- For a discussion on a historical account of financing practices is Islamic societies see AL Udovitch, Partnership and Profit in Medieval Islam (Princeton University Press, 1970) and for contemporary Islamic financial system see MU Chapra, Towards a Just Monetary System (The Islamic Foundation, 1985) and MN Siddiqi, Issues in Islamic Banking (The Islamic Foundation, 1983).
- The asset liability structures in Islamic banks and explanations of the lack of profit-sharing modes of financing are discussed in A Ahmad, Contemporary Practices of Islamic Financing Techniques (Islamic Research and Training Institute, Islamic Development Bank, 1993); RK Aggarwal and T Yousef, “Islamic Banks and Investment Financing” (2000) 32 Journal of Money, Credit, and Banking 93; S Haron, “A Comparative Study of Islamic Banking Practices” (1998) 10 Journal of King Abdulaziz University: Islamic Economics 23.
- Chapra, supra n 1, 171; Siddiqi, supra n 1, 139.
- For a discussion on the nature of contract enforcement system during Muslim medieval period see A Grief “Cultural Beliefs and the Organization of Society: A Historical and Theoretical Reflection on Collectivist and Individualistic Societies” (1994) 105 Journal of Political Economy 912.
- Aggarwal and Yousef, supra n 2, indicate that profit-sharing equity contracts work well when the cost of the project is small and the rate of diversion (due to moral hazard) is low. They conclude that equity contracts are not being used due to the severity of the moral hazard problem faced by Islamic banks.
- T Khan, “Demand for and Supply of Mark-up and PLS Funds in Islamic Banking: Some Alternative Explanations” (2005) 3 Islamic Economic Studies 39, points out that on the demand side firms prefer fixed-income modes of financing as they can reinvest their surpluses to enhance growth. A Mirakhor, “Short-term Asset Concentration and Islamic Banking” in M Khan and A Mirakhor (eds), Theoretical Studies in Islamic Banking and Finance (The Institute for Research and Islamic Studies, 1987) maintains that banks are worried about bankruptcy and would keep losses lower than total capital. To do so, the banks invest in short-term fixed income instruments.
- AAA Khalil, C Rickwood and V Murinde, “Evidence of Agency-Contractual Problems in Mudarabah Financing Operations by Islamic Bank” in M Iqbal and DT Llewellyn (eds), Islamic Banking and Finance, New Perspectives on Profit-Sharing and Risk (Edward Elgar Publishing Limited, 2002).
- RM Stulz and R Williamson, “Culture, Openness and Finance” (2003) 70 Journal of Financial Economics 313, study the effect of culture (religion) on finance. Though their main focus is to examine the different effects of the Protestant and Catholic faiths on finance, they also include Muslim countries in their study. They are curious as to why, even with prohibition of interest, the results do not show any of the significant negative impact on the creditors' rights in Muslim countries which they find in Catholic countries.
- MN Siddiqi, Partnership and Profit Sharing in Islamic Law (The Islamic Foundation, 1987), points out that the concepts of classical partnerships such as mudarabah and musharakah can be used in modern industrial production. For a discussion on musharakah and mudarabah see infra, Section C. AA El-Ashker, The Islamic Business Enterprise (Croom Helm Wolfeboro, 1987), also outlines the various sources of funds available for an Islamic firm. Along with the traditional contracts, he includes additional equity instruments that can be used for corporate finance. Khan, supra n 6, discusses how firms choose among different debt/equity instruments by examining the risk—return factors. H Ahmed, Issues in Islamic Corporate Finance: Capital Structure in Firms (Islamic Research and Training Institute, Islamic Development Bank Group, 2007), studies the capital structure of an Islamic firm using a pecking order theoretical framework. He shows that an Islamic firm will have both debt and equity.
- While most Muslim countries have retained Islamic law for personal matters such as marriage, divorce and inheritance, their commercial law and codes are influenced by Western laws. For a discussion on the legal system and laws in the Arab world see GN Sfeir, Modernization of the Law in Arab States: An Investigation into Civil Criminal and Constitutional Law in the Arab World (Austin and Winfield Publishers, 1998). See also World Bank, Doing Business in 2004: Understanding Regulation (Oxford University Press, 2004) for legal regimes in different countries.
