GOLOBAL FINANCIAL

CRISISREASONS AND ISLAMIC SOLUTIONS

WHEN DID IT BEGIN? Early signs appeared in 2007 Very reason was funding of external

wars Bush administration spent >$ 5 trillion

in 7 years of military expeditions It lead to increase in public debt of >

$4.5 trillion between FY 2002-2008 This is a crisis of accumulated debts

beyond the capacity of US financial system

STEPS WHICH LED TO THIS CRISISCOLLAPSE OF REAL ESTATE MARKET

Undue burden of real estate funding contracts

Loan guarantee contracts Securitization Debt securities trading Credit derivatives Credit default swaps

COLLAPSE OF SEMI-WHOLESALE FINANCE INSTITUTIONS Mortgage corporations like Fannie Mae &

Freddie Mae Collapse of other banks Confidence upon financial institutions

deteriorated Banks ceased to give short term loans

to companies and institutions

CRISIS IN SERVICES AND PRODUCTION SECTORS Down sizing and closure of businesses Reducing employment and laying off

workers Decline in demand for consumer goods More decrease in employment

STRUCTURAL CAUSES THAT AGGRAVATED THE CRISIS 1-Large expansion in speculation

transactions in financial markets Including conducted through internet They overshadowed the real

transactions Real transactions affect the fluidity of

capital and moving investments Speculation transactions are

unproductive since they merely move capital from the losers to the winners.

2-EMERGENCE OF MANY TRANSACTIONS MERELY FOR SPECULATIONS ON PRICES These transactions do not produce any

added value to the market Huge amount of money and great

human capacities are invested in them

3- CULTURE OF QUICK PROFITS Without consideration to the long term

results of the transactions Deficiency of laws, regulations and

administrative oversight on the methods of creating new forms of transactions

When there are no laws or regulations to control people’s behavior then why would they not extract maximum profits

4-SHIFT OF CAPITAL FROM SERVICE AND PRODUCTION TO FINANCIAL INSTITUTIONS There was inflation of financial sector

profits It led investors to believe that this is the

way to make quick gain of wealth Layers of mere financial transactions

accumulated and ballooned moving capital away from production sector

This brought the theory of upside down pyramid- which is very unstable

UPSIDE DOWN PYRAMID

5-DEPENDENCE ON INTEREST BASED LOANS This has been the foundation of funding

in capitalist system It does not produce any added value by

itself

6-SECURITIZATION There was prevalence of securitization It led to culture of “strike and place the

burden upon others” It created interconnection among the

financial institutions. So all the institutions fell with the fall of first piece of domino

7- EXCHANGE AND TRADE OF DEBTS Enormous investments were attracted to

such transactions It does not result in any real increase in

productions These are often quickly influenced by

the media and political events These would not happen if interest was

not adopted as the part of finance and re finance

8-INVESTORS TREND TOWARDS BEING MORE CAUTIOUS This led to increase in the processes of

derivatives It inflated the size of mere financial

swaps There was more interconnection among

institutions Hence the retrogressive impact spread

from one institution to the other

9-DEPENDENCE UPON PUBLIC DEBT RATHER THAN TAXES This led to inflation in the process of

financial exchange at both levels: 1- Local 2- International

10- EXORBITANT RISE IN US MILITARY SPENDING No doubt it increases labor and

employment in defense sector However, it does not tend to improve

the productive capacity of the economy Competitive capacity of US products in

foreign markets diminished Deficit in the balance of trade

accumulated This undermined the confidence in US

economy

SHORT TERM SOLUTIONS(USURIOUS) BY EXPERTS IN CAPITALIST MILIEU

1-Rescuing the failing banks, specially retail banks.

