Economic and Financial system, Financial markets and Islamic applications

Class Lecture

Islamic Financial System (Fin-5402)

Economic and Financial system, Financial markets and Islamic applications

Economic system:

An economic system is a collection of institutions set up by society to deal with the allocation of resources, production and goods and services, and the distribution of the resulting income and wealth.

Islamic Economic system:

A collection of institutions (that is, formal and informal rules of conduct and their enforcement characteristics) designed by the Law-Giver (that is, Allah (swt) through the rules prescribed in the Qur’an, operationalized by the sunnah of the Prophet (pbuh) and extended to new situations by ijtihad) to deal with allocation of scarce resources, production and the exchange of goods and services and the distribution of the resulting income and wealth.

Types of economy:

1.      Market/Capitalist Economy: is one in which individuals and private firms make the major decision about production and consumption Market economy: an economy that allocates resources through the decentralized decisions of many firms and households as they interact in markets for goods and services. Example-UK (came to close in 18^th century).

2.      Laissez – faire economy: the extreme case of a market economy, in which Governments keeps its hands off economic decisions, is called a Laissez – faire economy.

3.      Command/Planned/Centralized/Communist/Socialist Economy: is one in which the government makes all important decisions about production and consumption. Example-ex-soviet union

4.      Islamic Economy: the economy which runs according to the law of welfare, justice and Islamic Shariah. Example-Medina state in 7^th century, Iran (came to close).

5.      Mixed Economy: it includes the elements of both market and command economy. Example-almost all economy of the world, Bangladesh, India etc

Comparative analysis of different doctrines:

Figure-1: Economic Doctrines of life

Capitalism	Communism	Islam
Worldly life & confused about Hereafter life	worldly life is the only life & no Hereafter life	Worldly life & Hereafter life
There is a GOD but forget in daily life	There is no GOD or creator	ALLAH is the only creator and God
Self-satisfaction	Self-satisfaction through state intervention	Satisfaction of ALLAH
Self-interest &Rationalism is the sole authority of decision making	Rationalism and state is the sole authority of decision making	Individualism &Rationalism through moral filtering is a part of  decision making
Competitive market: survival for the fittest	State control the market	Combination of competition and state intervention: Humanity & Philanthropy
No value judgment	No value judgment	Value judgment, social, national, cultural values
Independent of revealed religion, Religion is unreliable	No religion	Religion is key determinant
Earning at any way	Earning at any way	Earning at honest way
Economic Laws are like physical laws	Economic Laws are like physical laws	Economic laws are like natural laws
Economics is a positive science as like as biology, physics which have no value, value neutral	Economics is a positive science as like as biology, physics which have no value, value neutral	Economics is value oriented. Permissible & prohibition have to be observed
Little concern for poor humanity	Theoretically, concern for poor humanity but not practically	Major concern for poor. Poverty alleviation by Zakat, Sadaqa & gives emphasis on economic progress

Figure-2: Stages of life and difference in Visions of two consumers (Schematic chart)

Islamic  man	Conventional man
Born (coming from Heavenly life) ↕ Education life (worldly+ Religious) ↕ Working/professional life (earning an honest way directed by Religion) ↕ Family life (Religious) ↕ Life Style (Moderate/simple life style) ↕ Worldly life (Enjoy the worldly life & Prepare for Hereafter life) ↕ Retired life (reading, travelling, Ibadah, etc.) ↕ Death (start the journey for Hereafter life )	Born (Natural Law of human life) ↕ Education life (worldly) ↕ Working/professional life (earning an any way) ↕ Family life (Wealth) ↕ Life Style (Luxurious life style) ↕ Worldly life (Enjoy the worldly life-Only place for success & rewards) ↕ Retired life (reading, travelling, etc.) ↕ Death (Natural departure)

Financial system:

A financial system consists of institutional units and markets that interact, for the purpose of mobilizing funds for investment and providing facilities, including payment systems, for the financing of commercial activity.

An institutional unit is an entity, such as a household, corporation, or government agency, that is capable in its own right of owning assets, incurring liabilities, and engaging in economic activities and transactions with other entities.

