The concept of Islamic banks emerged from the philosophy of Islam that Allah has created man to worship Him. God laid out  closely-interknit rules of behaviour that organise man's worship of Allah. He created the universe and made us His surrogates to exploit and develop the wealth in the best way to the benefit and  well-being of man. We are ordered to do so in accordance with the set rules of conduct. Worship in Islam is not restricted only to prayers, performing Haj or observing the fast; but it extends to cover all the acts of man in his daily life. You worship Allah if you attain perfection in your work. You worship Him if you serve other people; while you are eating and bringing up your children you are also worshipping Allah.

One specific rule of conduct which we should strictly observe in Islam is the avoidence of Riba "charging or paying interest" in our financial transactions. Taking Riba on personal loans for consumption is prohibited on Humanitarian basis since those who take such loans are  really the needy ones in our society who do not have any cushion of savings. Prohibiting Riba on loans for production purposes is based on the rationale of sheer justice and fair play. There is inherent risk in all types of business irrespective of time and space dimensions. It is, therefore, difficult to foresee with any degree of certainty the operating results of the enterprise, and the magnitudes of profit and loss cannot be determined in advance. It would be sheer injustice if the party providing the capital is guaranteed a fixed and predetermined rate of return at a time when the other party providing enterprise, is made to bear the uncertainty alone. On the other hand, a fixed interest rate can also be unfair to the supplier of money in case the entrepreneur employing the money earns a profit quite out of proportion to what he is charged by way of interest. There has been growing apprehensions  among economists whether the scarce finance could through the mechanism of interest, efficiently and adequately be channelled to the best uses which enhance economic growth.

Professor Horst Albach of Bonn University attributed the decline in the rate of growth of fixed assets in Germany and West Europe to the inefficiency of their financial institutions because of the inadequacy of the rate of interest mechanism. For the purpose of his thesis he distinguished between financial risk and business risk. The first being associated with the rate of interest and the second with the investment or equity capital and entrepreneurship. The result was a decline in the rate of investment. Investors have apparently responded to increased financial risk by reducing business risk. In the years 1960-1979, the debt equity ratio rose from 1.7 to 1.1 in Germany. Projections for economic future have revealed the need for undertaking large investments involving high technological, economic and social risk. This is matched by a marked decline in risk preference. The Western financial institutions failed to bridge the gap created by this situation. Financial institutions which provide equity capital are likely to be more able to bridge this gap.

It is often argued that the rate of interest acts as a means of attracting deposits and as a criterion for determining the investment activities. Studies have cast a great shadow of doubt on the existence of direct relationship between the rate of interest and volume and form of personal savings. This is true of the third world in general and the Muslim countries in particular [1]. It appears that the success of any financial Institution in mobilizing savings depends on its ability to meet the taste and requirements of the people [2]. Added to this is the imperfection of the capital market. Product differentiation is based upon salesmanship, advertisement and personal approaches. In this situation the Islamic bank can independently devise savings schemes which serve as channels of investment to meet the requirements of the people.

 FAISAL ISLAMIC BANK SUDAN (FIBS)

The experiment had revealed certain aspects which could serve as reliable indicators to the effectiveness of Islamic financing mechanism to address itself to the economic problems of the modern society. It proved to be more compatible with the Government financial, monetary, and social policies.

If, for instance, the Government wanted to implement a policy of rationalizing imports by introducing an import licencing system or an import quota system, the Islamic bank would be the first to observe such policies. The nature of its transaction, (the various Islamic financing contracts) oblige it to do so. Since the Islamic bank can only finance real goods it would automatically stop financing restricted goods, should the authorities stop issuing import licences for those goods. The overdrafts and loans given by non Islamic banks could go on financing such restricted goods and therefore, could not help the Government policy.

Islamic forms of finance proved to be more effective in controlling both the volume and direction of finance. This is particularly true of the Musharaka and Mudaraba contracts. Finance in these forms would be provided to introduce certain goods or services for the benefit of a partnership which is contracted between the bank and its customers. The bank would be in a position to monitor the costs of the goods or services, their sales prices and qualities. This is usually made a condition to the partnership contract. This would guarantee that the partner would purchase the right quality of goods at the right price and would also ensure that sales are effected according to the legal prices, or at what is considered to be the ruling and fair prices.

An important implication of this form of financing is that the mechanism employed would enable the Islamic bank to make sure that its money went to purchase the commodity it was originally intended for. It would also help the bank to prevent financing of goods for the purpose of speculation or hoarding, thus helping to combat inflation.

An Islamic bank could prove to have an obvious impact on promoting economic and social development. It is a cardinal principle of Islam that labour rather than money is worthy of reward. One can get a return on his money only if such money is combined with labour. This principle motivated Islamic banks to give access to classes of the society which would otherwise not be able to get the badly needed finance, while possessing the necessary skills. The contrary is true of traditional banks who largely advance their financial facilities to classes which are able to provide the adequate lien. Our experiment with artisans and craftsmen could be described as a very successful one, and they proved to be highly trust worthy customers. We made available to them all types of equipments, trucks, raw materials and other inputs at concessional prices and on easy terms. Thus a very important sector of the society could be mobilized into the mechanism of development.

The Mudaraba contracts could achieve the combination of skill and capital, thus ensuring the efficient use of resources. At the same time they could enable talented individuals and institutions to render their efficient services to the society, which, would have otherwise been denied the benefits of these services.

