Comparing RF Banking and Conventional Riba-Based Banking: What Is the Difference?


Riba is prohibited in Judaism, Christianity, and Islam (as detailed in Chapter 2). The RF (riba-free) banking and finance system was started in the time of the Prophet Muhammad (pp); it revived and reinforced the teachings of Moses (pp) and Jesus (pp) in the seventh century and helped the growth of international trading, but it declined over the years and was dismantled completely after World War I and the resulting disassembly of the Ottoman Empire. The RF banking and finance system was left behind as the riba-based banking and finance system grew and developed in a more sophisticated way to meet the ever-growing volume and diversity of world economy and trade. New economic, monetary, political, and social systems were developed in Europe to cope with the changes of the Renaissance and, later, the Industrial Revolution. After World War I, most of the Muslim lands were occupied by the British and the French. It is believed by some that this was God's plan to wake up the people of these lands, to expose them to the Western world and bring them quickly to the latest developments of the nineteenth and early twentieth centuries. As a result, many young men and women were educated and became aware of the new world and its progress in the fields of education, medicine, engineering, technology, social relations, social sciences, banking and finance, and scientific research and development. A new generation of more educated and sophisticated Muslim leaders came in contact with Europe and began dreaming of catching up with its progress. At the same time, many Muslim religious leaders were sent to Europe — mainly to France, after Napoleon invaded Egypt and other Muslim countries in the Middle

East, and to a lesser extent to England — to obtain higher and graduate education and get exposed to the lifestyle and culture there. These students were sent from Egypt and India (now India, Pakistan, and Bangladesh). Many were graduates from religious schools such as Al-Azhar (the oldest Islamic seminary and university in the world) and other religious schools in India. They obtained postgraduate degrees from the leading universities in Europe and went back to their countries, aspiring to build a better future by sharing with their people what they had seen and how they had lived. In the process, they also shared their experiences and dreams about the future of their land. They started motivating people to work hard in order to catch up with Europe and its renaissance. They were assigned responsible posts in the government, such as the ministry of education (to develop a better education system for the future generations) and the ministry of finance (to help streamline and plan state finances and budgets). Many became famous newspaper editors and authors of books in general and about Islam and Prophet Muhammad (pp), using a new research-based approach with documentation and analysis in the way they had learned in Europe. Many of them started new political and civic movements to bring back the long- forgotten glory of the teachings of Islam — which is called in this book the Judeo-Christian-Islamic value system.

One of the first books I read back in 1964 was a small paperback tided Bonook Bela Fawa'ed, which means “banks without interest.” It was a small book authored by the late Professor Eissa Abdou, a professor of commerce and economics at the second largest university in Egypt, Ain Shams University. I enjoyed reading the book; it was my introduction to a new world of banking. I understood its social objectives, intent, and implications, but I did not know much about its banking applications, because I did not even have a bank account then. Bank accounts were luxuries, reserved only for the rich and affluent professionals and millionaires.

The modern, practical Islamic banking movement started in Egypt around the early 1960s as a micro lending finance operation in a small village in the Nile Delta. It was started by a young German-educated Egyptian — Dr. Ahmad Al-Naggar (this is how it is pronounced in the Egyptian accent, but in the proper Arabic pronunciation it is Al-Najjar), who came back to Egypt with his German wife after finishing his education. He was distressed to see the poor farmers in his small village of Zefta/Mit Ghamr in the Egyptian Nile Delta lacking the funds needed to finance the purchase of seeds, farm animals needed to plow the land, cattle, animal feedstock, and simple pumps — even to finance their subsistence and basic needs until the crop was cultivated and sold on the market. The bank expanded its operations throughout the Egyptian farmland and became very popular until it was nationalized by the government of the late president Nasser[1] and renamed it Nasser Social Bank (Bank Nasser Al Ijtma'ii). Dr. Al-Naggar was instrumental in training a new generation of Islamic bankers; he started the Institute of Islamic Banking Training in Cairo and then moved it to Cyprus, which was politically less restrictive to many of the students, who were former bankers and accountants from all over the world. In the last years of his life, as he confided in me during one of his visits to Los Angeles while driving from Garden Grove, California, to Pasadena, California, he became very critical of the direction taken by the Islamic banking industry at that time because it concentrated more on form and less on substance and because it abandoned its social responsibility of assisting the poor and needy, and building the local communities that needed urgent help and instead focused on serving the rich.

