Islamic Banking in India: An Overview

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1. ZENITH International Journal of Multidisciplinary Research _________ISSN 2231-5780 Vol .9 (6), JUNE (2019), pp. 246-252 Online available at zenithresearch.org.in ISLAMIC BANKING IN INDIA: AN OVERVIEW MAHAMMAD SHAHID LECTURER IN COMMERCE THE YENEPOYA INSTITUTE OF ARTS, SCIENCE, COMMERCE AND MANAGEMENT YENEPOYA (DEEMED TO BE UNIVERSITY) MANGALORE, KARNATAKA, INDIA. Email Id: shahidm@yenepoya.edu.in. JEEVAN RAJ LECTURER IN COMMERCE THE YENEPOYA INSTITUTE OF ARTS, SCIENCE, COMMERCE AND MANAGEMENT YENEPOYA (DEEMED TO BE UNIVERSITY) MANGALORE, KARNATAKA, INDIA. Email Id: jeevanrajkuthar@gmail.com. ABSTRACT: Islamic banking is the fastest growing feild in financial services, and opportunity abounds. The main focus of Islamic finance is on transparency, cooperative ventures, risk sharing and ethical investing which attracts a wide range of both Muslims and non-Muslims alike. Today, Islamic banking has become one of the fastest growing segments of the international banking and capital markets. Islamic banking is found in most parts of the world. Islamic Banking has a huge market potential in India as India is the third largest Muslim populated country in the world. Islamic banking is a system of banking with Shariah laws, which is against the collection or payment of interest, commonly called ‘riba’. Islamic law also prohibits investing in business that are considered unlawful or Haraam. The basic principle of Islamic banking is based on risk sharing, which is a component of trade rather than risk-transfer which is seen in conventional banking. This paper attempts to explain the basic principles and various important products of Islamic banking. This paperfurther highlights SWOT analysis, advantages of introducing Islamic banking in India and also identifies the limitations of Islamic Banking in India. KEYWORDS: Financial inclusion, Islamic banking, Muslims, Riba, Shariah, SWOT analysis. INTRODUCTION: Islamic banking is the banking activity that follows the principles of Islamic law (Shariah) and its practical application through the development of Islamic economics. Islamic banking is also known as interest free banking which promotes profit sharing. Shariah (Islamic Law) prohibits the charging and paying of interest which is Haraam (forbidden) in Islam. It is very interesting that sharia banking is working without interest and is still flourishing. They are not only profitable but are also growing at an astonishing rate in sense of capital, assets and consumers. The biggest phase of development of Islamic financial institutions occurred in 1980s. In 1985, the High Council of Organization of Islamic Conference (OIC) declared takaful/Islamic insurance as Shariah compliant. The first Islamic bank was established in 1963, in MitGhamr, in Egypt, but it did not last for long. In Gulf 246
2. ZENITH International Journal of Multidisciplinary Research _________ISSN 2231-5780 Vol .9 (6), JUNE (2019), pp. 246-252 Online available at zenithresearch.org.in countries Islamic banking is common now. Islamic banking is steadily moving into an increasing number of conventional financial systems. It is expanding not only in nations with majority Muslim populations, but also in other countries where Muslims are a minority. As a concept Islamic banking has gained momentum world over and in India over the past few years. Several foreign banks operating in India, like Citibank, Standard Chartered Bank, HBSC are operating interest-free windows in some of the West Asian countries, Europe, and The USA.The IMF has shown great interest in bringing about macroeconomic and financial stability for its members who have adopted Islamic banking. There is also a growing awareness about the concept among Indian banks and it is generally felt that there is a huge potential market in India for Islamic banking products. Several banks in the country haveshown an inclination to undertake this form of interest-free banking. However, unless proper regulations are in place to oversee this form of banking, it will not be possible for scheduled commercial banks to follow the Islamic rules of banking even in a small way. OBJECTIVES OF THE STUDY: The objectives of this paper are To explore the basic principles and concepts in Islamic Banking;  To study Islamic banking by understanding various Islamic financial products.  To analyze the advantages of Islamic banking in India.  