Malaysia And Islamic Economics Projects

Ma lay sia an d Isl amic Ec on omics Saiful Azhar Rosly, Ph.D1

International Center for Education in Islamic Finance (INCEIF) (Paper presented at the Hadhari Economics Roundtable Conference, Universiti Kebangsaan Malaysia, 25th November 2008, MALAYSIA)

1.0 Introduction

Islamic economics as a subject is relatively new in Malaysian universities but practically unknown in corporate business. People may have heard about Islamic finance but there has been relatively less discussion latelyon Islamic economics and many may think that these two are the same.

To some extent there are similarities between these two fields of studies since economics is the mother knowledge of business and finance. The same is true for Islamic economics. But Islamic economics today as a discipline is still a baby although Islamic history is rich with economic lessons and policies crafted by the early Caliphates to suit the needs of Muslim nations then. Currently, Islamic economics has relied tremendously on the Shariah and Islamic commercial law (fiqh muamalat) with its undue emphasis on fiqh2. 1

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The prohibition of riba (usury) and the implementation of the zakat system has been the backbone of Islamic economics, thus it is not surprising that Islamic economics is sometimes labeled as capitalism minus riba plus zakat. Focus on the financing aspects of economic activities has been overwhelming. It is normal to see discussions on Islamic economics to revolve around financial issues such as banking and the capital market. Islamic finance seemed to have overtaken similarly important issues such as economic methodology, the problem of the consumer and the firm, market structures, factor markets, public finance, poverty and economic development.

But Islamic economics is not about financial institutions alone. It seeks to examine the behaviour of man in the market place, his likes and dislikes and how these tendencies have impacted his way of conducting economic activities.

This essay looks at 4 basic phenomenon’s or more accurately projects of Islamic economics in Malaysia. These are:

a) b) c) d) e) f)

Teaching of Islamic economics Islamic Finance Dinar movement Halal Hub Expanding the Zakat base. Cash Waqf.

2.0 Teaching of Islamic Economics

There two basic questions one must be able to find answers in teaching Islamic economics at college or university. First, concerns the reasons for conducting economic activities. That is, why people buy 2

Fiqh which literally means “understanding” constitutes rules and regulation derived from human intellection by way of Ijtihad when explicit text nass from the Quran and Sunnah concerning the problem at hand is not found.

and sell? Or why people work for a living or invest to make money? The problem at hand is how is Islamic economics defined? Or how to best understand Islamic economics as field of study. One way is to take a look at the textbook concept of scarcity. This is where the study of economics begins. Others may reject this approach but I’ve so far found no convincing modality.

As expected, the teaching of Islamic economics at Malaysian local universities has no uniformity. Students are guinea pigs to passionate academics, including me. Some teachers rejected scarcity and use the Marxian approach instead, where the central issue in economics is not about resource allocation (ie due to scarcity) but about income and wealth distribution. Marxists said that resource allocation is useless when ownership of resources fall into the hand of the filthy rich, the bourgeois. Confused academics further rejected the maximization hypothesis putting it at par with greed and acute materialism even to some extreme kufr.

Scarcity however makes some sense, assuming that ownership of resources is garnered within Islamic law3. I have chosen to stay within this parameter. Islam has no objection to the concept of scarcity because scarcity is a fact of life. It exists when the necessary resources for producing things are not enough to satisfy all wants. Scarcity to an economist is like gravity to a physicist. It is a fundamental principle in the study of economics. Economists say that scarcity arises when available resources are not sufficient to fulfill human wants. In other words, economists have made two general assumptions about the universe and mankind, namely:

a) Assumption about the universe – Limited resources b) Assumption about man – Unlimited human wants

Islam does not see the above assumptions are false and evil. In fact Islam recognizes scarcity as nature’s way arising from the two inherent conflict between wants and ability. The limited resources assumption 3

Property ownership of by virtue of work and effort (kasb,ikhtiyar), risk-taking (ghurmi), gifts (hibah and wasiyah) and inheritance (faraid).