- The legal methodological approaches of ijtihad and ibahah are discussed infra, Section C.
- The products of Islamic financial institutions are vetted by Shari'ah scholars or boards as Shari'ah compliant. The role of Shari'ah boards in Islamic financial institutions is briefly discussed infra, Section C.
- As discussed infra, Section C, due to the nature of Islamic law, the legal authority of developing law traditionally lies with the scholars and jurists, not with the state. As such, edicts by different Shari'ah scholars and bodies constitute Islamic jurisprudence during contemporary times.
- Research linking property rights and economic growth include D Acemoglu, S Johnson and J Robinson, “The Colonial Origins of Comparative Development: An Empirical Investigation” (2001) 91 American Economic Review 1369; J Svensson, “Investment, Property Rights, and Political Instability: Theory and Evidence” (1998) 42 European Economic Review 1317. T Nenova, S Claessens and SD Djankov, “Corporate Risk Around the World”, World Bank Policy Research Working Paper No 2271 (2000), discusses the association of investors' rights protection and lower financial risks.
- For a discussion on these systems see A Demirguc-Kunt, “Bank-Based and Market-Based Financial Systems: Cross-Country Comparisons”, World Bank Policy Research Working Paper 2143 (1999); R Levine, “Bank-Based or Market-Based Financial System” (2003) 11 Journal of Financial Intermediation 398.
- R La Porta, F Lopez-de-Silanes, A Shleifer and R Vishny, “Investor Protection: Origin, Consequences, Reform” World Bank Financial Sector Discussion Paper No 1 (1999), show positive relationship between shareholders' rights and equity markets. R La Porta, Rafael, F Lopez-de-Silanes and A Shleifer, “Law and Finance” (1998) 106 Journal of Political Economy 1113 and R Levine, “Law, Finance, and Economic Growth” (1999) 8 Journal of Financial Intermediation 36 find positive association of higher creditors' rights with greater financial intermediary development.
- For a discussion on debt and equity see FK Reilly and KC Brown, Investment Analysis and Portfolio Management (The Dryden Press, 2001), 78 and 82.
- AM Santomero and DF Babbel, Financial Markets, Instruments, and Institutions (McGraw-Hill Irwin, 2001), point out that more than 100 types of securities lie between equity and debt that corporations have used to raise funds for investment.
- OE Williamson, “Corporate Finance and Corporate Governance” (1988) 43 Journal of Finance 567, discusses the governance structures for shareholders and creditors. Whereas shareholders have a complex discretionary and costly governance structure, creditors have a simpler and less costly rule-based governance framework.
- Literature showing the relationship between investors' rights and finance are R La Porta, F Lopez-de-Silanes and A Shleifer, “Legal Determinants of External Finance” (1997) 52 Journal of Finance 1131; La Porta et al. (1998) and (1999), supra n 16; Levine, supra nn 15 and 16.
- For a discussion on the role of organisational law in defining the roles and obligations of stakeholders see H Hansmann and R Kraakman, “The Essential Role of Organizational Law” (2000–01) 110 Yale Law Journal 387.
- J Dine, Company Law (Sweet & Maxwell, 2001).
- Hansmann and Kraakman, supra n 21.
- La Porta et al. (1998), supra n 16, 1122–25.
- M Giannetti and Y Koskinen, “Investor Protection and Demand for Equity”, European Corporate Governance Institute (ECGI) Research Paper No 64/2004 (2004).
- La Porta et al., supra n 20.
- R La Porta, F Lopez-de-Silanes and A Shleifer, “What Works in Securities Laws?” (2006) 61 Journal of Finance 1.
- BS Black, “The Legal and Institutional Preconditions for Strong Securities Markets” (2001) 48 UCLA Law Review 782, 781–855, calls existence of securities markets “magical” as investors pay huge amounts of funds to strangers not against tangible rights, but on the perceived quality of information and honesty of managers.
- La Porta et al. (1998), supra n 16.
- For lists of desirable institutions needed for ensuring controlling information asymmetry and self-dealing see Black, supra n 28; BS Black, “The Core Institutions that Support Strong Securities Markets” (2000) 55 Business Lawyer 1565.
- See A Levitt, “The Importance of High Quality Accounting Standards”, speech given at the Inter-American Development Bank, Washington DC, 29 September 1997.
