Islamic banking gets its name from its compliance to Islamic laws (also known as Shariah laws) governing financial transactions. Islamic law prohibits charging of rent on money that in conventional words means interest and is termed Riba in Islamic laws. The rationale behind not charging interest comes from the Islamic finance concept, which states that interest or riba encourages circulation of wealth in the hands of a few rich entities and limits prosperity to reach to the masses in the society. However, Islamic banking is not limited to interest-free banking alone but adhering to all Islamic values such as charity, profit sharing, zakat (or Islamic tax collected for the destitute) and not doing business in things classified as haram (or forbidden under injunctions of Islam). As stated in State Bank of Pakistan’s website that allows Islamic banking practices in that country; “Islamic banking, the more general term is expected not only to avoid interest-based transactions, prohibited in the Islamic Shariah, but also to avoid unethical practices and participate actively in achieving the goals and objectives of an Islamic economy”(faq Islamic banks).
The first modern experiment of Islamic banking was carried out in Egypt. This experiment was not labeled as an initiative to establish Islamic banking because the idea holders feared to be labeled as Islamic fundamentalists. The initiative became a savings back working on profit sharing in the town Mit Ghamr, year 1963( Zaman & Movassaghi 38). Ariff (1988) stated that “These banks neither charged nor paid interest, invested mostly in trade and industry, directly or in partnership with others, and shared profits with depositors” (qtd. in Zaman & Movassaghi 38). It was after the 1970s that Islamic banks saw mushroom growth internationally as stated by Zaman & Movassaghi. The following banks were opened up; Nasr Social Bank in 1971,Amanah Bank in 1973, the Dubai Islamic Bank in 1975, the Kuwait Finance House in 1977, the Faisal Islamic Bank of Sudan in 1977, Faisal Islamic Bank of Egypt in 1997, the Bahrain Islamic Bank 1979, and the Qatar Islamic Bank 1981. (38). However, it is only in the last few years that Islamic banking and finance has picked up pace and Islamic economists have come up with innovative financial products that are also Shariah compliant.
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