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Islamic Finance

Islamic finance operates under Sharia law, prohibiting interest, uncertainty, gambling, and investments in unethical activities, while promoting ethical and socially responsible investments. The sector has seen significant global growth, particularly in Islamic banking, Sukuk, and Takaful, with challenges including standardization and competition with conventional finance. Key organizations like AAOIFI and IFSB help establish standards to ensure compliance and foster a sustainable Islamic finance ecosystem.

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15 views20 pages

Islamic Finance

Islamic finance operates under Sharia law, prohibiting interest, uncertainty, gambling, and investments in unethical activities, while promoting ethical and socially responsible investments. The sector has seen significant global growth, particularly in Islamic banking, Sukuk, and Takaful, with challenges including standardization and competition with conventional finance. Key organizations like AAOIFI and IFSB help establish standards to ensure compliance and foster a sustainable Islamic finance ecosystem.

Uploaded by

eaglemnm0
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Islamic Finance:

Principles, Practices,
and Global Trends
An Overview of Sharia-Compliant Financial Systems
Introduction to Islamic Finance
• Islamic finance refers to financial activities that comply with Islamic
law (Sharia).
• Key prohibitions include:
• Riba (interest)
• Gharar (uncertainty/speculation)
• Maysir (gambling)
• Investments in Haram activities (e.g., alcohol, pork)
• Focus on ethical and socially responsible investments.
Core Principles of Islamic Finance
• Riba (Usury/Interest) Prohibition:
• Rejection of predetermined interest charges.
• Emphasis on profit and loss sharing.
• Gharar (Uncertainty) Prohibition:
• Requirement for transparency and clear contract terms.
• Maysir (Gambling) Prohibition:
• Discouragement of speculative transactions.
Core Principles of Islamic Finance
(Continued)
• Profit and Risk Sharing:
• Partnership structures like Mudarabah and Musharakah.
• Asset Backing:
• Linkage of financial transactions to tangible assets.
• Ethical Investments:
• Investments in Halal (permissible) businesses only.
Global Growth Trends in Islamic
Finance
• Significant growth of Islamic finance assets worldwide.
• Key sectors: Islamic banking, Sukuk, Takaful, and Islamic investment
funds.
• Growth hubs: Middle East and Southeast Asia (Malaysia, Saudi
Arabia, UAE).
• Increasing interest in Europe and North America.
• Attraction of non-Muslim investors due to ethical considerations.
Challenges Facing Islamic Finance
• Standardization: Lack of uniform Sharia compliance standards.
• Regulatory Issues: Navigating complex regulatory environments.
• Awareness and Understanding: Need for greater education about
Islamic finance.
Challenges Facing Islamic Finance
(Continued)
• Risk Management: Managing Sharia-specific operational and market
risks.
• Competition: Competition with conventional financial institutions.
• Need for innovative product development.
Key Standard Setting Organizations
• Accounting and Auditing Organization for Islamic Financial
Institutions (AAOIFI):
• Develops accounting, auditing, governance, and ethics standards.
• Islamic Financial Services Board (IFSB):
• Focuses on prudential regulation and supervision.
Key Standard Setting Organizations
(Continued)
• Shariah Boards:
• Internal boards within Islamic banks providing Sharia guidance.
• International Islamic Financial Market (IIFM):
• Develops standardized contracts and products for the Islamic financial
market.
Importance of Standard Setting
Organizations
• Ensure consistency, transparency, and Sharia compliance.
• Promote trust among stakeholders.
• Contribute to a robust and sustainable Islamic finance ecosystem.
Components of Islamic Finance:
Islamic Banking
• Banking activities that comply with Sharia principles.
• Prohibition of interest-based transactions.
• Avoidance of unethical and unsocial practices.
Islamic Banking Deposit Products
• Wadi’ah Accounts:
• Safekeeping accounts where the bank may provide a gift.
• Qard Accounts:
• Current accounts based on the concept of a loan (qard).
• Mudarabah Accounts:
• Profit-sharing investment accounts.
Islamic Bank Modes of Financing
• Islamic banks use non-interestbased financing methods.
• Modes categorized as:
• Trade-based finance
• Lease-based finance
• Equity-based finance
TradeBased Finance: Murabaha
• Murabaha: A cost-plus-profit sale.
• Bank buys an asset and resells it to the customer at a markup.
• Most commonly used instrument by Islamic banks.
TradeBased Finance: Salam & Istisna
• Salam:
• Advance payment for goods to be delivered later.
• Used for financing agricultural produce and commodities.
• Istisna:
• Financing for manufacturing/construction of assets.
• Payment can be deferred or in installments.
LeaseBased Finance: Ijara
• Ijara (Leasing):
• Bank buys an asset and leases it to the client.
• Ownership remains with the bank during lease period.
• Ijara Muntahiyah Bi Tamleek:
• Lease ending with ownership transfer.
Equity-Based Finance: Mudaraba &
Musharaka
• Mudaraba (Silent Partnership):
• One party provides capital, the other manages the business.
• Profit shared, investor bears losses.
• Musharaka (Full Partnership):
• Joint venture with shared capital contributions.
• Profit/loss shared per agreed ratio.
Equity-Based Finance: Diminishing
Musharaka
• Declining partnership for home financing.
• Ownership shared initially.
• Customer gradually buys out the financier's share.
Islamic Insurance: Takaful
• Key principles:
• Mutual assistance
• Risk sharing
• No Riba (Usury)
• Tabarru (Donation)
• Types:
• Family Takaful and General Takaful
• Models:
• Mudarabah, Wakalah, Hybrid
Islamic Capital Market
• Key components:
• Sukuk (Islamic Bonds)
• Equity Financing
• Islamic Mutual Funds/ETFs
• Growth Drivers:
• Ethical investing trends
• Regulatory support
• Challenges: Liquidity management, standardization

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