- For a discussion on mandatory information disclosure see T Baums, “Changing Patterns of Corporate Disclosure in Continental Europe: the Example of Germany”, Law Working Paper No 04/2002 (European Corporate Governance Institute, 2002); L Zingales, “The Costs and Benefits of Financial Market Regulation”, Law Working Paper No 21/2004 (European Corporate Governance Institute, 2004).
- Black, supra nn 28 and 30.
- CA Williams, “The Securities and Exchange Commission and Corporate Social Transparency” (1999) 112 Harvard Law Review 1197.
- For effects of disclosure laws on stock markets see La Porta et al., supra n 27; for effects on managers' behaviour see M Greenstone, P Oyer and A Vissing-Jorgensen, “Mandated Disclosure, Stock Returns, and the 1964 Securities Acts Amendments” (2006) 121 Quarterly Journal of Economics 399.
- Williamson, supra n 19, indicates that, compared to equity, debt has a rule-based governance structure that is simple and less costly.
- World Bank, “Principles for Effective Insolvency and Creditors Rights System”, revised draft (2005), 11.
- La Porta et al. (1998), supra n 16, 1122–25.
- See RA Posner, Economic Analysis of Law (Little, Brown & Co, 4th edn, 1992) for a discussion on the objectives of bankruptcy laws; see World Bank, supra n 37, for basic elements of the insolvency system that ensures creditor rights.
- For the overall goals of Islamic law see N Muhammed, “Principles of Islamic Contract Law” (1989) 6 Journal of Law and Religion 116; AZ Yamani, “The External Shari'a” (1979) 12 New York University Journal of International Law and Politics 208. While discussion on maqasid al-Shari'ah goes back to the thirteenth century, contemporary discourse on the topic can be found in MA Ibn Ashur, Treatise on Maqasid al-Shari'ah (International Institute of Islamic Thought, 2006); MU Chapra, The Islamic Vision of Development in Light of Maqasid al Shari'ah (International Institute of Islamic Thought, 2008).
- WB Hallaq, A History of Islamic Legal Theories: An Introduction to Sunni Usul al-Fiqh (Cambridge University Press, 2004).
- MH Kamali, Shari'ah Law: An Introduction (Oneworld Publications, 2008).
- MH Kamali, Isalmic Commercial Law: An Introduction (Oneworld Publications, 2000). See also Dallah Albaraka, Fatawa: Shari'ah Rulings on Economics (1994), Fatwa No 1, 75–76.
- While some authors consider gambling (maysir) as an additional prohibition, it can be categorised as a form of gharar. S Al-Suwailem, Hedging in Islamic Finance (Islamic Research and Training Institute, Islamic Development Bank Group, 2006), 73, considers gambling as the purest form of gharar.
- MN Siddidi, Riba, Bank Interest and the Rationale of its Prohibition (Islamic Research and Training Institute, Islamic Development Bank, 2004).
- While there are several verses related to riba in the Quran, the most-cited one is: “Those who devour riba will not stand except as stands one whom the evil one by his touch has driven to madness. That is because they say: ‘Trade is like riba', but God has permitted trade and forbidden riba” (Quran 2:275).
- Hadith number [4063]81 in AH Muslim bin al Hajjaj, English Translation of Sahih Muslim, Volume 4 (Maktaba Darussalam, 2007), 307, translated by N al-Khattab.
- There are differences of opinion among various schools as to what constitutes ribawi goods. For a discussion see MH Fadel, “Riba, Efficiency, and Prudential Regulation: Preliminary Thoughts” (2008) 25 Wisconsin International Law Journal 661, 655–702; FE Vogel and SL Hayes, Islamic Law and Finance: Religion, Risk, and Return (Kluwer Law International, 1998), 76.
- Fadel, Ibid, 666.
- For different meanings of gharar see M ElGamal, “An Economic Explication of the Prohibition of gharar in Classical Islamic Jurisprudence” (2001) 8 Islamic Economic Studies 32. For a detailed discussion on gharar see SMA Al-Dhareer, Al-Gharar in Contracts and its Effect on Contemporary Transactions (Islamic Research and Training Institute, Islamic Development Bank, 1997); Kamali, supra n 43.
