Islamic Banking, Financials and Accounting

INTRODUCTION When one mentions banking or financial institutions, Islam banks don’t necessarily come readily to mind. There are a few reasons for this, one of which is that Islam banks, which are primarily religious in nature, tend to be vastly different from their Western counterparts, and could even be considered confusing to them.In this paper, we’ll examine the Islam economic system, discuss banks and other financial institutions in this system, and will discuss some of the accounting methods used in such a system. We’ll also examine current trends and disadvantages of the system as well.Islam banks and financial institutions do a lot more than the Western banks do (Ariff, 1998). They do so because Islam is based on religious practices, as opposed to hard-core business practices. Some experts point out, as well, that Islam banking, because of its nature, is a risky business, compared to conventional banking (Ariff, 1998). For one thing, risk-sharing forms a strong basis of all Islamic financial transactions (Ariff, 1998). Basically, everyone earns something, or everyone loses something in the trade. Banks, however, have put their eggs in more than one basket (according to Ariff) and have also established their reserve funds from past profits, so as to offset any potential major losses (Ariff, 1998).For the most part, Islamic practices when it comes to money don’t adapt themselves very well to more Anglo methods of accounting or finance (Rahman, 2000). Most experts point out that Islamic economics tends to work on very different considerations and theories than do Western economics, accounting and finance (Rahman, 2000).According to much of the literature on Islam banking (and its accounting practices), three things must be kept in mind. First, it’s interest free, and this is something we will continue to point out throughout this paper (Ariff, 1998). The Islam banking system charges no interest for lending money, and this has created some interesting challenges in terms of reporting and in terms of lending. Still, for the most part, experts seem to believe that Islamic banks have tended to function well without having to charge interest – with one of those experts being the International Monetary Fund (Ariff, 1998).Second, the banking and financial system of Islam is multi-purpose and not solely commercial (Ariff, 1998). As we see how religion ties into Islam (particularly in terms of wealth), we’ll be able to explore this concept somewhat further.Finally, the Islam banking system is very much equity-oriented (Ariff, 1998). There is an all for one, one for all concept when it comes to sharing the wealth in Islam that is absent among other Western (or even some Eastern) financial enterprises. HISTORY AND EVOLUTIONA history of Islam economics and bankingAccording to Ariff (1998), the first modern experiment when it came to Islamic banking took place in Egypt, with a downplaying of the Islamic image, for fear that such activities would be considered a manifestation of Islamic fundamentalism (p. 46) This first form of official banking was in the form of a savings bank, based on profit sharing, and located in Mit Ghamr in Egypt in 1963 (Ariff, 1998). By 1967, when the experiment came to an end, there were nine banks throughout the country – and these banks didn’t charge or pay interest (we’ll explore this concept later on in this paper) (Ariff, 1998). The banks, rather, survived by becoming involved in trade and industry, either directly or in partnership with companies, and then shared the profits earned with depositors (Ariff, 1998). As such, these were mostly saving/investment institutions, as opposed to commercial banks (Ariff, 1998).Other institutions, such as the Nasir Sociatl Bank and the IDB followed in the 1970s (Ariff, 1998).But by this time, the political climate of Muslim countries was changing, so that Islamic financial institutions could be established in the open (Ariff, 1998). Other banks that came out of this period in the Middle East included the Dubai Islamic Bank, Faisal Islamic Bank of Sudan, Faisal Islamic Bank of Egypt and the Bahrain Islamic Bank (Ariff, 1998). From there, Islamic banking spread to other areas, such as the Asia-Pacific region, throughout the 1980s (Ariff, 1998).There are also attempts to establish Islam banks in the west – the Islamic Banking System (Islamic Finance House today) was established in Luxembourg in 1978 (Ariff, 1998). In addition, there is an Islamic Bank International in Denmark and the Islamic Investment Company in Melbourne, Australia (Ariff, 1998). Islam economics todayThe main point of Islamic banking, whether it comes to loans, credit cards or other financial instruments, is that it is interest free (Ariff, 1998). This is a point that we’ll be visiting often throughout the rest of the paper, that there basically is no room for any