It is sometimes argued that since Islamic banks provide risk capital they would land with a host of bad projects which would oe normally turned down by traditional banks. This is not at all the case with Islamic Banks. An Islamic bank being aware of the magnitude of risk to which its finance is exposed, not only studies the project with the utmost care in minutest details, but also closely follows up the execution and renders all the necessary advice and expert service to its partners. Since efficient management in countries like ours is a rare commodity, our clients found this practice quite rewarding. The Islamic bank realising that, because of its developmental nature its success and very existence largely depends on the success of projects it finances, makes persistent and continuous efforts to improve and diversify its investments. This is also a logical result of its philosophy and mechanism of finance. Its profits are not the result of interest charged minus interest and other costs paid. Far from being so, it is thelresult of real efforts to realize the best return to the satisfaction of the society and both the shareholders and depositors as well as the partners.

The Federal Islamic Bank of Sudan could attract and channelise into the economy funds which had been kept outside the economic cycle because their owners, sticking to their religious oelief, refrained from placing them with the traditional banks. By so doing the Islamic bank helped to discourage hoarding. The experience has revealed that while FIBS is relentlessly seeking to extend its services to a broader spectrum of customers, it is also through its own practice discovering those partners who could best employ the funds to the maximum satisfaction of the economy, and all other parties to development.

We could make large profits not because we take a high share of the profits of the operations we finance, but because with careful selection of operations and close supervision and follow up we could help realize quick turnover. In some cases the turnover could go as high as five times per annum. This could also be laken as evidence that profit in Islamic financing could be a better vehicle for efficient use of funds, than the rate of interest.

The FIBS strictly observes the pricing policies laid down by the authorities. Our profits are always kept within the limits of official prices declared by the authorities. If our partners do not, when disposing of commodities they share with us, observe those limits they are more likely to slim down their chances of continuing cooperation with us.

It has become our practice to allocate funds to operations in areas which realize higher profits as well as those which earn lower profits. By so doing we keep in mind the difficult task of striking a balance between the profitability target of the bank and its social and developmental goals. In our Mudaraba operations we charge lower profits starting as low as 1/4% on commodities of strategic importance like sugar, rice, flour, to 5% on medicals and 15% on articles with high margins of profits. When the operations relate to projects executed on Musharaka (participation) contracts, the rate of profits depends on the ultimate profits realized by the relevant project. It varies between 7% and 22%.

The above two examples could show that Islamic financing gives fair chances to different sectors of the economy or different types of commodities to expand according to their own economies and circumstances and chances of profitability. It is possible in the case of RIBA banks to charge preferential rates of interests for different activities. But that cannot be implemented on case by case basis, the situation is different with Islamic banks. They are more flexible and can charge every case its fair rate of profit.

It has become a fact of life that Islamic finance could help the monetary authorities to direct finance to certain sectors of the economy and to certain goods and services. This is so because the authorities are better able to trace every financial operation we execute to its ultimate use.

 COOPERATION WITH TRADITIONAL "RIBA" BANKS

Islamic  banks are conceived as complementary rather than competitive or a replacement of traditional banks at the intemational level. Although the concept and area of cooperation with those banks have not as yet been sufficiently explored, our experience has shown that there is a lot to be said for cooperation.

There could be initiated a degree of cooperation based on the ordinary correspondence relationship which normally exists between banks and involves common transactions like confirming, advising and negotiating letters of credit. Arrangements for lines confirmation of lines letters of credit could also be made under these relationships. We have started correspondence relationships with banks in Europe and the United States. We could at the beginning start our relationship with them as holders of our deposits on non-interest terms. The conditions was that we do not charge them with interest on our credit balances with them, and they should not charge interest in the rare cases when our accounts go temporarily in the red. Immediately these arrangements were developed to cover letters of credit confirmation facilities. The facilities we enjoy with our correspondent banks in the Western world now stand at quite substantial limits. Some of our correspondents made available to us these facilities without withholding any margins on the confirmations and advices they make on our behalf. Others withhold margins ranging between 10% to 20% only.

Since Islamic banks have a greater involvement in business by the very nature of their transactions they are in a better position to furnish their counterparts in other parts of the world with more reliable information on individuals, firms and projects. They also have better information on opportunities for investment. There could, therefore, be created a very strong link between Islamic banks and Western banks on the exchange of information. With further understanding by Western banks of the mechanisms and philosophy of Islamic banks this area of cooperation would prove very conducive to promotion of investments.

In the field of co-financing, there is an obvious area of joint efforts, namely hi the finance of hire purchase and leasing operations. Western banks can finance jointly with Islamic banks equipment, compute their mark up, add it to the cost and resell the equipment to the project in the Muslim country. Repayment would of course be possible by instalments over a period of time to be agreed upon. This type of operation would be in conformity with Sharia principles. The Islamic bank or banks may contribute to the cost of purchase or they may act as guarantors.

There is room for joint equity participation in medium and long term projects. This directly depends on the willingness of Western banks to provide such risk capital. This is where these banks can become very close to the Islamic banks. Equity participation on profit and loss sharing basis is the situation of linking available finance with the scarce human resource of human entrepreneur spirit.

Closely associated with the above mentioned areas is the question of recycling of petrodollars.

Through Islamic banks recycling could be channelled to Muslim countries for the purpose of real investment. With an informed partner in these countries the Western banks would feel more secure in areas of high risk. In the present times, international banks are expected to do more than provide money. They are requested to offer additional services, develop new methods of finance, provide comprehensive packages and identify market outlets. They should, therefore, be linked more and more to productive sectors of the economy and promote the process of asset creation.

The area of cooperation however is still a virgin land. More study is needed to acquaint the Western financial institutions with the techniques of Islamic finance. This also requires more understanding on the part of our Western counterparts, of the Islamic principles and concepts. More tolerance, imagination and courage are basic requirements for cooperation.

1. Kusnets Simion. International Differences in Capital Formation and Financing.
2. Conner,E.CX. Interest and Savings.