The role of financial institutions within the system is primarily to intermediate between those that provide funds and those that need funds, and typically involves transforming and managing risk. Particularly for a deposit taker, this risk arises from its role in maturity transformation, where liabilities are typically short term (for example, demand deposits), while its assets have a longer maturity and are often illiquid (for example, loans). Financial markets provide a forum within which financial claims can be traded under established rules of conduct and can facilitate the management and transformation of risk. They also play an important role in identifying market prices (“price discovery”).

Structure of Financial System: The main constituents of financial system are:

1.      Financial Institutions

2.      Financial Instruments, and

3.      Financial Markets.

1.      Financial Institutions

The modern name of Financial Institution is Financial Intermediary (FI), because it mediates or stands between ultimate borrowers and ultimate lenders and helps transfer funds from one to another. The Financial system helps production, capital-accumulation and growth by encouraging savings and allocating them among the alternative uses and users.

Overview of Financial system of Bangladesh 

The financial system of Bangladesh is comprised of three broad fragmented sectors:

1.      Formal Sector

2.      Semi-Formal Sector

3.      Informal Sector

The sectors have been categorized in accordance with their degree of regulation.

1.      The formal sector includes all regulated institutions like Banks, Non-Bank Financial Institutions (FIs), Insurance Companies, Capital Market Intermediaries like Brokerage Houses, Merchant Banks etc.; Micro Finance Institutions (MFIs). 

2.      The semi-formal sector includes those institutions which are regulated otherwise but do not fall under the jurisdiction of Central Bank, Insurance Authority, Securities and Exchange Commission or any other enacted financial regulator. This sector is mainly represented by Specialized Financial Institutions like House Building Finance Corporation (HBFC), Palli Karma Sahayak Foundation (PKSF), Samabay Bank, Grameen Bank etc., Non Governmental Organizations (NGOs and discrete government programs. According to statistics of Bangladesh NGO Bureau, 2356 NGOs are working in Bangladesh (31th  December, 2014)

3.      The informal sector includes private intermediaries which are completely unregulated.

1.      Formal Sector

A.    Banks:

After the independence, banking industry in Bangladesh started its journey with 6 nationalized commercialized banks, 2 State owned specialized banks and 3 Foreign Banks. In the 1980's banking industry achieved significant expansion with the entrance of private banks. Now, banks in Bangladesh are primarily of two types:

1.      Scheduled Banks: The banks which get license to operate under Bank Company Act, 1991 (Amended in 2003) are termed as Scheduled Banks.

2.      Non-Scheduled Banks: The banks which are established for special and definite objective and operate under the acts that are enacted for meeting up those objectives, are termed as Non-Scheduled Banks. These banks cannot perform all functions of scheduled banks.

1.      Scheduled banks:

There are 56 scheduled banks in Bangladesh who operate under full control and supervision of Bangladesh Bank which is empowered to do so through Bangladesh Bank Order, 1972 and Bank Company Act, 1991. Scheduled Banks are classified into following types:

State Owned Commercial Banks (SOCBs): There are 5 SOCBs which are fully or majorly owned by the Government of Bangladesh.

Specialized Banks (SDBs): 3 specialized banks are now operating which were established for specific objectives like agricultural or industrial development. These banks are also fully or majorly owned by the Government of Bangladesh.

Private Commercial Banks (PCBs): There are 39 private commercial banks which are majorly owned by the private entities. PCBs can be categorized into two groups:

Conventional PCBs: 31 conventional PCBs are now operating in the industry. They perform the banking functions in conventional fashion i.e interest based operations.

Islami Shariah based PCBs: There are 8 Islami Shariah based PCBs in Bangladesh and they execute banking activities according to Islami Shariah based principles i.e. Profit-Loss Sharing (PLS) mode.

Foreign Commercial Banks (FCBs): 9 FCBs are operating in Bangladesh as the branches of the banks which are incorporated in abroad.