They can resume short term loans to companies

This will alleviate the financial crisis in the production sector

2-INCOME INCREASING PROGRAM SPECIALLY FOR MIDDLE CLASS Enable the debtors to overcome the

housing crisis Ease the problem of diminishing

demand for consumer goods This will send signal to the factories not

to cut productivity or to lay off workers Increase spending on service sector

( education and healthcare) which has large workforce

3-FREEZE INSTALLMENTS AND INTEREST RATES FOR BUYERS OF HOUSES

Interest be frozen, decreased or cancelled for a short period of time

Give respite to debtors who took house loans

Real Estate pricing will regain stability Real estate construction will resume

4-DECREASE THE PUBLIC DEBT Avoid increase in public debt

Measures be taken to decrease public debt

Taxes be imposed upon wealthy

5- DEALING IN DERIVATIVES Dealing in derivatives be immediately

stopped

Their remnants must be gradually dissolved, specially the credit derivatives

LONG TERM SOLUTIONS1- NEW LEGISLATIONS AND OVERSIGHT 1-New legislation to curb expansion of

financing beyond the capacity of the debtor

2- This is specially needed in real estate and credit card market

3- Retail banks and finance companies must be forced to abide by strict standards

4- These institutions should be under strict Government oversight and be held accountable for any attempt to lure customers into contracts beyond their capacity

2-TURNING THE FINANCIAL MARKETS TO SUPPORT GOODS PRODUCTION AND SERVICES

Ban or minimize the deals based on mere speculations:

. Index related deals Contracts on differences Credit derivatives Short term deals Future deals Restricting choices as means of caution,

in a way that is based or linked to an existing situation in assets or liabilities

TURNING THE FINANCIAL MARKETS Limiting or banning the currency trade

on the internet and cancelling licenses for platform of currency speculations on the internet

Platforms of goods and stock speculations on the internet should also be banned

Generally, the financial markets be turned back to support services and goods production and not at investments and profits involving speculations

3- LIMITING SECURITIZATION Securitization of debts be banned Only taskik ( financial documentation)

be used. In taskik, the financial documents represent real assets excepting debts and money.

4- LEGISLATION TO BAN CIRCULATION AND TRADE IN DEBTS

These processes do not create any added value.

Strict restrictions be placed for discounting and rediscounting of debts

5-DEVELOPING INSTITUTIONAL FUNDING FROM BANKS AND NON INSTITUTIONAL FUNDING FROM THE MARKETS

This is to be bound by 2 main constraints:1. Establishing a direct connection with the

real market of services and goods. This way the funding in the society does not go down the drain or transform into financial accumulations that turns away from the real market

2. Giving preference to moral criteria in funding over the criteria for mere profit gains. It means funding be withheld from goods and services which are harmful to the society and environment.

6-INDIVIDUAL’S RIGHT OF OWNERSHIP IS A FUNDAMENTAL RIGHT

It is improper for an individual to cede this right or right to freely benefit from it.

Only exception to this rule is if individual wants to give it up voluntarily

Contractual increase in debts and loans for deferred payment is unjust. It is not compatible with the requirement of rights to property and entitlement.

Debts should not be susceptible to increase. No added value is generated from them.

ISLAMIC BANKS AND CURRENT CRISIS OF DEBTSIslamic banks were less affected because: They do not buy financial papers based

on debts They do not deal with usurious debts

SETBACKS FOR ISLAMIC BANKS IN THIS CRISIS Islamic banks which dealt with traditional

banks through goods Murabihah have billions of dollars to be paid by the latter

Banks that dealt in Tawarruq (securitization) with their clients and holders of credit cards also have lot of inflated debts to be paid by ailing clients

Banks that invested in global stock markets are also affected

Islamic banks are affected by the financial difficulties of their clients (falling income etc)

LESSONS FOR ISLAMIC FINANCE 1- There is deep seated confidence in

the correctness of Islamic finance because:

Its adherence to funding by sales leases and partnership

Avoidance of usurious loans Avoidance of loans that takes away

finance from real market of production and exchange

Its rejection of circulation and securitization of debts

2-STOP IMITATION OF FINANCIAL PRACTICES DEVOID OF REALITY OF GOODS Avoid contracts that produce no added

value but only shift wealth from one hand to other

Funds of Islamic caution Contracts of compound promises Imaginary contracts of investment Other practices founded upon no real

production or exchange

3-RE EVALUATE CERTAIN FINANCIAL DEALINGS ADOPTED BY SOME ISLAMIC BANKS Dealings which separate finance from

real market and avoid relying on the production of an added value

Avoid dealings which rely on accumulation of debts not accompanied by movement in services or goods

These dealings widen the gap between the real market and the financial market. This leads to financial instability.