is made to show that man’s ability to exploit resources is limited by his knowledge. In this manner economics looks at relative scarcity and not absolute scarcity. The same applies to Islamic economics. There is no absolute scarcity in Islam because the Quran says: “It is Allah Who hath created the heavens and the earth and sends down rain from the skies, and with it bringth our fruits wherewith to feed you; it is He who hath made the ships subject to you, that they may sail through the sea by His Command; and the rivers (also) hath He made subject to you. And He hath made subject to you the sun and the moon, both diligently pursuing their courses; and the Night and the Day hath He (also) made subject to you. And He giveth you of all that ye ask for but if ye count the favors of Allah, never will ye be able to number them”.

Islam also recognizes that human desires are not limited. This is further attested by the Quran and Traditions that:

“Surely man is created greedy and impatient” (70:19) “Fair-seeming to men is made the love of desires, of women and sons and hoarded treasures of gold and silver and well-bred horses and cattle and tilth: (3:13) “And you love wealth with exceeding love” (89:20) “He thinks that his wealth will make him abide” (104:3) “If man is given a valley of gold, certainly, he wants the second and third one” (Sahih Hadiths)

Scarcity in Islam is through and through, a tabi’phenomenon. Therefore, when scarcity exists, nature empowers people to make choices (ikhtiyar) as nothing is available for free anymore. Let’s look at the problem of choice in economics and how they affect our lives.

Economists usually say that with scarcity, nothing can be obtained without costs. Hence economics is a science or art of making choices dealing with the following questions:

•

What goods and services people want and how much? This is the problem of the consumer.

•

What is the most efficient method to produce goods and services that people want? This is the problem of the firm

•

How to reward factor inputs such as labour, land and capital taking part in the production of goods and services that people want?

•

How to reduce unemployment and inflation? This is the problem of the government.

•

How to promote economic growth given the available supply of labor and capital resources. This is the problem of the market and government.

Making these difficult choices definitely requires knowledge. Making correct decisions based on knowledge defines what the study of economics is all about. The main focus of economic study is man himself. The knowledge he uses to make correct decisions is expected to help him find ways to overcome the problem he encountered in allocating scarce resources. The knowledge sought must give him a sense of certainty since any form of "knowledge" that bound to create uncertainty and doubts would be of no use for him in making the right decision.

In mainstream economic textbooks, the term “economic principle” is often used to mean the fundamental law of economics, which is knowledge itself. In fact, these principles are the well-established economic theories that have passed through numerous tests. They have become economic laws that serve to guide the decision-making of consumers, producers, capitalists, workers, investors and government alike.

However, these economic laws (i.e. economic knowledge) are the product of the intellect (‘aql)alone with the scientific method to dictate what truth is. Although Islam acknowledges the role of the intellect (‘aql) and sense experience as a source of value and knowledge, ultimately revelation i.e. Divine guidance (wahy) is put above them both.

In this regard revelation in Islam, becomes the primary source of economic principles with reason and experience playing the supportive role. The latter is popularly known as economic theory while the former is embodied in the economic system. This means that fundamental laws and regulations governing resource allocation fall under the realm of divine guidance. These fundamental laws are manifested in the Islamic economic system.

The next question is why should man submit himself to the rules and regulation ordained by God? That is, why must he obey God in conducting economic activities? Why can’t he resort to reason and facts in making resource allocation choices? The answer lies in the conception of Islam as al-Din. Islam in general means submission. Islam as al-din is also understood as a way of life. Interestingly, one of the meanings of din is indebtedness, i.e. man indebtedness to his Creator. The term din is extracted from the root word dyn. It is this notion of indebtedness that gives deeper meaning to the reason for human economic existence in Islam.

Hence the teaching of Islamic economics should move beyond the study of usul-fiqh and fiqh muamalat and other fiqh related dimensions dealing with public finance and the role of the state. Equally important is the study of philosophy, theology and the theory of akhlak ie ethics/morality as these are the underlying parameters influencing and shaping human behavior.

