TRANSITIONING TO A
RIBA FREE ECONOMY
On the Historic Verdict of the Federal Shariat Court
After 20 years of pendency of the case on Riba (interest), a three-judge bench, led by its Chief Justice Muhammad Noor Meskanzai, the Federal Shariat Court (FSC) finally declared, on April 28, that the prohibition of Riba was absolute in all its forms and manifestations according to the injunctions of Islam and in accordance with the Holy Quran and Sunnah. The Court directed the government to make regulatory changes so as to ensure that the banking system of Pakistan becomes free of interest within five years. The court ruled that the federal government and provincial governments must alter relevant laws and publish directives by December 2027 to ensure that the country’s banking system is made interest-free. The ruling added that “elimination of Riba from our economic system is our religious as well as our constitutional duty; hence it has to be eliminated from Pakistan.”
The verdict, which was read out by Justice Dr Syed Muhammad Anwer, was earlier reserved by the three-member bench of the FSC on April 12 after hearing all the parties and the Attorney General. The court observed that banks were receiving more than the loan amount which fell under the category of usury. “Islamic banking system is risk-free and against exploitation,” Justice Anwar remarked.
The first petition for the abolition of the interest-based banking system in Pakistan was filed in the Federal Shariat Court on June 30, 1990. The then-chief justice of the FSC, Dr Tanzeel-ur-Rehman, had constituted a three-member bench that delivered judgment in the case on November 14, 1991, and sought its implementation by April 30, 1992. The then PML-N government had challenged the decision in the apex court.
Years later on December 23, 1999, the Supreme Court upheld the decision of the FSC and directed authorities to ensure its implementation by June 30, 2000.
Subsequently, a review appeal was filed in 2002 with the top court, and on June 24, 2002, the decision of the Court was suspended and the case was referred back to the FSC for interpretation of Riba. The case has since been pending in this court. Around nine chief justices of the FSC have completed their terms since then, but the case remained undecided until its verdict was announced on April 28.
The current FSC bench conducted 34 hearings wherein the petitioners, their counsels, jurisconsults, amicus curiae, economists, experts, scholars, chartered accountants, Attorney General for Pakistan and the advocates general of the provinces advanced their arguments. They also gave suggestions for conversion of the existing banking system into Riba-free Islamic banking system.
Important excerpts from the verdict
In the written judgment, the bench said:
1. “[E]limination of Riba from our economic system is our religious as well as our constitutional duty; hence it has to be eliminated from Pakistan.
2. “The prohibition of Riba is the corner stone of the Islamic economic system. Therefore, we have decided that every loan which extracts any additional amount upon the principal from the debtor is Riba, hence, any transaction that contains Riba even at a slightest level, falls within the category of Riba thus prohibited. Furthermore, all the prevailing forms of interest, either in the banking transactions or in private transactions, fall within the definition of Riba.”
3. “The prohibition of Riba is complete and absolute in all its forms and manifestations according to the Injunctions of Islam in accordance with the Holy Quran and Sunnah. Therefore, for all the detailed reasons deliberated herein before in this judgment the charging of any amount in any manner over the principal amount of a loan or debt is Riba which is completely prohibited according to the Quran and Sunnah of the Holy Prophet (SAW).”
4. “Any interest stipulated in the Government borrowings acquired from domestic or foreign sources is Riba and clearly prohibited by the Holy Quran and Sunnah; therefore, for future the Government is directed to adopt Shariah-Compliant Modes while borrowing either from domestic or from foreign sources.”
5. The court also referred “to the constructive, encouraging and positive approach of the International Financial Institutions like IMF, Asian Development Bank and the World Bank to utilize Shariah-Compliant, Riba-free financing modes for their financing modes being more productive and economically feasible.”
6. “We are of considered view that all those laws or the provisions of laws, which are under challenge before us, which contain the word ‘interest’ within the meaning of banking interest is Riba, hence prohibited and any payment of extra amount in addition to due payment due to a delay, which is considered and calculated as interest over that amount, also falls within the category of Riba, hence prohibited being repugnant to the injunctions of Islam according to the principles as laid down in the Quran and Sunnah. All the prevailing forms of interest either in the banking transactions or in private transactions do fall within the definition of Riba. Therefore the Government is directed to delete the word ‘interest’ wherever it is used in the impugned provisions of law in this sense as already decided by us after examination of each impugned law as discussed supra.”
7. The verdict stated that China, as per Islamic Shariah, is heading towards an interest-free banking system. It also directed the government to immediately remove the word interest from all banking and other laws.
8. The verdict also stated that the attorney general had informed the judges that it would take time to get rid of the interest-based system in the country. The Supreme Court’s Shariat Appellate Bench in 2001 had ordered the implementation of the order to abolish the interest system. The court, giving the government five years to implement an interest-free banking system in the country, ordered that such a system should be implemented in the country by December 31, 2027.
9. The court stated that had Article 38-F been implemented years ago, riba would have ended. It added that the State Bank of Pakistan, in its report, had stated that 20pc of banking had shifted to the Islamic system. It added that five years is enough time to ensure the implementation of an Islamic and interest-free banking system in the country.
