fact, market rates of interest in modem times have rarely been stable for long. Usually they are rising or falling to unexpected extremes. A student of the history of interest rates will not be surprised by volatility. His backward-looking knowledge will not tell him where interest rates will be in the future, but it will permit him to distinguish a truly unusual level of rates from a mere change.
“It is easy enough to cite seemingly fanciful interest rates. In fact, we do not have to look beyond our own century to find the highest and lowest rates in the entire span of this history: 10,000 percent high in Berlin; .01 percent low in New York. Both rates were quoted on standard money-market credits under very unusual circumstances. This is a range of one million to one.
“Hammurabi’s legal limit of 20 percent per annum on loans in silver cannot be usefully compared with today’s money-market interest rates. It was well above twentieth-century rates on prime business loans, savings bonds, savings deposits and the like, but was below 30-42 percent per annum legal limits and actual charges in many states of the United States for small personal loans. It will be very diffi- cult, throughout this history, to compare like rates with like rates. There are more types and varieties of credit contracts in ancient and modem history than are dreamed of in the philosophy of the modem bond salesman.” (p.6)
The variety of interest rates is baffling even today. Current interest rates (December 1992) in Switzerland (Swiss franc) are 2-3 percent, in Germany for D-mark are 8-10 percent, for $ in the US are 4-5 percent, for pound sterling in the UK are 10-14 percent, for Turkish lira are 70-80 percent and in some of the Latin American countries and Israel have been (1980’s) from 200 percent to 1,000 percent per year. Even in the UK, base rate is 7 percent, but market rate is between 10- 14 percent. Rates on credit cards are from 24 to 36 percent. The whole idea of relating rate-differential to interest and usury has no theoretical or empirical basis in economics.
Professor Khurshid Ahmad
Source: Elimination of Riba, Khurshid Ahmad, Khalid Rahman and Zahed A. Valie. Republished with permission.