2.      Non-Scheduled Banks:  There are now 4 non-scheduled banks in Bangladesh which are:

Ansar VDP Unnayan Bank,

Karmashangosthan Bank,

Probashi Kollyan Bank,

Jubilee Bank

B.     Non-Bank Financial Institutions (FIs):

Non-Bank Financial Institutions (FIs) are those types of financial institutions which are regulated under Financial Institution Act, 1993 and controlled by Bangladesh Bank. Now, 31 FIs are operating in Bangladesh while the maiden one was established in 1981. Out of the total, 2 is fully government owned, 1 is the subsidiary of a SOCB, 13 were initiated by private domestic initiative and 15 were initiated by joint venture initiative. Major sources of funds of FIs are Term Deposit (at least six months tenure), Credit Facility from Banks and other FIs, Call Money as well as Bond and Securitization.

The major difference between banks and FIs are as follows:

1.      FIs cannot issue cheques, pay-orders or demand drafts.

2.      FIs cannot receive demand deposits,

3.      FIs cannot be involved in foreign exchange financing,

4.      FIs can conduct their business operations with diversified financing modes like syndicated financing, bridge financing, lease financing, securitization instruments, private placement of equity etc.

List of Non-Bank Financial Institutions (FIs) in Bangladesh:

    Uttara Finance and Investments Limited
    United Leasing Company Limited (ULCL)
    Union Capital Limited
    The UAE-Bangladesh Investment Co. Ltd
    Saudi-Bangladesh Industrial & Agricultural Investment Company Limited (SABINCO)
    Reliance Finance Limited
    Prime Finance & Investment Ltd
    Premier Leasing & Finance Limited
    Phoenix Finance and Investments Limited
    People's Leasing and Financial Services Ltd
    National Housing Finance and Investments Limited
    National Finance Ltd
    MIDAS Financing Ltd. (MFL)
    LankaBangla Finance Ltd.
    Islamic Finance and Investment Limited
    International Leasing and Financial Services Limited
    Infrastructure Development Company Limited (IDCOL)¿
    Industrial Promotion and Development Company of Bangladesh Limited(IPDC)
    Industrial and Infrastructure Development Finance Company (IIDFC) Limited
    IDLC Finance Limited
    Hajj Finance Company Limited
    GSP Finance Company (Bangladesh) Limited (GSPB)
    First Lease Finance & Investment Ltd.
    FAS Finance & Investment Limited
    Fareast Finance & Investment Limited
    Delta Brac Housing Finance Corporation Ltd. (DBH)
    Bay Leasing & Investment Limited
    Bangladesh Industrial Finance Company Limited (BIFC)
    Bangladesh Finance & Investment Co. Ltd.
    Agrani SME Finance Co. Ltd.

C.    Insurance sector in Bangladesh:

Insurance sector in Bangladesh emerged after independence with 2 nationalized insurance companies- 1 Life & 1 General; and 1 foreign insurance company. In mid 80s, private sector insurance companies started to enter in the industry and it got expanded. Now days, 62 companies are operating under Insurance Act 2010. Out of them- 18 are Life Insurance Companies including 1 foreign company and 1 is state-owned company, 44 General Insurance Companies including 1 state-owned company. 

Insurance companies in Bangladesh provide following services:

Life insurance,

General Insurance,

Reinsurance,

Micro-insurance,

Takaful or Islami insurance

LIST OF NON-LIFE INSURANCE COMPANIES

1. Agrani Insurance Company Ltd.
2. Asia Insurance Ltd.
3. Asia Pacific Gen Insurance Co. Ltd.
4. Bangladesh Co-operatives Ins. Ltd.
5. Bangladesh General Insurance Co. Ltd.
6. Bangladesh National Insurance Co.Ltd.
7. Central Insurance Company Ltd.
8. City Gen. Insurance Company Ltd.
9. Continental Insurance Ltd.
10. Crystal Insurance Company Ltd.
11. Desh Gen. Insurance Company Ltd.
12. Eastern Insurance Company Ltd.
13. Eastland Insurance Company Ltd.
14. Express Insurance Ltd.
15. Federal Insurance Company Ltd.
16. Global Insurance Ltd.
17. Green Delta Insurance Co. Ltd.
18. Islami Commercial Insurance Co. Ltd.
19. Islami Insurance Bangladesh Ltd.
20. Janata Insurance Company Ltd.
21. Karnaphuli Insurance Company Ltd.
22. Meghna Insurance Company Ltd.
23. Mercantile Insurance Company Ltd.
24. Nitol Insurance Company Ltd.
25. Northern Gen.Insurance Company Ltd.
26. Peoples Insurance Company Ltd.
27. Phonix Insurance Company Ltd.
28. Pioneer Insurance Company Ltd.
29. Pragati Insurance Ltd.
30. Pramount Insurance Company Ltd.
31. Prime Insurance Company Ltd.
32. Provati Insurance Company Ltd.
33. Purabi Gen Insurance Company Ltd.
34. Reliance Insurance Ltd
35. Republic Insurance Company Ltd.
36. Rupali Insurance Company Ltd.
37. Sonar Bangla Insurance Company Ltd.
38. South Asia Insurance Company Ltd.
39. Standard Insurance Ltd.
40. Takaful Islami Insurance Ltd.
41. Dhaka Insurance Ltd.
42. Union Insurance Company Ltd.
43. United Insurance Company Ltd.