10. “The government is expected to present an annual report on the interest-free system in Parliament,” said the verdict. The court also declared the Interest Act, 1839, and all laws and provisions facilitating interest as unlawful.
A welcome verdict?
Those in favour of this verdict assert that the FSC’s declaring the prohibition of Riba absolute in all its forms and manifestations according to the injunctions of Islam is indeed a landmark decision. However, the judgment cannot be considered an end in itself; it’s just a step further towards moulding the whole economy and financial sector according to the injunctions of Islam and laying the foundations of a true Islamic society. They suggest that task forces and working groups should be formed along with advocacy and awareness campaigns in which the role of mainstream and social media, scholars, and politicians is of critical importance. They believe that that FSC judgment had removed any legal resistance in the way of implementing an Islamic economic system, and has effectively blocked the way for any review of its judgment.
In this context, it is relevant to note that Bank of Islam Malaysia has been successfully posting profits for years by providing loans free of cost to its borrowers, identified through the application of a highly ethical process; and, without the need to take account of market fluctuations, the borrower no longer needs to constantly adjust his balance sheets, which account for lower defaults, lower non-performing assets and higher profits which are then shared with the lender bank that, in turn, shared its profits with the depositors. However, the Malaysian central bank, Bank Negara Malaysia, continues to set interest rates.
The other viewpoint
The verdict is likely to have far-reaching implications for the nation’s financial system and its dealings with the outside world. The court has given the government until the end of 2027 to convert the country’s economy into one that is “equitable, asset-based, and risk-sharing” by prohibiting and eliminating interest in all its manifestations, in accordance with religious edicts.
Although the government has welcomed the decision, stating that the government and the SBP will “carefully study this important decision and then seek guidance and clarification from the FSC about the process, steps and time frame to implement this decision,” it is likely that the decision will be challenged by the banks — and quite possibly by the government itself — because of its potential impact on the national financial system and the country’s financial integration with the rest of the world.
Challenges for the government
The ‘shift’ to an interest-free economy in a complex, modern financial system can be challenging, even if it is possible. The implementation of the FSC’s decision would be a major challenge for the government on three counts.
First, and perhaps of most serious immediate concern, is the fact that Pakistan today owes more than 130 billion dollars to foreign countries/multilaterals/commercial banks/debt equity from issuance of Sukuk/Eurobonds. For the next five years, the country would have to register a surplus current account of 26 billion dollars each year to meet the deadline given by the Federal Shariat Court. Given that Pakistan has registered a current account surplus rarely, if ever, with the July-February 2022 deficit of 13.1 billion dollars, the government may have to seek an extension in the implementation deadline at best. An offshoot of this maybe the cessation of all linkages to the international financial market barring a few banks in Muslim countries who may hesitate due to the higher risk associated with such a delinking. While without doubt the very possibility of hot money flowing into the economy would evaporate, hot money whose summary exit is believed to be a major cause of
the 1978 Asian financial crisis that caused much angst amongst the people of these countries, yet it may also inhibit foreign investors — institutional, government or private sector — from our markets.
Second, the policy rate which is at present a critical monetary policy tool used by the State Bank of Pakistan to deal with liquidity issues impacting on inflation as well as dealing with the pressure on foreign exchange reserves due to an unsustainable current account deficit would have to be abandoned which would place the entire onus of adjustments on the rupee-dollar parity. In other words, inflation may rise well beyond the historical highs Pakistan has experienced imported inflation would propel the rate of domestic inflation.
And finally, interest is viewed in the business world as an input, cost of capital, which determines the cost and pricing of the final product. The FSC’s decision would, therefore, require a sea change in the way businesses calculate their costs which, in turn, may require a re-education that may take time.
It is, therefore, critical for the government to set up a committee of domestic and international experts to thrash out the modus operandi of a riba-free society, which
may serve as a model for other Islamic countries.
In the constitution of our country – the Islamic Republic of Pakistan – it has been decided that no law repugnant to Islamic injunctions shall be enacted. Article 227 (1) of the constitution clearly lays down: “All existing laws shall be brought in conformity with the Injunctions of Islam as laid down in the Holy Quran and Sunnah, in this Part referred to as the Injunctions of Islam, and no law shall be enacted which is repugnant to such Injunctions.” But, unfortunately, we have not been able to get rid of the interest system for which the justification which is often given is that the business of banks all over the world is running on interest and we cannot get isolated from it. It is very unfortunate that despite being clearly stated as a war against Allah, how such justifications to adopt an interest-based system can be offered. Now, as the FSC has given the government five years to eliminate Riba which has been mentioned in the verdict as “reasonably enough time for the implementation of [the court’s] decision completely, i.e. convert economy of Pakistan into, equitable, asset based, risk-sharing and interest-free economy, it is high time the government sought guidance from Islamic economists, scholars, legal experts, religious scholars and the people who run the Riba-free banking systems to implement an interest-free economic module as it will certainly usher in more entrepreneurship and growth.
The writer is an academic and a researcher from Sialkot.
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