To understand the challenges for Islamic banking in India. RESEARCH METHODOLOGY: The study is mainly based upon the collection of secondary data. The secondary data was collected from various sources of publications such as Magazines, Journals, Research articles, Internet and un-published thesis. LIMITATIONS OF THE STUDY:  Time constraints  The Study is based on Secondary Data  All the data’s cannot be generalized ISLAMIC BANKING –AN OVERVIEW: Islamic Banking is the banking method which is based on Islamic Law (Shariah). Islamic Law prohibits interest based banking and permits only profit sharing based banking. The Holy Quran that says “Allah has allowed only legitimate trade and prohibits interest”. It is against the interest, as interest is believed to lead to exploitation and unproductive income. The purpose of Islamic banking has same purpose as conventional banking except that it operates in accordance with the rules of the Shariah, known as Fiqh al-Muamalat (Islamic rules on transactions). Islamic Banking does not mean a mere lending institution extending interest-free loans, but a package of Shariah-compliant (strict adherence to Islamic economic norms) financial services like Islamic bonds (sukuk), Islamic insurance (takaful), Islamic mutual funds, Islamic credit cards and other technology-driven services like ATMs and online banking, all of which have a tremendous market in India. In manyWestern countries mainstream banks are now opening special no-interest divisions to cater toMuslim clients who refuse to either pay or earn interest. But this is clearly the response to aniche-market of clients with special needs. There is still a long way to go before the idea ofinterest-free money is taken seriously by conventional bankers and policy makers. 247
3. ZENITH International Journal of Multidisciplinary Research _________ISSN 2231-5780 Vol .9 (6), JUNE (2019), pp. 246-252 Online available at zenithresearch.org.in BASIC PRINCIPLES OF ISLAMIC BANKING:  Receipt and payment of interest (Riba) is strictly prohibited.  The business is based on sharing profit and loss.  Certain industries, such as adult entertainment, alcohol, and gambling are disallowed by Sharia and prohibited for investment. This is why Islamic Banking is also referred to as Ethical banking.  Banks may not lease or lend any product that they do not wholly own.  Trading in debt is also not allowed, which is why Banks do not deal in traditional bonds; rather they have their own version of such instruments called Sukuk (Islamic Bond).  Interest free loans are encouraged to spread financial inclusion. ISLAMIC BANKING PRODUCTS: Some existing Islamic modes of Finance a) Mudarabah Mudaraba is one of the popular Islamic banking products.Mudarabah is a form of financing where an investor and an entrepreneur join hands. As per formal agreement drawn between them, the investor provides funds whereas the entrepreneur uses his skills to earn profit for their joint venture. In case of Islamic banks, depositors would be called Rub Al mal and bank will be considered as Mudareb. The investor of capital is called Rub Al Mal and the entrepreneur Mudareb. b) Murabaha Theterm Murabaha refers to a sale transaction with an element of profit for the seller and has nothing to do with financing in its original sense. A Murabaha transaction entails sale of goods by an Islamic bank to its customer with cost plus profit, usually on a deferred payment basis. c) Musharaka In Musharaka a customer buy the banks’share of the ownership. The Customer is also required to lease the bank’s part of ownership in the asset. Thus, customer actually makes two periodical payments to the banks-one towards part purchasing the banks ownership in the asset and the other being rent on leasing out the remaining part of the banks ownership in the asset. d) Takaful Takaful is commonly referred to as Islamic Insurance. It is based on the principle of cooperation and separation between operations of shareholders and the funds. The ownership of takaful fund and operations are passed to the policyholders. The policyholders are joint investors with the takaful operator who acts as a manager for policyholders. All policyholders agree to guarantee each other and contribute to a pool of funds (takaful fund) instead of paying premiums. Any claims made would be met out of the fund and surpluses will be distributed among policyholders. Takaful operator would be paid a fee only for managing the fund and covering the costs. e) Ijarah The bank would buy an asset as per the client and allow the client to use the asset for a specified lease period and a lease fee. It is a lease agreement between the Islamic bank and its client. The bank will possess the ownership of the asset. 248