The 1973 Arab-Israeli war (Ramadan War in the Muslim world — the Yom Kippur war in Israel and many Western lands) instigated the first oil crisis. The increase in oil prices from less than $2.40 per barrel to almost $12 a barrel brought large sums of cash to the oil-producing countries in the Gulf. This money generated a new class of dollars: petro-dollars. Many in the banking industry spoke about the absorptive capacity of the economies of the Gulf's oil-producing countries, describing the inability of their economies to absorb these large sums of money. In an effort to create good use of some of this huge cash flow, King Faisal (d. 1975) of Saudi Arabia set a goal for his country to develop Islamic banking and to develop economic cooperation among Muslim countries. He started the Islamic Development Bank (IDB) and initiated a new vision of an Islamic banking system. In Dubai, a futuristic leader by the name Sheikh Saeed bin Lutah started the Islamic Bank of Dubai. In Kuwait, Sheikh Bazee Al-Yaseen headed a new Islamic finance company called the Kuwait Finance House (KFH). KFH attracted huge deposits and built a strong customer base. KFH started its financing activities with auto financing and later became active in commodity trade finance and real estate financing for homes and commercial buildings.

In Saudi Arabia, two Islamic finance companies were started. One was started by King Faisal's son, Prince Muhammad Al-Faisal. It was registered in Switzerland and named Faisal Finance. Its headquarters were located in a wonderful high-rise blue glass building near the Geneva airport. From Geneva, they invested in commodities like gold (cash and carry contracts as well as commodities funds), and unfortunately lost a lot of money. Prince Muhammad Al-Faisal also received a full-service banking license to operate an Islamic bank in Egypt under the name Faisal Islamic Bank (Bank Faisal Al-Islami), which grew into one of the larger banks in Egypt, with more than 700,000 customers and many branches throughout Egypt. The other RF finance company was started by Sheikh Saleh Kamel; he called it Dallah Al-Baraka. Sheikh Saleh Kamel started branches, offices, and made

investments in London, France, Egypt, Sudan, South Africa, Malaysia, Pakistan, Bangladesh, Turkey, Tunisia, Morocco, Algeria, and the United States. He also received a full-service banking license in Egypt and he called it the Egyptian Saudi Finance Bank (Bank Al Tamweel Al Misry Al Saudi). The bank now has many branches in Egypt. In the mid-1980s, he bought a small bank in London and operated it as the first Islamic bank ever in the United Kingdom. The bank was later asked to discontinue its operations by the British Financial Services Authority (FSA) because of noncompliance due to a number of operating shortcomings and because the owners (Al-Baraka) did not have a chartered bank in Saudi Arabia. It is interesting to note that Saudi Arabia did not have a full-service Islamic bank operating inside its territories until the mid-1990s. In the 1980s, Turkey got a new prime minster, the late Turgut Ozal, who had a keen interest in developing the fledgling economy of his country and ridding it of its tight-gripped military rulers. He started by developing strong relations and economic ties with many of the cash-rich Gulf oil-producing countries, especially Saudi Arabia and Kuwait. His government encouraged investments in and export to the Gulf countries. He also helped pass legislation to start what are called in Turkey finance houses, a code name for Islamic finance companies that operate like banks but are not called “Islamic” because of Turkish secular politics. The finance house name was arrived at in order not to create sensitivities around the long-standing Turkish policy coined by President Kemal Ataturk, the founder of the Republic of Turkey and the many who adhere to his policies. The long-standing Ataturk doctrine that made Turkey a secular and nonreligious country is still in effect today. Two finance houses were authorized. These were Faisal Finance (belonging to Prince Al-Faisal's operation) and Al-Baraka Turk Finance House (belonging to Al-Baraka in Saudi Arabia). All finance houses had a minimum ownership of 50 percent by local Turkish shareholders, as stipulated by Turkish law.

In the 1960s, Malaysia started a savings program to help its Muslim citizens perform pilgrimage (hajj). It is interesting to note here a popular religious practice in Malaysia and Indonesia; Muslims there believe that the most successful and blessed marriage is one which is consummated during the hajj season in Makkah (close to the Kaa'bah, the first house ever built to worship God by Prophet Abraham [pp] and his son [pp], which is close to the port of Jeddah, Saudi Arabia). They started a new savings organization to deposit parents' savings so that they could plan ahead; accumulating the cost needed to finance the hajj trip over the years from the time their child is born. This way, when the child grew up and was ready to get married, there would be enough money to perform hajj and consummate the marriage. The savings organization, called Tabung Hajj, gathered huge savings from devout Malaysian Muslims. It is important to note that most of the Malaysian Muslim religious leaders received their religious education in the 1950s and the 1960s in Cairo, at Al-Azhar University. There, they were taught about the prohibition of riba, which was called also interest (fawa'ed). Tabung Hajj began investing these funds in the proper RF way according to the law (Shari'aa) in huge palm tree plantations and in real estate projects in Malaysia and Indonesia; they realized great returns. They started an Islamic bank called Bank Islam Malaysia. Since that time, Malaysia has progressively become the leader in RF (Islamic) banking activities. In another development, after Malaysia became independent in the mid-1950s, tens of thousands of Malaysian students were sent for higher education in Egypt, England, Europe, and the United States. These graduates came back with big ideas dreaming of an advanced Malaysia.