3.0 Islamic Finance Islamic finance today is a buzzword that no one actually knows what it stands for. Early in the 60’s scholars wrote passionately about Islamic economics. In the 70’s and 80’s the euphoria was the Islamic banking business. Now it’s Islamic finance. Across the globe, right from London to Dubai to Kuala Lumpur and Hong Kong, business forums on ‘Islamic finance” have spread like mushrooms. Harvard University called it ‘Islamic Finance Forum”. We have “Islamic Finance News” in Kuala Lumpur. And many more “International Islamic finance forum”

held in Dubai, New York and Bahrain. Malaysia’s International Islamic Financial Center (MIFC) was set up to make Malaysia a major Islamic financial hub in the world. And Bank Negara Malaysia practically sponsored the establishment of a university INCEIF that specifically offers post-graduate degrees on Islamic finance. What is Islamic finance? In the academia, the term ‘finance’ usually points to the finance department that offers courses such as corporate finance, managerial finance, international finance, financial planning and financial derivatives. So, does Islamic finance refers to these bodies of knowledge? Not really. Finance or financing means giving money to someone as a loan or shares. So the entity that provides the financing is one that has the surplus money. It can be a bank. So, when an Islamic bank gives the financing, it concerns Islamic banking. Certainly, when the financing is given by the public via bond and share issuances, it is quite accurate to see Islamic corporate finance in play. When an Islamic financial institution pays the Zakat, we now see Islamic public finance in action. It deals with the government’s role in collecting zakat from the wealthy and distributing the proceeds to the deserving zakat recipients. Thus, in total Islamic finance looks like something that encompasses banking, corporate and public finance and of course the Shariah discipline. Then throws in takafuland wealth planning to fill up the loop. We then look at books written about Islamic finance. We have the John Wiley Islamic finance series. A book by Muhammad Ayub called “Principles of Islamic finance” examines the Shariah and Islamic contracts, banking and sukuks plus Islamic stocks and mutual funds. Zamir Iqbal and Abbas Mirakkor wrote “Introduction to Islamic finance” put similar points. El-Gamal critical outlook of Islamic finance is well-known in his celebrated work “Islamic finance-law, economic and practice”. Even Taqi Usmani’s book is named after “Islamic finance”. What we see in the above, is that Islamic finance represents a body of knowledge constituting the Shariah, economics, banking and the capital market. It deals with Shariah based financing given by the banking firms, the capital market, the venture capitalist, the high networth individuals and government To set a level playing field, rules

and regulation are put forth by the regulators concerning licenses, taxation, dispute resolutions and Shariah interpretations. The bulk of the knowledge seemed to take off with the Islamic banking business. Since 1960’s academic papers on Islamic banking are aplenty. But less work are evident in Islamic corporate finance. For example, what causes companies to use sukuk rather Shariah compliant shares in raising capital? What is the optimal capital structure of a firm seeking Shariah compliant status? How is CAPM applied in Islamic fund management? What is the Islamic conception concerning cost of equity capital and cost of sukuk capital? These are not discussed in the business forums on Islamic finance where marketing or promotion is the central agenda. The basic theoretical underpinnings of Islamic finance is in utter neglect in these meetings. To wrap up, I can say that Islamic finance at this moment is a field of study and professional practice that concerns the Shariah compliant status of the banking, takaful, investment, fund and wealth management business. 3.0 The Dinar Movement The Dinar movement in Malaysia in essence does not believe in Islamic finance. They saw payment settlement and transactions Islamic banking as still driven by the fiat money system and hence, money in the Islamic financial system is created out of thin air rather than one supported with gold (dinar). The dinar movement is also critical about the nature of credit financing in Islamic banks as opposed to the Quranic conception of trading (al-bay). This is only natural since real asset sale does not actually took place in most of the credit sale transactions in Islamic banks today. The dinar movement brought many positive proposals to reform the monetary system. Certainly, the fundamental principle is to use gold as the medium of exchange. One central issue is inflation. Too much money created out of nowhere will spell disaster to the price level. Using gold or dinar as money will provide a catalyst to enrich some theoretical conception of money in Islam or bringing back Islamic history to enlighten us about the use of dinar as money during the Islamic Caliphates. However some of the prescriptions of the dinar movement are quite erroneous. One of these prescriptions is to invest one’s savings in gold. Eventually, one saw the movement, at least locally, turning into a commercial affair. Proponents of dinar were associated with companies

