Monday, November 26

Islamic Finance is a crock, or is it?

Here is an interesting condemnation of the entire concept of Islamic Finance. A reaction to this was given here. Also refer to my previous post here and the whole list here. But to go back to the reaction, I am afraid this is typical of this kind of behaviour and is aimed right at the fundamental problem that there is simply no commonly held understanding of what is sharia. Heck, there is no common understanding of what is riba either. So it is, unfortunately, not surprising that people point fingers to each other and say that my Islamic Finance Methodology is best and yours is wrong. After all, the only place of appeal is another chap or Heaven, and in either case, you are as right as I am.

What the response also shows is a frightening lack of understand of what risk is, how is it priced, the concept of yield curves or even real options, diversification, hedging, etc. You see, Islamic Finance does not occur in a vacuum. It has to interact with the other financial systems in the world and when it does, non-Islamic structures have to be catered for. To do that, you need to understand those and apply those.

Let me give you an example. You take an Islamic Mortgage to buy a house but pay for your furnishings through a credit card. That sort of negates the original objective of living your financial or asset life without interest, no? Similarly, if you do project financing or an IPO via a sukuk and then base your project cash flow or your sales based upon some kind of interest streams, it again negates the basic principles. But to know this, you need to know what's happening outside. So if your project is to build a port, and the revenues of the port are dependent upon say ship construction in South Korea, China and Japan which are again funded totally on interest based structures, then? How about the fact that while you have raised funds islamically but to hedge it against a falling USD, you go purchase an option? Which is again interest based?

So, one has to learn and understand much more before saying things like Islamic Finance is a crock. Yes, Saudi Arabian banks are living off the fat and have personal experience of it. When you have religiously manded people coming and giving you money to store without demanding anything in return, and on the other hand, you have people gagging for money, then of course you will be bloody profitable as one side of the spread is near zero. You have to be an idiot to say no.

But then, I do not see anything wrong with it. People have a demand for Islamic products and supply being less than the demand, the price will obviously rise. So either you pay higher for your Islamic products or you get less for your investment. And that difference is the cost you pay for your faith. Dont read too much into this, this is absolutely the basics of the world. So no, its not a crock and it is perfectly valid for you and I to ask for Islamic Products.

All this to be taken with a grain of piquant salt!!!

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