- The definition of gharar is taken from W Al-Zuhayli, Financial Transactions in Islamic Jurisprudence (Dar al-Fikr al-Mouaser, 2003), 83.
- The exceptions to this rule are the contracts of salam and istisna due to fulfilment of public need. See infra Section C.2 for further discussion. Note that possession can be constructive, whereby the assets/goods are legally owned but not held physically. An example of such possession is a bank account. For a discussion on ownership and possession see AW Dusuki and S Mokhtar, “Critical Appraisal of Shari'ah Issues on Ownership in Asset-based Sukuk as Implemented in the Islamic Debt Market”, Research Paper No 8/2010 (International Shari'ah Research Academy, 2010).
- Sometimes the word Shari'ah is used to mean the whole body of Islamic law. In this paper, it is defined more narrowly, as is usually done in Arabic usage, to mean laws based on texts (Quran and Sunnah). Islamic jurisprudence derived from Shari'ah is referred to as fiqh.
- TJ Al-Alwani, Usul Al Fiqh Al Islam, Source Methodology in Islamic Jurisprudence (The International Institute of Islamic Thought, 1990).
- HH Hassan, “The Jurisprudence of Financial Transactions (Fiqh al Muamalat)” in A Ahmad and KR Awan (eds), Lectures on Islamic Economics (Islamic Development Bank, 1992), 105–14.
- The other major division being the Shia tradition. For a discussion on the evolution of jurisprudential schools see Hallaq, supra n 41; AAB Philips, The Evolution of Fiqh (Islamic Law and the Madhhabs) (AS Noordeen, 2002).
- P Owsia, Formation of Contract: A Comparative Study under English, French, Islamic and Iranian Law (Graham & Trotman, 1994).
- Discussion on the Islamic legal methodologies is found in Hallaq, supra n 41; AE Kharoufa, Philosophy of Islamic Shari'ah and its Contribution to the Science of Contemporary Law (Islamic Development Bank, 2004); MA Laldin, Introduction to Shariah and Islamic Jurisprudence (CERT Publications, 2006).
- MH Kamali, “Legal Maxims and other Genres of Literature in Islamic Jurisprudence” (2006) 20 Arab Law Quarterly 77.
- The maxim al-kharaj bi al-daman is based on a Prophetic saying with similar wordings. The two maxims can be found as Arts 85 and 87, respectively of the Majallah, which is the short for The Mejelle (Being An English Translation of Majallah el-Ahkam-i-Adliya and A Complete Code of Islamic Civil Law (The Other Press, 2001).
- The principle of ibahah was debated among the different schools in the past. While the Hanbalis take the position of permissibility, the literalists (Zahiris) take the opposite view that the norm is prohibition, which implies that new contracts are not lawful unless these are sanctioned by Shari'ah. The Hanafis and Shafi'is take the intermediate stance between the two extremes and affirm that, while there is freedom of contract, the legal consequences of contracts are determined by Shari'ah. For a discussion on ibahah see Kamali, supra n 13; NJ Coulson Commercial Law in Gulf States: The Islamic Legal Tradition (Graham & Trotman, 1984). For a contemporary ruling on the acceptability of ibahah see Dallah Albaraka, supra n 43, Fatwa No 1, 75–76.
- For a discussion see Vogel and Hayes, supra n 48, 99.
- See Siddiqi, supra n 9, 86–91, for a discussion.
- MT Usmani, “The Concept of Musharakah and its Application as an Islamic Method of Financing” (1999) 14 Arab Law Quarterly 203.
- Shirkah al-amwal can be further classified as either shirkah al-mufawadah, in which capital contributed is of equal amount and all partners have full authority and obligation, or shirkah inam, in which partners have unequal capital contribution and management responsibility. For a discussion on different types of shirkah see Chapra, supra n 1; Usmani Ibid.
- Usmani, Ibid, 208–10, points out that, even though there was disagreement among the different schools on whether in-kind illiquid capital can be input in a musharakah, the view of Iman Malik that liquidity of capital is not a condition for validity of the partnership is accepted by modern scholars.
- For a discussion on these modes of financing see M Ayub, Understanding Islamic Finance (John Wiley & Sons, 2007); MT Usmani, An Introduction to Islamic Finance (Idaratul Maarif, 1999).