LIST OF LIFE INSURANCE COMPANIES

1. American Life Insurance Company (Foreign Company)
2. Baira Life Insurance Company Ltd.
3. Delta Life Insurance Company Ltd.
4. Farest Islami Life Insurance Co. Ltd.
5. Golden Life Insurance Ltd.
6. Homeland Life Insurance Company Ltd.
7. Meghna Life Insurance Company Ltd.
8. National Life Insurance Company Ltd.
9. Padma Islami Life Insurance Company Ltd.
10. Popular Life Insurance Company Ltd.
11. Pragati Life Insurance Ltd.
12. Prime Islami Life Insurance Company Ltd.
13. Progressive Life Insurance Company Ltd.
14. Rupali Life Insurance Company Ltd.
15. Sandhani Life Insurance Company Ltd.
16. Sunflower Life Insurance Company Ltd.
17. Sunlife Insurance Company Ltd

LIST OF THE INSURANCE COMPANIES IN PUBLIC SECTOR

1. Sadharan Bima Corporation(Gen. Ins)
2. Jiban Bima Corporation (Life Ins.)

D.    Microfinance Institutions (MFIs):

The member-based Microfinance Institutions (MFIs) constitute a rapidly growing segment of the Rural Financial Market (RFM) in Bangladesh. Microcredit programs (MCP) in Bangladesh are implemented by various formal financial institutions (nationalized commercial banks and specialized banks), specialized government organizations and Non-Government Organizations (NGOs). The growth in the MFI sector, in terms of the number of MFI as well as total membership, was phenomenal during the 1990s and continues till today.

Despite the fact that more than a thousand of institutions are operating microcredit programs, but only 10 large Microcredit Institutions (MFIs) and Grameen Bank represent 87% of total savings of the sector and 81% of total outstanding loan of the sector. Through the financial services of microcredit, the poor people are engaging themselves in various income generating activities and around 30 million poor people are directly benefited from microcredit programs.

Credit services of this sector can be categorized into six broad groups: i) general microcredit for small-scale self employment based activities, ii) microenterprise loans, iii) loans for ultra poor, iv) agricultural loans, v) seasonal loans, and vi) loans for disaster management.

Currently, 599 institutions (as of October 10, 2011) have been licensed by MRA to operate Micro Credit Programs. But, Grameen Bank is out of the jurisdiction of MRA as it is operated under a distinct legislation- Grameen Bank Ordinance, 1983.

2.      Financial market:

Financial market in Bangladesh: The financial market in Bangladesh is mainly of following types:

1.      Money Market: The primary money market is comprised of banks, FIs and primary dealers as intermediaries and savings & lending instruments, treasury bills as instruments. There are currently 15 primary dealers (12 banks and 3 FIs) in Bangladesh. The only active secondary market is overnight call money market which is participated by the scheduled banks and FIs. The money market in Bangladesh is regulated by Bangladesh Bank (BB), the Central Bank of Bangladesh.

2.      Capital market: The primary segment of capital market is operated through private and public offering of equity and bond instruments. The secondary segment of capital market is institutionalized by two (02) stock exchanges-Dhaka Stock Exchange and Chittagong Stock Exchange. The instruments in these exchanges are equity securities (shares), debentures, corporate bonds and treasury bonds. The capital market in Bangladesh is governed by Securities and Commission (SEC).

