Pre-Mid Assignment 1
Submitted by: Hareema Kamran
Submitted to: Ma’am Javeria Asim
Course Title: Islamic Finance
Semester: 6
Section: B
Date: 8th February 2023
BUSINESS STUDIES DEPARTMENT KINNAIRD
COLLEGE FOR WOMEN LAHORE, PAKISTAN
Batch: 2020-2024
HISTORY AND EVOLUTION OF ISLAMIC FINANCE
INTRODUCTION:
Islamic finance is a financial system that is based on Islamic principles and is governed by
the principles of Shari’ah law. Sharing in profits and losses and forbidding lenders and
investors from collecting and paying interest are two key tenets of Islamic banking. Around
the world, there are 1,700 mutual funds and about 520 banks that adhere to Islamic values.
Usury and speculation are two major elements of conventional banking systems that are not
permitted in Islamic banking. Any type of speculation or gambling is categorically forbidden
by shariah. Shariah forbids lending with interest as well. It is also forbidden to invest in
anything that involves gambling, pork, alcohol, or any other thing that the Quran forbids.
This makes Islamic banking a unique cultural expression of ethical investing.
The concept of Islamic finance has its roots in the 7th century and has evolved over the years
to become a distinct financial system that is widely practiced in the Muslim world and
beyond. The history of Islamic finance can be traced back to the time of Prophet Muhammad
and the early Islamic Caliphate.
PRE-ISLAMIC ERA:
Banking in the Arab world had already started before Islam, but it was conducted with riba.
At that time, Meccan used money by either lending it to a third party to trade through al-
Qirad or Mudarabah and sharing the gains equally with that third party or donating it to that
third party. However, the arrival of Islam led to the outright ban on all riba-related operations,
yet this ban had little effect on the growth of trade on either a national or worldwide scale.
Prophet Muhammad had used the idea of trust before he became a prophet. As a result of his
honorable actions, including his honesty and integrity, the Arabs had nominated him as
wealth keeper.
Since the pre-Islamic era, Makkah, where the Prophet Muhammad (PBUH) received the
Qur'an, has been a hub of global commerce. The Makkan people were capable of creating "a
commercial empire of global proportions." Since commerce was their primary employment,
they required funding for operational needs. Those who had extra money provided capital
advances to businesspeople and traders and split the profits with them. Before becoming a
prophet, the Prophet himself was a trader and travelled frequently with Khadijah's financial
resources, who provided him with Mudarabah financing.
ISLAMIC ERA:
Islamic banking's earliest developments can be found during the early stages of Islam and the
expansion of the Islamic Empire. Islam's early history saw a rise in both internal and external
trade, which prompted the invention of Islamic financial instruments like deposits, money
transfers, cheques, bills of exchange, and other similar instruments to deal with these
commercial advancements. The early Islamic financial system was based on the principles of
fair trade and mutual cooperation, and it was free of the exploitation and injustice that was
prevalent in the conventional financial system of that time.
The Public Treasury, also known as Bayt al-Mal (the House of Finance), was the first
organization to lay the groundwork for a structured funding mechanism during the early years
of Islam. In essence, it served as a government finance department, but it also provided loans
and investment resources to private citizens. It served both the public and the caliph as a state
bank. The Bayt al-Mal served as the caliphate's financial institution during the Umayyad era.
This included lending money to farmers for agricultural development as well as helping
anyone who needed financial aid or were unable to return a loan. According to Abu Ubayd,
the caliph Umar wrote to his governor in Iraq requesting loans for those who had to pay taxes
on land that had lost its fertility, financial assistance for those who were deserving,
forgiveness of debts for those who borrowed for legitimate reasons but were unable to repay
them, assistance for every young unmarried woman who wanted to wed but was unable to do
so due lack of funds. The amount of money allocated to invest in agriculture had a one- to
two-year repayment period. As a result, they had plenty of time to use the borrowed funds
and reap the rewards of their labor.
MODERN ISLAMIC ERA:
The start of the modern age of Islamic finance is generally regarded as occurring in the late
19th and early 20th centuries. In Pakistan in the late 1950s and Malaysia in the middle of the
1940s, the first attempts at an Islamic financial system were made. The first Islamic bank in
Egypt was founded in 1963 by Ahmad al-Najjar46 and was called Mit Ghamr Saving House.
It was mostly used by people who lived in rural areas and was surrounded by them. It
operated under the theory of profit and loss sharing.
In Pakistan, a local Islamic bank was established in a remote location. The landowners who
followed Islamic principles at the time put their money in the bank, which was then loaned to
other landowners for the development of agriculture. Other than a minor fee for bank
operations, the borrowers at the time were not penalized for being late in repaying their loans.
Following that many Islamic banking ventures were initiated in countries like Egypt, Saudi
Arabia, Morocco and Malaysia, each venture facing different issues than the other.
The true evolution of Islamic finance can be traced back to the 1970s and 1980s. During this
time, the world was experiencing a significant shift in the global economic landscape, and the
need for an alternative financial system that was based on ethical and moral principles was
felt. This led to the establishment of the first Islamic financial institution, the Islamic
Development Bank, in 1975. It’s establishment helped encourage the growth of a number of
Islamic Banks around the world in different Muslim countries. During that time, other
Islamic banks were established, particularly in the Gulf, where Bahrain Islamic Bank and
Kuwait Finance House were both founded in 1979. The practice spread globally after
Pakistan, Sudan, and Iran declared the Islamization of their banking systems in the 1980s. As
a result, new banks were founded, and many conventional banks opened doors to accept
interest-free deposits. In the following decades, Islamic finance continued to grow and
evolve, with the introduction of new financial instruments and the development of Islamic
banks and other financial institutions.
CONCLUSION:
Today, Islamic finance is a well-established industry, with a growing number of Islamic
financial institutions and a wide range of Islamic financial products and services. One of the
key features of Islamic finance is the prohibition of riba (interest), which is considered
unlawful and unjust in Islamic law. This has led to the development of alternative financial
products and services, such as Murabaha (cost-plus financing), ijara (leasing), and sukuk
(Islamic bonds). In conclusion, the history and evolution of Islamic finance is a story of
innovation, and growth of a financial system that is based on ethical and moral principles.
Today, Islamic finance is a thriving industry that serves millions of people around the world
and continues to grow and evolve to meet the changing needs of its customers and the global
financial landscape.
