In Understanding Islamic Finance Muhammad Ayub introduces
all the essential elements of this growing market by providing an
in-depth background to the subject and clear descriptions of all
the major products and processes associated with Islamic finance.

Key features include:

* Discussion of the principles of Islamic finance;

* Introduction to the key products and procedures that
International Financial Institutions are using or may adopt to fund
a variety of clients ensuring Shari ah compliance;

* Discussion of the role Islamic finance can play in the
development of the financial system and of economies;

* Practical and operational examples that cover deposit and fund
management by banks involving financing of various sectors of the
economy, risk management, accounting treatment, and working of
Islamic financial markets and instruments.

This book is not only an important text for all banks and
financial institutions entering this particular market with a
commitment to building Islamic financial solutions, but is also
essential reading for undergraduate and postgraduate students of
Islamic finance.

MUHAMMAD AYUB is Director Training, Development and Shari'ah Aspects at IIBI, London. Formerly, he was with the State Bank of Pakistan (central bank) where he headed the Islamic Economics Division and Shari'ah Compliance Division as Senior Joint Director in the Research and Islamic Banking Departments. He also served as Head of Islamic Banking at NIBAF, the training wing of SBP. Besides contributing a large amount of material, he has been serving as Master Trainer on theory and practice of Islamic finance.
For last two decades, he has been involved in R&D for facilitating I.B. Industry, Products Development, IB Prudential regulations, Risk management and Shari'ah related controls and audit of Islamic banking institutions. This, along with his association with various Commissions set up from time to time on application of Islamic banking system, has lent him a pragmatic and balanced approach, a prerequisite for presenting such a book.

Key features include:

• Discussion of the principles of Islamic finance;
• Introduction to the key products and procedures that International Financial Institutions are using or may adopt to fund a variety of clients ensuring Shar´ah compliance;
• Discussion of the role Islamic finance can play in the development of the financial system and of economies;
• Practical and operational examples that cover deposit and fund management by banks involving financing of various sectors of the economy, risk management, accounting treatment, and working of Islamic financial markets and instruments.

This book is not only an important text for all banks and financial institutions entering this particular market with a commitment to building Islamic financial solutions, but is also essential reading for undergraduate and postgraduate students of Islamic finance.

List of Boxes and Figures xvii

Foreword xix

Preface xxi

Acknowledgements xxv

PART I FUNDAMENTALS 1

1 Introduction 3

1.1 Economic Scenario in the Neoclassical Framework 3

1.2 Conventional Debt: A Recipe for Exploitation 4

1.3 Growth per se May not Lead to Socio-economic Justice 6

1.4 Social Welfare Activities of the States 8

1.5 The Main Culprit 8

1.6 The Need of the Hour 9

1.7 Economics and Religion 10

1.8 Islamic Principles Can Make the Difference 11

1.9 Regulating Trade and Business 13

1.10 Islamic Finance Passing Significant Milestones 15

1.11 Could it Work to Achieve the Objectives? 16

1.12 About this Book 17

2 Distinguishing Features of the Islamic Economic System 21

2.1 Introduction 21

2.2 Islamic Shari ah and its Objectives 21

2.3 Why Study Islamic Economics? 25

2.4 Islamic Economics: What should it be? 30

2.5 Paraphernalia of Islamic Economics 32

2.6 Summary 41

3 The Main Prohibitions and Business Ethics in Islamic Economics and Finance 43

3.1 Introduction 43

3.2 The Basic Prohibitions 43

3.3 Business Ethics and Norms 64

3.4 Summary and Conclusion 70

4 The Philosophy and Features of Islamic Finance 73

4.1 Introduction 73

4.2 The Philosophy of Islamic Finance 73

4.3 Debt versus Equity 85

4.4 Islamic Banking: Business versus Benevolence 86

4.5 Exchange Rules 87

4.6 Time Value of Money in Islamic Finance 89

4.7 Money, Monetary Policy and Islamic Finance 90

4.8 Summary 96

PART II CONTRACTUAL BASES IN ISLAMIC FINANCE 99

5 Islamic Law of Contracts and Business Transactions 101

5.1 Introduction 101

5.2 Mal (Wealth), Usufruct and Ownership 101

5.3 General Framework of Contracts 105

5.4 Elements of a Contract 106

5.5 Broad Rules for the Validity of Mu'amalat 110

5.6 W'adah (Promise) and Related Matters 114

5.7 Types of Contracts 117

5.8 Commutative and Noncommutative Contracts 124

5.9 Conditional or Contingent Contracts 126

5.10 Summary 127

6 Trading in Islamic Commercial Law 129

6.1 Introduction 129

6.2 Bai' - Exchange of Values 130

6.3 Legality of Trading 131

6.4 Types of Bai' 133

6.5 Requirements of a Valid Sale Contract 133

6.6 Riba Involvement in Sales 142

6.7 Gharar - A Cause of Prohibition of Sales 143

6.8 Conditional Sales and "Two Bargains in One Sale" 144

6.9 Bai' al'Arbun (Downpayment Sale) 145

6.10 Bai' al Dayn (Sale of Debt) 146

6.11 Al 'Inah Sale and the Use of Ruses (Hiyal) 147

6.12 Options in Sales (Khiyar) 150

6.13 Summary 152

7 Loan and Debt in Islamic Commercial Law 155

7.1 Introduction 155

7.2 The Terms Defined 155

7.3 Illegality of Commercial Interest 157

7.4 Loaning and the Banking System 158

7.5 Guidance from the Holy Qur'an on Loans and Debts 159

7.6 The Substance of Loans 159

7.7 Repayment of the Principal Only 160

7.8 Time Value of Money in Loans and Debts 160

7.9 Instructions for the Debtor 161

7.10 Instructions for the Creditor 162

7.11 Husnal Qadha (Gracious Payment of Loan/Debt) 162

7.12 Remitting a Part of a Loan and Prepayment Rebate 163

7.13 Penalty on Default 165

7.14 Hawalah (Assignment of Debt) 167

7.15 Security/Guarantee (Kafalah) in Loans 168

7.16 Bai' al Dayn (Sale of Debt/Debt Instruments) 172

7.17 Impact of Inflation on Loans/Debts 172

7.18 Summary 174

PART III ISLAMIC FINANCE - PRODUCTS AND PROCEDURES 177

8 Overview of Financial Institutions and Products: Conventional and Islamic 179

8.1 Introduction 179

8.2 What is Banking or a Bank? 179

8.3 The Strategic Position of Banks and Financial Institutions 180

8.4 Categories of Conventional Financial Business 181

8.5 The Need for Islamic Banks and NBFIs 185

8.6 The Issue of Mode Preference 195

8.7 Islamic Investment Banking 199

8.8 Islamic Financial Markets and Instruments 199

8.9 Summary and Conclusion 211

9 Murabaha and Musawamah 213

9.1 Introduction 213

9.2 Conditions of Valid Bai' 214

9.3 Murabaha - a Bai' al Amanah 215