3.      Foreign Exchange Market: Towards liberalization of foreign exchange transactions, a number of measures were adopted since 1990s. Bangladeshi currency, the taka, was declared convertible on current account transactions (as on 24 March 1994), in terms of Article VIII of IMF Article of Agreement (1994). As Taka is not convertible in capital account, resident owned capital is not freely transferable abroad. Repatriation of profits or disinvestment proceeds on non-resident FDI and portfolio investment inflows are permitted freely. Direct investments of non-residents in the industrial sector and portfolio investments of non-residents through stock exchanges are repatriable abroad, as also are capital gains and profits/dividends thereon. Investment abroad of resident-owned capital is subject to prior Bangladesh Bank approval, which is allowed only sparingly.

Bangladesh adopted Floating Exchange Rate regime since 31 May 2003. Under the regime, BB does not interfere in the determination of exchange rate, but operates the monetary policy prudently for minimizing extreme swings in exchange rate to avoid adverse repercussion on the domestic economy. The exchange rate is being determined in the market on the basis of market demand and supply forces of the respective currencies.

In the forex market, banks are free to buy and sale foreign currency in the spot and also in the forward markets. However, to avoid any unusual volatility in the exchange rate, Bangladesh Bank, the regulator of foreign exchange market remains vigilant over the developments in the foreign exchange market and intervenes by buying and selling foreign currencies whenever it deems necessary to maintain stability in the foreign exchange market.

3.      Financial instruments:

Money Market Instruments: Money market claim mature in less than one year. Because of their short-term maturity, money market instruments undergo the least price fluctuations and so are the risky investments.

The common types of money market securities traded in Bangladesh are given below:

1.      Treasury Bills (T-Bills).

2.      Repurchase Agreements ( Repo or Reverse Repo)

3.      Commercial Papers

4.      Certificate of Deposit

5.      Banker's Acceptance

6.      Call money

Money market participants

Banks, Non-bank, Financial Institutions (takaful companies), business corporations, government and central bank

Capital market instruments:

Debt and equity instruments wit maturity of over one year called capital market instruments. They have far wider price fluctuations than money market instruments and are considered to fairly risky instruments.

1.      Common stocks/Equity

2.      Bonds

3.      Mortgages

4.      Futures

5.      Options

 Difference between money market and capital market:

	Money Market	Capital Market
Definition	Is a component of the financial markets where short-term borrowing takes place	Is a component of financial markets where long-term borrowing takes place
Maturity Period	Lasts anywhere from 1 hour to 90 days.	Lasts for more than one year and can also include life-time of a company.
Credit Instruments	Certificate of deposit, Repurchase agreements, Commercial paper, Eurodollar deposit, Federal funds, Municipal notes, Treasury bills, Money funds, Foreign Exchange Swaps, short-lived mortgage and asset-backed securities.	Stocks, Shares, Debentures, bonds, Securities of the Government.
Nature of Credit Instruments	Homogenous. A lot of variety causes problems for investors.	Heterogeneous. A lot of varieties are required.
Purpose of Loan	Short-term credit required for small investments.	Long-term credit required to establish business, expand business or purchase fixed assets.
Basic Role	Liquidity adjustment	Putting capital to work
Institutions	Central banks, Commercial banks, Acceptance houses, Nonbank financial institutions, Bill brokers, etc.	Stock exchanges, Commercial banks and Nonbank institutions, such as Insurance Companies, Mortgage Banks, Building Societies, etc.
Risk	Risk is small	Risk is greater
Market Regulation	Commercial banks are closely regulated to prevent occurrence of a liquidity crisis.	Institutions are regulated to keep them from defrauding customers.
Relation with Central Bank	Closely related to the central banks of the country.	Indirectly related with central banks and feels fluctuations depending on the policies of central banks.

Islamic Financial system:

1.      A financial system that is based on Islamic principles and values, which eliminates Riba and ensure a profit sharing mechanism in the financial system, may be called IFS.