4-TRANSACTIONS OF TAWARRUQ AND MURABAHA FOR LOCAL AND INTERNATIONAL COMMODITIES

These represent debts not based on real exchange of goods but on overlapping contracts

They result in illusory financial accumulations

They do not reflect the true identity and goal of Islamic finance

Islamic finance, hence, would fail to maintain its moral purity and fail to apply its moral standards to the measures it follows

5-FINANCIAL MARKETS IN MUSLIM COUNTRIES MUST BE REVIEWED Financial speculations should be limited

and restrictions should be laid down on their different types

Transactions that do not involve real investment should be banned

Systems in some Muslim markets do not allow many derivatives which is one of the most important causes of the crisis

6-VIEWS,OPINIONS AND SOME PRACTICES BE REVISED Short term sale Derivatives and dealings on the same

day Markets of caution Mudawalat (speculations) via the

internet using currency These practices create mentality of

quick profits with spirit of selfishness and speculations

7-PRINCIPLES OF ISLAMIC FINANCE SHOULD BE PRESENTED TO THE WORLD This is part and parcel of true image of

Islam This message is directed to all mankind This is a message of mercy to the world Implementation of these principles

guarantee elimination of oppression They guarantee justice and human

rights. These rights include reaping the fruits

of one’s property, protection against encroachment upon personal property.

8-RE EVALUATION OF FINANCIAL DOCUMENTS FROM SHARIA PERSPECTIVE IS NEEDED Attempts are to be made to perfect

their (documents) rules We need to lay down the organizational

and jurisprudential regulations These regulations should ensure that

they will not slip into forms of securitization that dominated the Western financial markets

9-FIRM STANCE AGAINST SELLING DEBTS There must not be any selling of debts There should be no discounting and

rescheduling the debts even under false names

ISLAM’S GUIDANCE

There hath come to you from Allah a (new) Light and a perspicuous Book. Wherewith Allah guides all who seek His good pleasure to ways of peace and safety and leads them out of darkness by His Will unto the light guides them to a Path that is Straight.Surah Al Maidah 5:15,16

CONTRAST OF FINANCIAL SYSTEMS

Conventional Finance Islamic Finance

Interest and interests based transactions

Deposits and loans

Banks create and destroy money

Interest is forbidden and so no interest based transactions

Equity shares and ownership of real assets in investment projects

Banks do not create or destroy money

CONTRAST OF FINANCIAL SYSTEMS

Conventional Finance Islamic Finance

Asset-liability mismatch, illiquid

Money multiplier depends on reserve ratio, very high; infinite with securitization

Speculation, a casino, debt trading

No asset-liability mismatch, liquid

Money multiplier depends on the savings ratio, very low

No speculation, no debt trading

CONTRAST OF FINANCIAL SYSTEMS

Conventional Finance Islamic Finance

Interest rate not related to real economy, high price distortion

Social inequality: inflation tax, redistributive issues, food riots

Highly cyclical: booms and busts, uncertainties, unpredictable growth

Profit rate determined by real economy, no price distortion

Social equality: no inflation tax, no redistribution

Stable economic growth, predictable

CONTRAST OF FINANCIAL SYSTEMS

Conventional Finance Islamic Finance

Massie bankruptcies, contagions, bailouts

Interest rate policy, highly destabilizing

No systemic bankruptcies, no bailouts

No interest policy, money aggregates are used, highly stable