Advantages and Disadvantages of Islamic and Non-Interest Banking

 

Alt: = "Islamic bank building"

Islamic banking or non-interest banking operates on ethical or Islamic principles including interest avoidance in debt and exchange contracts. 

It also prohibits funding of unethical ventures such as, alcohol, tobacco, ammunition manufacturing and adult entertainment institutions and also prohibits any form of gambling.

Islamic banking operates in profit and loss sharing basis. In essence, Islamic banking operates in accordance with Sharia law, which prohibits usury and speculations.

Read also: List of Islamic and Non-interest Banks in Nigeria

Advantages of Islamic Banks

Prohibits Usury/ Interest Charges

One of the profound advantages of Islamic banking is the avoidance of usury/ interest charges on borrowed fund. In essence, Islamic banks operate in accordance with Sharia law, which prohibits usury and speculations. So if your faith does not encourage interest payments, these banks are ideal for you and your business.

Equitable Distribution of Income and Wealth

The foundation of the Islamic Banking model is based on a profit and loss-sharing principle, whereby the risk is shared by the bank and the customer. This system of financial intermediation contributes to a more equitable distribution of income and wealth.

Discouraging Speculation

Islamic Banks are prohibited from engaging speculative activities in their business transactions, rather focusing on providing capital to the real economy, to promote socio economic equity. Speculation drives instability and by nature leads to misappropriation of capital.

Banking for All

Although based on Shari'a principles, Islamic Banking is not restricted to Muslims only and is available to non-Muslims as well.

Transparency

Islamic Banking is about conducting business in a fair and transparent manner. Guiding you through to ensure full understanding of risks and costs associated with the products and services is the utmost prerogative.

Ethical and Moral Dimensions

The strong ethical and moral dimensions of doing business and selecting business activities to be financed play an important role in promoting socially desirable investments and better individual or corporate behaviour.

Disadvantages of Islamic banks

Despite the profound advantages of Islamic banking system, it still has some disadvantages. Some of the disadvantages are:


Dilution

Unlike conventional banks that make credit investments in a business, Islamic and non-interest banks make equity investments in a business. In equity investment, the bank takes part of the equity shares of the business and also take part in profit and loss sharing in the business. Equity investors usually take part in owners and decision making process company there diluting the control powers of the promoters (initial owners) of the business.

Many business owners are afraid of losing control of their business through equity funding, and there prefer credit funding through credit investment provided by commercial banks and other financial institutions.

In credit investment, the bank or investor  provides capital for the business in form of loan and the capital is paid back in future with interest whether business makes profit or loss.

Does not Provide Fund for All Businesses

Another disadvantage of Islamic banks is that they don't provide business loan for all kinds of businesses. They prohibits funding of unethical ventures such as, alcohol, tobacco, ammunition manufacturing and adult entertainment institutions and also prohibits any form of gambling. Most of these businesses which are considered as unethical or un-Islamic are legitimate businesses under states laws.


Non-maximization of  Business Investment Profits

Non-interest model of Islamic banking makes investment in Islamic and non-interest banking unattractive to investors who are interested in profits maximization. Investors in the banking sector are more interested in credit investment in a customer`s business project than equity investment that involves profits and loss sharing - they want the paid both the principal and interest whether the business project makes profits or not. This is one of the major reasons there are no much non-interest banks in most economies.


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