2.      It may be characterized by the absence' of interest based financial institution & transactions, doubtful transactions or Gharar, Stocks of companies dealing in unlawful activities, unethical or immoral transactions such as market manipulation, insider trading short-selling etc.­

Principles/features of an Islamic financial system:

The basic framework for an Islamic financial system is a set of rules and laws, collectively referred to as Shariah, governing economic, social, political and cultural aspects of Islamic societies. Shariah originates from the rules dictated by the Quran and its practices, and explanations rendered (more commonly known as Sunnah) by the Prophet Muhammad. Further elaboration of the rules is provided by scholars in Islamic jurisprudence within the framework of the Quran and Sunnah. The basic principles of an Islamic financial system can be summarized as follows:

1.      Prohibition of interest: Prohibition of Riba, a term literally meaning "an excess" and interpreted as "any unjustifiable increase of capital whether in loans or sales" is the central tenet of the system. More precisely, any positive, fixed, predetermined rate tied to the maturity and the amount of principal (i.e.) guaranteed regardless of the performance of the investment) is considered Riba and is prohibited. The general consensus among Islamic scholars is that Riba covers not only usury but also the charging of "interest" as widely practiced.

2.  This prohibition is based on arguments of social justice, equality, and property rights. Islam encourages the earning of profits but forbids the charging of interest because profits, determined ex post, symbolize successful entrepreneurship and creation of additional wealth whereas interest, determined ex ante, is a cost that is accrued irrespective off the outcome of business operations and may not create wealth if there are business losses. Social justice demands that borrowers and lenders share rewards s well as losses in an equitable fashion and that the process of wealth accumulation and distribution in the economy be fair and representative of true productivity.

3.     Risk sharing: Because interest is prohibited, suppliers of funds become investors instead of creditors. The provider of financial capital and the entrepreneur share business risks in return for shares of the profits.

4.   Money as "Potential" Capital: Money is treated as "Potential" capital -that is, it becomes actual capital only when it joins hands with other resources to undertake a productive activity. Islam recognizes the time value of money, but only when it acts as capital, not when it is "Potential" capital.

5.    Prohibition of speculative behavior: An Islamic financial system discourages hoarding and prohibits transactions featuring extreme uncertainties, gambling, and risks

6.    Sanctity of contracts: Islam upholds contractual obligations and the disclosure of information as a sacred duty. This feature is intended to reduce the risk of asymmetric information and moral hazard.

7.    Shariah approved activities: Only those business activities that do not violate the rules of Shariah qualify for investment. For example, any investment in businesses dealing with alcohol, gambling, and casinos would be prohibited.

Differences between CFS & IFS:

The conventional financial system consists of Socialistic financial system and Capitalistic financial system. Both systems have been proved inefficient to establish economic balance in the society.

Basis of Difference	CFS	IFS
Religious Belief	Secular & separates Religion from other Parts human life	Belief in unity of God & relates this belief to economic Life of a man
Freedom of Economic Activity	In socialism govt. enjoys economic freedom but in capitalism Individuals enjoys freedom.	Restrictive freedom is allowed in the light of Shariah both by the govt. &/or individuals
Ownership of means	Socialism-state ownership, Capitalism-individual ownership	Allah is the exclusive owner. Man is the caretaker of the property
Goals of financial System	Socialism-profit of the society Capitalism-Individual’s profit	Welfare of both here and hereafter.
Competition	Socialism-No competition Capitalism- Logical & unethical competition	Logical Competition and financial co-operation
Wealth distribution	Socialism-Equal Capitalism – Unequal	Equitable
Basis of Economic System	Riba or Interest	Interest Free; PLS, Zakat & Compensation based
Sources of the System	Intellects brain storming of the economic problems of men’s life	Devine book “Al-Quran” & Prophets(SM) speeches
Result	Capitalism concentration of income & economic power in few hands. Inefficiency	Maximum & equitable Distribution of economic opportunities and higher production in the society
Social & environmental welfare	Do not consider the social & environmental welfare	Ensure social & environmental welfare
Owners exception in respect of respect of investment	Dividend or part of profit in case of equity financing	Part of Profit or Loss
Lender or Bank’s expectation in terms of dept financing	Interest	Profit or Loss Sharing
Modes of Investment	Loan, Overdraft & Cash Credit	Mudarabah, Musharaka, Murabaha etc.

