Recent newspaper reports suggest that India will home to the largest Muslim population globally by 2050, surpassing even Indonesia. In light of India’s growing Muslim population, and subsequent need to address their financial needs, I attempt to make a case for the development of Islamic Finance in India in this post.
What is Islamic Finance?
As money of Muslim investors becomes increasingly integrated into the global capital markets and the international finance system, Shariah-compliant finance and investment products become crucial (Khaleq & Richardson, 2007). There are two sources of Islamic Law- primary sources which are namely the Quran, sunnah and the ahadith. Secondary sources include Ijma which are general principles, Qiya or precedent and ijtihad which are the opinions of scholars. Shariah Law is the law that governs Islamic Financial products. Now, you may ask why we have Islamic Finance in the first place? Can’t Muslim investors just invest in stocks and trades and make bank deposits just like we do? Well, the answer lies in the four prohibitions or haram under Islamic Law. They are:- Riba, or a prohibition on increments. This is commonly understood to be a prohibition on interest. The rationale for the riba is to prevent excessive commercial exploitation. It stipulates that money has no intrinsic value of its own, and therefore cannot be the subject of increments. For there to be valid increments, there must be a tangible underlying asset. Gharar , or the prohibition on contracts of luck or chance. It prohibits speculative and uncertain investments. It works as an extension of the riba principle, as it seeks to prevent borrowers with means to invest in risky financial products. Maisir, or the prohibition of certain explicit haram activities such as alcohol, prostitution and the like. Most activities which are considered maisir are unlawful in most jurisdictions or are heavily regulated. Unjust enrichment, or gain by virtue of another person’s labour. The concept is similar to that under common law, however the burden of proof under Shariah law is much less. The touchstone of Islamic Finance is riba or the prohibition of increment or interest. Thus, in order to facilitate Shariah-compliant products, each financial structure takes note of the four prohibitions and structures the transaction around these restrictions.
Why do we need to develop it in India?
I identify two major reasons for the development of Islamic Finance in India. First, given India’s substantial Muslim population, there is not just huge potential for the growth of Islamic Finance but also an inherent need for it. In 2010, there were 176 million Muslims living in India, and this is projected to rise to 310 million by 2050, making India home to the largest Muslim population in the world. Second, there is a need to enhance financial inclusion of Muslims in India, which has not been done substantially because the Indian Banking and Financial system has failed to take note of Islamic Financial principles and subsequently failed to develop financial products like the Middle East and Europe. Most Muslims are self-employed and most Muslim investments are not adequately supported by banks (from here. )
What have we done so far?
In 2008, a High Level Committee on Financial Sector Reform, which was headed by present RBI Governor Raghuram Rajan recommended the need to develop Islamic Finance in India. However, nothing material emerged from such recommendation. In 2013, Kerala successfully received regulatory approvals and is the only state in the country with the presence of structured Islamic Finance. Despite these developments, Islamic Finance development is still in its nascent stages.
What are the challenges ahead?
The foremost consideration for the development of Islamic Finance in India is the development of comprehensive legislation, rules and regulations governing the same. In 2012, former RBI Governor D. Subbarao opined that present regulations and rules do not allow the operation of Islamic Finance in India, and this poses a major hindrance to achieving complete financial inclusion, given India’s prominent and growing Muslim population. The laws that govern Banking in India are the Reserve Bank of India Act, 1934, Banking Regulation Act of 1949, and the archaic Negotiable Instruments Act of 1881. The core provisions of all of these legislation stand in direct conflict with the principles of Islamic Finance. For instance, Section 21 of the Banking Regulation Act mandates the payment of interest on deposits, which is expressly prohibited under the riba principle. Something as simple as opening a deposit in a bank proves to be impossible for Muslim investors. Furthermore, present laws do not allow for Shariah– compliant structures as well. Section 8 of the Banking Regulation Act stipulates that no banking company can deal in the buying or selling or bartering of goods. This makes it impossible to have Shariah-compliant structures such as Murabaha (a structure based on the buying and selling of tangible assets for a pre-determined mark up). This highlights the extent of the need for the growth and development of Islamic Finance in India (from here) .
Conclusion
In the past year, India has gained prominence as the front-runner in the world economy, with the coming in of a new government and a myriad of economic and socio-economic reforms. The growth of the Indian economy shows tremendous promise in the coming months. It is against this background that a strong case for the development of Islamic Finance arises- India’s growing Muslim population and the need to integrate them into the financial system. These two factors not only present a huge potential market for Islamic Finance, but also a need or it. Unfortunately, the present regulatory framework contradicts and restricts from such a potential market from developing, and hampers any financial inclusion for Muslims. Thus, there is an inevitable need for development comprehensive legislative and regulatory mechanisms for the growth of Islamic Finance in India.
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