4. ZENITH International Journal of Multidisciplinary Research _________ISSN 2231-5780 Vol .9 (6), JUNE (2019), pp. 246-252 Online available at zenithresearch.org.in f) QardHasan Islamic banks lend loans keeping goodwill as the base. These loans are not charged with profit or interest.The borrower is required to pay only the amount borrowed. These loans do not charge the borrower the time value for the money. These loans are consistent with the principle of prohibition of interest. g) Halal Activities Investing in any sinful (haram) activities are prohibited by Islamic Banks. . According to Shariah Law, it prohibits business projects related to gambling, pork products, weapons, defense, alcohol, pornography and any speculative activates. h) Sukuk An Islamic equivalent bond is termed as Sukuk. The investor of sukuknot only gets share of an asset but also the cash flows and the risk. As interest bearing bond structure is not permissible, the investor shall get a proportionate ownership in tangible asset of the project. i) Wadiah It is the acceptance of the sum of money for safe keeping. The sum of money accepted will be repaid. Here banker is the keeper and trustee of funds. Bank is liable for safe keeping of funds and on the demand of the customer it should be returned. As an appreciation for keeping the funds with the banks, banker as its discretion shall reward the customer as an appreciation (hibah). j) Salam It is equivalent to a forward sale contract in which the payment is made in advance and the goods are delivered at a specified date in the future. This mode often used in the agricultural sector in which without charging interest, the banks advances the money for inputs and in return shall get a part of produce which will be sold after its delivery. k) Waqf It refers to a voluntary dedication of one’s property and wealth. This voluntarydedication should be exclusively for religious purposes.The waqfproperty can neither be sold nor inherited or donated to anyone. It should be used for Shariah compliant projects only. ADVANTAGES OF ISLAMIC BANKING IN INDIA: The Islamic community could benefit from the initiative of Islamic banking to a large extent. Islamic banking can be an alternative to conventional Banking with different financial products but same goal of financial inclusion to be achieved. Islamic banking is not just for Muslims alone. It is available to non-Islamic community which can have a wider range of choices. The various advantages of Islamic banking are: a) Financial Inclusion A focus on financial inclusion has led to RBI and Government under Jan DhanYojna to bring the unbanked and financially excluded population under the formal banking system. Conventional banking system may be for some Muslims unacceptable as it is not in conformity with the Islamic law. Thus they remained excluded from conventional banking system. For the Muslims Islamic Banking could open new doors, enabling the betterment of this community and achievement of the goal of financial inclusion for all. 249
5. ZENITH International Journal of Multidisciplinary Research _________ISSN 2231-5780 Vol .9 (6), JUNE (2019), pp. 246-252 Online available at zenithresearch.org.in b) Inclusive Growth The goal of Inclusive growth can be fostered with Islamic banking as easier and cheap credit can be provided to large number of people with little or no collateral which can help to penetrate the banking facilities to lowest strata. c) SubstantialFlow of Funds Substantial flow of fundsIslamic banking will open avenues for flow of substantial funds in the market. It will help in mobilize large amounts of money from Muslims who participate very little or not at all in conventional banking system. d) Investment from Gulf Investment funds fromGulf countries Islamic banking will also help to channelize huge amount of Islamic investment funds from the Gulf countries that India is currently losing to other countries. It could help to foster dealings with Muslim dominated countries. e) Prohibition of Haraam Activities Islamicbanking prohibits investment in activities which are considered “haraam” under Islam such as gambling, alcohol, weapon, pornography etc. and promotes investment in real economic activities that shall lead to social welfare on the whole. f) Wider Financial Choices Wide range of financial products will be available to people as new modes of financing are introduced under Islamic banking. An alternative system of banking could promote competition, innovation, and efficiency. g) Niche Market Islamic banking is tailor made to meet the requirements of Muslim community which does not participate in conventional banking system due to their religious beliefs. As the demand for niche products is increasing in India, Islamic banking could prove to be beneficial for India. CHALLENGES FOR ISLAMIC BANKING IN INDIA: After many discussions, debates, meeting, committees held to weigh the pros and cons of Islamic Banking, it has not been implemented in India because of the following barriersa) No Pre-determined Return in the Form of Interest Conventional banks raise the depositsonly after a promising a pre-determined rate ofreturn on their deposits. However, returns underIslamic banking system will be determined onlyafterwards which is unviable under currentbanking system. b) Difficulties to Comply with SLR Requirements Banks have to comply with theSLR requirements of RBI under which thecommercial have to keep their funds in liquidform. A large amount of funds are locked up ascash, gold and government securities. Governmentsecurities are interest bearing, gold is risky asprice fluctuates and cash does not offer any return,making it unacceptable under Shariah Law. c) Destabilize Secular Nature It is argued that Islamic banking will destabilize the secular nature of the banking system of India. By amending banking and taxation laws to conform to a particular religion is going against the secular fabric of our nation. 250
