What is Islamic Banking System? & How Islamic Finance Work? AIMS UK

Summary

This video explains the concept and history of Islamic banking, highlighting its key differences from conventional banking. Unlike traditional banks that earn profit through interest, Islamic banks operate on the principle of partnership, where profit and loss are shared among depositors, borrowers, and shareholders. Islamic banking is guided by Sharia law, which prohibits interest (Riba) and promotes ethical financial practices. The system has roots dating back to the early Islamic period and has evolved over centuries. The video also addresses how Islamic banking works, with a focus on profit-sharing and asset-backed transactions.

Takeaways

• 😀 Conventional banking is based on borrowing and lending with interest.
• 😀 Islamic banking operates on the principle of partnership, with profit and loss sharing.
• 😀 The core principle of Islamic banking is the prohibition of interest (riba) as per Sharia law.
• 😀 Islamic banking relies on equity-based financing instead of charging interest.
• 😀 In Islamic banking, both the bank and borrower share the risks and profits of investments.
• 😀 If a business does not generate profit or defaults, the bank does not receive any return.
• 😀 The roots of Islamic banking can be traced back to the 7th century, during the time of Prophet Muhammad.
• 😀 Islamic banking principles were spread through trade across regions like Spain, the Baltic states, and the Mediterranean.
• 😀 Modern Islamic banking began in the 1960s and 1970s, applying Sharia principles to finance.
• 😀 For a bank to be truly Islamic, it must follow Sharia laws strictly, and cannot charge interest.

Q & A

What is the primary difference between conventional banking and Islamic banking?

The primary difference is that conventional banking operates by borrowing deposits and lending money with interest, while Islamic banking operates on a profit-loss sharing basis without charging interest, adhering to the principles of Sharia law.

What is the core principle of Islamic banking?

The core principle of Islamic banking is the prohibition of interest (riba) and the emphasis on profit and loss sharing among all parties involved, such as depositors, borrowers, and banks.

What is Sharia law and how does it relate to Islamic banking?

Sharia law is the Islamic legal framework derived from the Quran and Hadith. Islamic banking operates according to Sharia law, which prohibits practices such as charging interest and promotes ethical financial transactions based on fairness and shared risk.

What does the concept of profit-loss sharing mean in Islamic banking?

Profit-loss sharing means that both the bank and the business involved share the risks and rewards of a financial venture. If the business earns profits, the bank shares in those profits, but if the business does not earn profits, the bank does not receive any returns either.

Is interest allowed in Islamic banking?

No, interest (riba) is prohibited in Islamic banking under Sharia law. The system avoids charging interest on loans and instead focuses on equity-based financing methods.

What was the historical role of Islamic banking in the early ages of Islam?

Islamic banking principles date back to the early days of Islam, with figures such as Khadija, the wife of Prophet Muhammad, using trade and business practices aligned with Islamic financial principles. These principles later spread across various regions like Spain, the Baltic states, and the Mediterranean.

How did Islamic banking gain prominence in the modern world?

Islamic banking became widely accepted from the 1960s to 1970s, when modern financial systems began to recognize and adopt its principles of profit-loss sharing and prohibition of interest.

What is the role of Sharia scholars in Islamic banking?

Sharia scholars play a crucial role in Islamic banking by ensuring that financial practices align with Islamic law. They approve the legality of financial transactions and guide banks on maintaining compliance with Sharia principles.

How does an Islamic bank earn money if it does not charge interest?

Islamic banks earn money by using equity-based financing methods, such as profit-sharing agreements. For example, when a business takes out a loan, it repays without interest but shares a portion of its profits with the bank.

Can a bank that does not follow Sharia law claim to be an Islamic bank?

No, a bank that does not strictly follow Sharia law cannot claim to be an Islamic bank. The bank must adhere to the principles of Islamic finance, including the prohibition of interest and profit-loss sharing, to be considered genuinely Islamic.