I must share with the reader here that I spent at least 25 years of my life traveling extensively to Malaysia and getting to know its people at all levels very well. I was amazed to find out how bold the Malaysians were in their dreams, visions, and aspirations, and how courageous they were in not being afraid of implementing the boldest ideas very efficiently. Their achievement is in fact a manifestation of what people say: “You are as big as your dreams and goals.” With these big dreams, the availability of the petrodollars from the Gulf oil-producing countries, and the interest of Japan and the United States in developing the Asian markets, Malaysia became a prime player in the world economic development matrix — and the RF banking movement in Malaysia grew with it. The central bank there — Bank Negara Malaysia (BNM) — pioneered a new approach to help support RF banking. They started to run two books: one book for RF (Islamic) banks and another for conventional banks. The government encouraged teaching RF banking at the International Islamic University Malaysia (HUM) and started many training and research institutes in the field. They also established a Council of Scholars at the central bank level to establish the central bank's Shari'aa Board to operate and to develop RF banking and finance guidelines and regulations according to the rules and regulations of the RF law (Judeo-Christian-Islamic Shari'aa laws). They also developed new RF banking products and services that complied with Shari'aa and offered alternative RF banking services and products that could substitute and compete with those offered by riba-based conventional banks. The scholars in Malaysia were criticized severely by the scholars in the Arab Gulf countries for, what was labeled then, their liberal views, especially in the area of RF bonds — now called sukuk. (The word check in English originated from the Arabic word sak, or a promise to pay. The plural of sak in Arabic is sukuk).

In the West, new efforts were initiated to serve the British Muslim communities in the mid-1980s. FISBC and the United Bank of Kuwait (now part of Shamel Bank of Bahrain) started offering home financing services. HSBC called its services (which are now available in many parts of the world) Amanah. United Bank of Kuwait called its home mortgage finance program Al-Manzil; it is still in use in the United Kingdom. The U.K. FSA authorized the Islamic Bank of Britain (IBB) as a full-service bank with some stiff requirements and guarantees from the shareholders, who come mostly from Qatar with a small shareholders position from Bahrain. In the United States, two companies started operations in 1987 to meet the growing demand among the expanding American Muslim community. These were American Finance House (TARIBA), which financed all community needs serving all Americans, Muslims and non-Muslims, like cars, homes, and businesses, and Muslim Savings and Investment company (MSI), which financed mostly homes. TARIBA grew and its shareholders acquired a full-service bank in 1998, as will be detailed later. MSI experienced significant losses in the housing development business and was later closed down after its contract for home financing was challenged in a Texas court (the case was settled out of court for an undisclosed sum of money paid by MSI). In the late 1990s, the United Bank of Kuwait began to offer its home financing in New York, along the same model it offered in the United Kingdom, but after almost two years of operations it was closed down. In the early 2000s due to a number of issues including noncompliance, HSBC started offering home financing in New York and offered services through a wholly-owned subsidiary they called Amanah, but it was not able to compete because the conventional mortgage staff was not sold on RF mortgage financing and was curtailed. A new home mortgage finance company called Guidance Residential Finance was started in 2001, and with LARIBA, this company became a major home mortgage financing company. Guidance relied in its sales and promotion campaign on the reputation and endorsement of a religious heavyweight adviser who was a chief religious justice and a former mufti in Pakistan.

Perhaps the most historic moment in the operations of RF financing of home mortgages came in 2001, when Freddie Mac approved LARIBA. In 2002, Fannie Mae followed. The support of Freddie and Fannie helped the growth of home mortgage financing using RF finance models in America. Instead of LARIBA being able to finance a home every two or three months, they were able to finance as many as 50 homes per month after the investments from Freddie and Fannie became available. Another first in the history of the United States was the issuing of RF mortgage-backed securities (RF MBSs) by LARIBA with Fannie Mae. These RF MBSs were based on RF mortgages produced by LARIBA with Fannie Mae. In 1998, some of the LARIBA shareholders acquired the Bank of Whittier, NA, and in 2003 a new RF banking team came to run the bank in an RF format. The bank offers financing of cars, homes, commercial buildings, businesses, churches, mosques (masajid), and schools. The Bank of Whittier also offers the entire standard banking services offered by any bank in the United States in an RF format. The bank offers time certificates of deposit (CDs), which derive their income from the RF credit portfolio of the bank. Two other community banks entered the business by offering an Islamic banking window (mostly for home mortgages). These are Devon Bank of Chicago, Illinois, and University Bank of Detroit, Michigan. These banks meet the growing demand for RF banking and finance services in many parts of the United States.

  • [1] President of Egypt (1956-1970), a leader of the Egyptian Free Officers Revolution of 1952, and a pan Arab leader of Arab Nationalism.
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