whose interest is to convert gold bullion into dinar coins. These companies were able to garner license from the Royal Mint to do so. They purchase the bullion from the Royal mint and convert the bullions into gold coins. The coins were sold to agents and distributors at a margin. Suppose 1 dinar coin is worth RM200 wholesale. It is passed to distributor for RM230 each, who will sell at retail say, RM250 each. People can gain when the value of gold increases as sells the dinar later at say, RM300 each. The man in the street has been convinced by the movement about the evils of the US dollar, that the prime value of the dollar was orchestrated by the Zionists. The dollar was created out of nothing as the US government can lend without limits since they have the ultimate power to print the greenback without any backing of assets. With gold to back money will curtail US agenda to hold world economic power. The point is, of course there are some truths on the above. However, the remedy ie. buying dinar coins as an investment is even more destructive. This movement encourages people to hoard money in the form of gold. Ideally, the money can be invested in joint-ventures to produce new jobs and new good and services. We must know that that spending one savings to buy the gold coin is equivalent to ihtikar or hoarding, which is prohibited in Islam. When one purchases gold as an investment, he must pay zakat on the gold. When gold is hoarded, it will not lose value by virtue of the 2.5% zakat payment, but the owner pays the zakatfrom his other pocket. Undoubtedly, Gold coin can be used as a medium of exchange. But when the coins are kept in the vault for safekeeping rather than in circulation, it disrupts the supply of money. This was the root cause of hyperinflation in the Mamluk era when, dinar coins as money were converted by corrupts officials into utensils and decorative accessories. I was also notified that these gold coins can also be used as collateral (rahn)for interest-free loans (qard hasan) through certain Islamic bank pawn broking business. We know well that this pawn broking business is a form of back door riba as cost of debt is hidden under cost of safe-keeping (wadiah amanah). And further more, the qard hasan further leads to more money creation under the fiat-based monetary system. 4.0 The Halal Hub

The Halal Hub is an important Islamic economic project that epitomizes the demand for purity in the production sector, particularly in the food processing, cosmetics and pharmaceutical business. Impurities from non-permissible sources of the food chain such as pig and swine products are rigorously screened through arrays of processes to ascertain permissibility and cleanliness. The Halal Hub is exactly the place wherein Islamic economic principles can be applied to the firms embracing the halal labelling. These economic principles can be identified in three basic operations of the company, namely: a. Production: It deals with the application of science and technology in producing outputs that benefits (manfa’ah) mankind. Allah swt has given man the faculties of sight, hearing, smell, touch and taste to complement his power of intellection (‘aql) to pursue and discover the Signs of Allah swt (Ayat) through scientific investigation and innovation. Thus, basic research and commercialization of new findings should enrich the production sector with products that are both permissible and pure. b. Human resource management: The legal and ethical dimension of the Shariah is critical in this business operation to achieve efficiency and most importantly justice in the working place. The employer-employee relationship is driven by Islamic contracts (‘aqd) wherein employees received proportionate rewards from the effort and services rendered. The principle of mutual consultation (shura) and cooperation (ta’awun) should become an integral component of human resource management. The principal-agent and employeremployee relations buttressed on taqwa4 are expected to remove potential moral hazards arising from asymmetrical information in the firm. Taqwa nurtures harmony in the working place when work is consciously felt as ibadah over that of subordination, stress and anxiety. c. Financing: Fulfilling capital needs for Halal business communities is critical. These small and medium sized companies (SMEs) are usually surviving on bank loans. Spiked with the usual SME’s tribulations such as lack of collaterals, low technology usages, archaic management skills and small market penetration, the halal 4

Taqwa has been interpreted by many scholars as God-fearing but an accurate meaning is Godconsciounsness or awareness.