- The permissibility of salam comes from a Prophetic saying, and approval of istisna is due to fulfilment of public interest or welfare. See AAOIFI (Accounting and Auditing Organization for Islamic Financial Institutions), Shari'a Standards (Accounting and Auditing Organization for Islamic Financial Institutions, 2003), 173 and 193 for discussions.
- It is permitted to charge a penalty for late payments to discipline the delinquent behaviour of the debtor. The penalty, however, cannot be kept by the creditor as income but must be donated to charitable causes. See Art 5/6 in AAOIFI, Ibid, 123 for the penalty imposed on delay in payment in a murabahah contract.
- See IFA and Islamic Research and Training Institute, Resolutions and Recommendations of the Council of the IFA (Islamic Research and Training Institute, Islamic Development Bank, 2000), Ruling No 30 (5/4), 63. For a discussion on the guidelines of issuing Islamic securities see T Khan, “Islamic Quasi Equity (Debt) Instruments and the Challenges of Balance Sheet Hedging: An Exploratory Analysis” (1999–2000) 7 Islamic Economic Studies 1.
- As authority of Islamic law lies with scholars, it is often termed “jurists' law”. For a discussion see J Schacht, An Introduction to Islamic Law, (Oxford University Press, 1982), 5.
- M Kahf, “Islamic Banks: The Rise of a New Power Alliance of Wealth and Shari'ah Scholarship” in CM Henry and R Wilson (eds), The Politics of Islamic Finance (Edinburgh University Press, 2004) presents the history of the evolution of Shari'ah boards in Islamic finance industry. For a discussion on Shari'ah governance issues see W Grais and M Pellegrini, “Corporate Governance and Shariah Compliance in Institutions Offering Islamic Financial Services”, World Bank Policy Research Working Paper 4054 (2006); for regulatory standards on Shari'ah governance see IFSB, Guiding Principles on Shari'ah Governance Systems for Institutions Offering Only Islamic Financial Services (Islamic Financial Services Board, 2009).
- Countries with national Shari'ah boards that oversee the Islamic financial sector include Indonesia, Malaysia, Pakistan and Sudan. For a discussion on national Shari'ah boards see H Ahmed, Product Development in Islamic Banks (Edinburg University Press, 2011), ch 3.
- The documents of the IFSB are available at www.ifsb.org free of charge. AAOIFI standards are listed at www.aaoifi.com/aaoifi/Publications/KeyPublications/tabid/88/language/en-US/Default.aspx and are available for purchase.
- A Saeed, “Ijtihad and Innovation in Neo-Modernist Islamic Thought in Indonesia” (1997) 8 Islam and Christian-Muslim Relations 279.
- For a discussion on these methods see Vogel and Hayes, supra n 48.
- RM Al-Khalifa, “Features of Tajdid (Renewal) in the Fiqh of Contemporary Financial Transactions”, paper presented at the Sixth Conference of Shari'ah Boards, AAOIFI, Kingdom of Bahrain (2006).
- MA Al-Sid, “General Objectives of Islamic Shari'ah: The Reality of the Devine” in M Kahf (ed), Lessons in Islamic Economics, Volume 1 (Islamic Research and Training Institute, Islamic Development Bank, 1998) identifies the corpus of Islamic law as rituals, personal status, contracts, torts, criminal, constitutional, taxation and public finance, administrative, land, international, and ethics of personal conduct.
- The Majallah, supra n 60, completed in 1877 by the Ottoman empire, was a collection of legal rules related mainly to commercial transactions and considered the first codified Islamic legislation.
- See Arts 1329–32 of the Majallah, supra n 60.
- M Cizakca, A Comparative Evolution of Business Partnerships, The Islamic World and Europe, with Special Reference to the Ottoman Archive (EJ Brill, 1996).
- T Kuran, “The Absence of the Corporation in Islamic Law: Origins and Persistence” (2005) 53 The American Journal of Comparative Law 785.
- Cizakca supra n 81.
- The constitution of Egypt indicates that “Islamic Shari'a is the principal source of law” and Art 7 of the constitution of the UAE stipulates Islamic law to be the main source of law. See ID Edge “Shari'a and Commerce in Contemporary Egypt” in C Mallat (ed), Islamic Law and Finance (Graham & Trotman, 1988). See SMA Mahmoud, UAE Company Law and Practice (Gulf Legal Services Limited, 1997) for an overview of the legal system in UAE.