6. ZENITH International Journal of Multidisciplinary Research _________ISSN 2231-5780 Vol .9 (6), JUNE (2019), pp. 246-252 Online available at zenithresearch.org.in d) Conduit of Terrorism Activities Concerns are being raised that Islamic banking can also open channels for terrorist groups to channel money into India. e) Political Weapon Islamic banking can be politically exploited and used as a political weapon. Any step to introduce Islamic banking can be interpreted as appeasing Muslims. f) Lack of Experts Lack of experts to develop a proper framework for Islamic banking in India also poses a barrier. g) Misconception that Islamic banking is only for Muslims Islamicbanking is having the misconception that it is meant onlyfor Muslims. Islamic banking is an alternative to conventional banking which is meant for people for all religions. Muslims who do not depend upon conventional banking as it does not confirm with the Shariah Law and remain financially excluded will majorly benefit from it. However, it is open for all. Islamic banking has barriers in India but it can be addressed with some flexibility andmodifications in regulations which ultimately depend upon the political will. With huge marketin India, influence from Muslim community forIslamic banking and recommendations byRaghuramRajan Committee on banking sector reforms, prospects seem better for Islamic bankingin India. Many countries have adopted Islamic banking which operates along with conventionalbanking. An analysis of this mixed bankingsystem in different countries can be made foraddressing operational issues in India. SWOT ANALYSIS OF ISLAMIC BANKING: STRENGTHS WEAKNESSES  Consistent with Shariah Law  Lack of Shariah experts  Consistent with religious beliefs of  Banking Regulation Act need to be Muslims modified.  Not debt based like conventional banking  Financial Inclusion OPPORTUNITIES THREATS  Attract investments from cash surplus  Micro finance may act as competitor Muslim countries  Political turmoil  Large Population of Muslims  Competition from conventional banking  Inclusive growth  Implementation of the uniform civil code will affect the Shariah laws/ instructions.  Conduit of terrorism  Secular Nature will be destabilized. CONCLUSION: The benefits highlighted in the paper suggests that Islamic banking has many advantages over conventional banking and the major being that it has the potential to increase financial inclusion which is crucial if India wants to become an economic giant in the near future. India, however, has been shying away from Islamic banks. The reason for the same is 251
7. ZENITH International Journal of Multidisciplinary Research _________ISSN 2231-5780 Vol .9 (6), JUNE (2019), pp. 246-252 Online available at zenithresearch.org.in probably more political than economic.The SWOT analysis undertaken for Islamic banking in India also reveals that India should open its doors to Islamic banking as the strengths and opportunities far out-weigh the weaknesses and threats. Thus, Islamic banking would be another alternative mode of banking that would strengthen market efficiencies with innovations and competition. REFERENCES:  Viverta, B. K.andSkully, M. (2007), “Efficiency Analysis of Islamic Banks in Africa, Asia and the Middle East”, Review of Islamic Economics, Vol. 11, No. 2, pp. 5-16.  Majid, K. (2012), “Efficiency Analysis by Using Data Envelopment Analysis Model: Evidence from Indian Banks”. International Journal of Latest Trends in Finance andEconomics Science, Vol. 2, No. 3, pp. 238-237.  Iqbal, M. (2001),“Islamic and Conventional Banking in Nineties: A Comparative Study”. Journal of Islamic Economic Studies, Vol. 8, No. 2, pp. 1-28.  Al-Qudah, A. M., &Jaradat, M. A. (2013),“The Impact of Macro Variables and Banks Characteristics on Jordanian Islamic Banks Profitability”, Empirical Evidence. International Business Research Journal, Vol. 6, No. 10, pp. 153-162.  Bhat, A. S. & Dar, A. M. (2015), “Islamic banking an emerging global industry: its scope in Kashmir.” Retrievedfrom: http://muslimmirror.com/eng/islamicbanking-an-emerging-globalindustry-itsscope-in-kashmir on November 11, 2016.  Khan, M.A. &Hussin, N., 2013. Islamic Banking in India: Developments, Prospects and Challenges. Retrieved from: http://papers.ssrn.com/abstract=2223935 on December 1, 2016. 252 View publication stats