SMEs deserve more from the Islamic economics. One is certainly spurning up their business plans in search for new capital. Prevailing Islamic banking assistance in the form of bay inah and murabahah facilities are not helping these halal SMEs in view of the collateral they do not usually have. Partnership financing should more suitable to attend their needs. Unfortunately, Islamic banks do not provide partnership facilities in view of the high risk involved in doing business with SMEs. This should have not taken place given that the fundamental principle of Islamic banking is based on al-bay (trade and commerce) where risk-taking under the rule of alghorm bil ghonm or “reward comes with risk” predominates in all aspects of banking transactions. Partnership financing such as the musharakah and mudarabah financing usually look at the strength of cash flows of the projects at hand. Collateral and guarantors to the facilities are not important as in interest-bearing loans, although they provide comforts. To undertake this project poses a great challenge to Islamic economists who should be able to provide financial models for pricing risks. They can also learn from venture capitalist and private equities to accommodate new parameters required by Shariah. 5.0 Expanding Zakat base Zakat plays a pivotal role in poverty eradication and income redistribution of the Muslim people and it forms a critical component of public finance in Islam. Zakat administration in essence deals with the collection of Zakat from Zakat payers and distribution of Zakat to the 8 recipients (asnafs). In the Federal Territories, zakat administration is within the statutes of Federal government while in the nine Malay States, it falls under the purview of the State Religious Councils. The increasing number of shareholdings by Muslims in business corporations as well as companies using the Islamic label such as Islamic banks and takaful companies has provide strong basis for a systematic and efficient zakat system of collection and distribution. The Securities commission provided quarterly report of Shariah compliant companies in the local bourse averaging around 850 companies per listing. The Shariah screening is based on the Securities Commission’s formula involving qualitative or core business screening and financial screening. The latter serves to minimize indirect contact with interest in the profit and loss statement.

Incidentally, the screening is a passive one, which means that listed companies put no request to become the object of screening. However, this may change when local companies are actively looking for capital, while capital is abundant in the Arab countries. To fulfill Arab values, namely Islam, these companies may have to ask the regulatory authorities and even private companies to conduct the screening based on several models including Dow Jones and FTSE. The screening formula may even require the company to pay zakat on behalf on existing Muslim shareholders, if any. Currently Islamic banks have contributed positively to zakat. When we put together zakat from Shariah compliant companies, the zakat base will get bigger and hence the collection too. Distributional issues have been heartache to many observers, which can be discussed in other occasions 6.0 Cash Waqf Waqf is a religious endowment and it involves giving away one’s property such as plot of land for Muslim religious or charitable purposes. More waqf were made as people become wealthy, which means that waqf expanded with the level of economic growth and development. The institution of waqf in Islam constitutes the backbone of economic development in early Islam. Waqf properties can be used as capital when allowed by the founder (waqif). In the past, schools, hospitals and public amenities were funded by waqf, thus relieving state expenditure. Making waqf is driven and motivated by the ahadith that says, “when the son of Adam died, his good deeds stopped except those from three sources, namely the prayers of his pious children, his charities (one of which is waqf) and his knowledge that people benefited from”. One type of waqf is cash waqf, wherein the founders gave away cash instead of tangible assets. This is more pragmatic when people may find it difficult to donate properties in large amounts or in the form of physical assets. In waqf, the waqf property shall remain intact or preserved while the usurfruct is appropriated and used by the beneficiaries. In the case of cash waqf, the mutawallis (trustee) can draw various models to accommodate how the usurfruct can be best utilized by economic agents. If it is capital that is needed, the usurfruct (and not the waqf property) can be used as capital in project finance, either given away as a grant or an interest-free loan or equity. In this way waqf is a

potent tool in communities. Thank You www.inceif.org

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