Need for Islamic Money Market

Islamic bank also faced also exposed to liquidity risk. Like conventional, Islamic bank hold illiquid assets while liability relatively liquid. Bank with surplus funds can either lend by placing deposit system with other banks in interbank deposit system or lend by purchasing money market instruments.

Different between Islamic and Conventional Money Market

	Conventional	Islamic
1)      Interbank Market	Issues debt contract for placement of fund	Apply Shariah contracts i.e mudharabah, murabahah and wakalah
2)      Instruments Issuance process	Approved by respective regulators	Approved by Shariah Committee and respective regulators.
Structure	Structured based on debt only	Structure based on assets, equity and debt based.
Investors	Conventional investors only.	Conventional and Islamic investors.

Islamic Money market instruments:

Islamic Inter-bank Fund Market (IIFM) – Bangladesh, the separate call money market for Islamic banks in Bangladesh

Islamic Inter-bank Fund Market (IIFM) -- for sharia-based banks started its journey on June 3, 2012. In such a market, transactions are based on profit instead of interest. Bangladesh Bank Governor Atiur Rahman inaugurated the IIFM at the central bank.

On the first day, Islami Bank Bangladesh Ltd offered funds worth Tk 100 crore, while four banks applied for taking Tk 60 crore from the funds.

The BB governor said the IIFM has been formed in the model of the traditional call money market to remove the temporary and short-term liquidity crisis of the Islamic banks. The Islamic Bond Fund of the central bank will act as the custodian of the IIFM and will not charge any fees for the fund.

According to rules, if any bank has excess fund, it will invest the amount in the IIFM for one day. Another Islamic bank requiring fund will borrow the money from the IIFM for one day. The rate of profit in the Islamic bank call money market will be determined on the basis of the profit the bank gives to its depositors on a three months' deposit.

Foreign exchange market in Islam:

The rule of trade in currencies:

Currency trading may be permissible on one condition that the payment should occur on the same in the contract’s council, if the currency is equal The evidence narrated by Abada Ben Al-Samit may Allah be pleased with him said: The Messenger of Allah peace be upon him: (gold for gold, silver for silver, wheat for wheat, barley for barley, dates for dates, salt for salt, like for like, hand in hand, if these types are different the sell as you like, hand in hand) Narrated by Muslim (1587).

The “Total Fataawa Ibn Baaz” (19/171- 174):

Transactions, buying and selling in currencies are permissible, but only if the exchange be hand in hand if the currencies were different, Example selling the currency of the Libyan currency exchange for the U.S. Dollars or Egypt the transaction  should be done hand in hand within the council, but if the payment was delayed or differed then it’s not permissible, because that case it is considered a form of usury-based (Riba) transaction, it must be the same sitting of the Council hand in hand if the currency is different, but if they are of one type must be two conditions: symmetry and same sitting of the Council, as per the Prophet saying peace be upon him: (gold for gold , and silver with silver… Then he mentioned the Hadith).

And currencies as before if it was different then it is permissible with the differentiation and payment may be in the same sitting of the Council, and if one type such as dollars, dollars, or dinars, dinars must be in the same sitting of the Council, and uniformity.

Islamic financial instruments:

 IDC, IIC and MB 

Three potential instruments proposed in the Seminar on Developing a System of Financial Instruments, jointly sponsored by the Islamic Development Bank and the Government of Malaysia, held in Kuala Lumpur 1986, were 

Islamic Deposit Certificates (IDCs), 

Islamic Investment Certificates (IICs) and 

Muqarada Bonds (MBs). 

These appeared promising the IDC proceeds are meant to be used by the issuing bank for general purposes, while IIC proceeds are meant for investment in a specific project or activity by the issuing bank. The MBs proceeds are meant to be used for income-yielding public utility projects, such as electricity and telecommunications, and infrastructure development projects such as construction of roads and bridges.

The common denominator for all the above three instruments is that they are all based on the principle of profit sharing. The holders of IDC and IIC will also share in the losses, if any, but not the holders of MBs, as the nominal value of MBs would be guaranteed by the Government, which is a third party independent from the other two. It is of interest to note that Muqarada Bonds have already been adopted as a financial instrument in Jordan, though with a limited scope.