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e Islamic law are two folds: 1) general principles of contracting that include civil aptitude, consent and legal permissibility. These are common between all legal system and societies, although there are variations in their minute details. For instance while the Islamic law defines the civil aptitude for financial contracts as age 18 in addition to sanity, some states or countries carry the age limit to 21. 2) However the second group of principles is important. It covers a specific Islamic view point and includes: moral commitment or ethical foundation, Shari’ah permissibility, balance and realism or validity.

 

To be acceptable from a Shari’ah point of view, a finance product must be morally sound. This is a general human standard that is adopted by the Shari’ah. It means that an Islamic financing institution can’t use its resources to support drugs, alcohol, gambling, porno industry, environmentally harmful products, and/or any other production or distribution of any material or service that does not have a humanly acceptable ethical foundation. In this regards, Islamic financing is very similar to what is known as ethical investment. Yet, the following points will show that Islamic financing is, in fact, more demanding than ethical investment.

 

The principle of Shari’ah permissibility refers to matters that the Islamic law requires. These include pork and other swine products and other meat whose animals are not slaughtered in a manner that satisfies the Shari’ah requirements. It also includes the prohibition of interest that will be discussed later.

 

The principle of balance requires that the obligations of each party be equivalent to the obligations of the other, so that there is no excessive loading on either party. This principle rules out excessive overcharge and it stands against the charge of interest too. As we will discuss it later, interest is an obligation on one party against a presumed opportunity cost of the other. These obligations are obviously unbalanced!

 

Lastly, the principle of realism or validity means that all financing contracts must be founded on real, in contrast to presumed or deemed, transactions or exchanges. This principle rules out any contract that is based on pure assumptions. Interest itself is one example, both in its very existence and in its rates, all are assumptive as we will discuss in more detail later. Another example is trading indices such as DJII or NASDAQ, because an index is a mere mental calculation that does not represent any real ownership. On the other hand, one can own and trade units in an indexed fund because the fund owns shares in companies that are represented in the index.

 

Why interest is prohibited?

 

Islam, like other monotheistic religions, condemns and prohibits Riba. The prohibition of Riba in Islam is given in strong and clear-cut terms. The Qur’an

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