- Chapra, supra n 1.
- Usmani, supra n 67, 228.
- Al-Zuhayli, supra n 51, 529.
- IFA and Islamic Research and Training Institute, supra n 70, 127.
- Resolution No 63/1/7, Ibid, 127.
- AAOIFI, supra n 68, 223.
- Art 4/1/1/2 in Ibid, 208.
- The specific rights of shareholders in a corporation include, inter alia, one share—one vote, proportional representation, proxy by mail, shares not blocked before meeting, oppressed minorities mechanism and pre-emptive rights. See La Porta et al (1998), supra n 16, 1122–25.
- AAOIFI, supra n 68, 208–10.
- Ibid, 203, 232.
- This is pointed out by MA Zarqa, “Islamic Jurisprudence (Fiqh) and Economics of Exchange” in A Ahmad and KR Awan (eds), Lectures on Islamic Economics (Islamic Development Bank, 1992), 145–66.
- The Quran and Hadith emphasise this point. For example, Quran (2:283) says: “And if you are on a journey and cannot find a scribe, then let there be a pledge taken (mortgaging); then if one of you entrust the other, let the one who is entrusted discharge his trust (faithfully), and let him be afraid of Allah, his Lord. And conceal not the evidence for he, who hides it, surely his heart is sinful. And Allah is All-Knower of what you do.” Translation taken from MT Al-Hilali, and MM Khan, The Noble Quran, English Translation of the Meanings and Commentary (King Fahd Complex for Printing of the Holy Quran, 1404H). Similarly, MM Khan, The Translation and Meanings of Sahih Al-Bukhari, Volume 3 (Darussalam Publishers and Distributors, 1997), 171, reports the Prophetic saying “It is illegal for one to sell a thing if one knows that it has a defect, unless one informs the buyer of that defect”.
- Islamic Financial Services Board, Disclosures to Promote Transparency and Market Discipline for Institutions offering Islamic Financial Services (excluding Insurance (Takaful) Institutions and Islamic Mutual Funds) (Islamic Financial Services Board, 2007), 1.
- Principle 4 of Islamic Financial Services Board, Guiding Principles on Corporate Governance for Institutions offering only Islamic Financial Services (excluding Insurance (Takaful) Institutions and Islamic Mutual Funds) (Islamic Financial Services Board, 2006) 12.
- La Porta et al. (1998), supra n 16, 1122–25.
- For example, the issue related to mandatory dividends will be excluded as it contradicts the principles of Shari'ah. This is because in equity contracts the financier bears the risk of loss of the partnership and as such cannot be guaranteed a dividend. See the discussion on equity contracts supra, Section C.
- Al-Zuhayli, supra n 51, 383.
- Art 998, Majallah, supra n 60.
- In order to give the creditors their dues, the judge can order the selling of expensive possessions used by the debtor, use the proceeds to buy less expensive items for the use of the debtor and pay the remaining balance to the creditor. The Majallah points out that, if a debtor has expensive clothes, these should be sold, cheap clothes bought for the debtor and the balance paid to the creditor. Similarly, if a debtor has a large house, it would be sold, a house of reasonable means bought for his/her use and balance paid to the creditor (Majallah, supra n 60, Art 999).
- Arts 999–1002, Majallah, supra n 60.
- Standard No 3, AAOIFI, supra n 68.
- Ibid, 37–39.
- The priority rights of creditors are discussed under some specific cases. For example, Usmani, supra n 67, 228, indicates that debtors have preferential rights to assets over the rights of the heirs in the distribution of the assets of a deceased. The expenses incurred for the processing of settling debt have to come from the assets. Similarly, HH Hassan, “The Jurisprudence of Financial Transactions (Fiqh al Muamalat)” in A Ahmad and KR Awan (eds) Lectures on Islamic Economics (Islamic Development Bank, 1992), 105–14, cites the case of the right of the creditors to specific assets. If a creditor finds his capital assets with the bankrupt debtor, he will be more entitled to that specific property than any other creditor.
Journal of Corporate Law Studies
Volume 12, 2012 - Issue 2