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Islamic Financial System Commercial Banking under Islamic Framework 1.00 What is Conventional Banking? Acce ting !

or the ur ose o! lending or investment" o! de osits o! money !rom the u#lic" re aya#le on demand or otherwise and withdrawa#le #y che$ue" dra!t" order or otherwise" and includes any ost o!!ice savings #ank. Banking & Financial system' Banks are the most im ortant institutions o! a !inancial system" indis ensa#le vehicle o! economic develo ment. What are the !unctions o! commercial #anks? )rimary !unctions' acce ting de osits *e osit )roducts' a+ Current Account #+ Savings Account c+ ,erm - Fi.ed de osit

%.00

(.00 (.01 (.01. 1

Islamic Financial System Commercial Banking under Islamic Framework


(.01. % /ending money' a+ /oan' with 01 without security !or a !i.ed eriod. #+ Cash credit' Advance against security o! goods. c+ 0verdra!t' 0verdrawing !rom current account. d+ *iscounting & urchasing #ills. (.0% (.0%. 1 Secondary !unctions' Agent Service'
a+ Collection o! dra!ts" #ills" che$ues" dividend warrants

#+ 2.ecution o! standing orders. c+ )urchasing & selling o! Securities d+ Acting as corres ondents" re resentative o! Customers & other Banks. e+ Acting as administrator" ,rustee e.ecutor. !+ Cor orate Counseling. (.0%. % 3eneral utility Services' a+ Issue o! letter o! credit. #+ Issue o! ,1A42/21S che$ues. c+ Sa!e custody d+ /ockers. e+ 1e!erees as to 12S)2C,ABI/I,5 o! clients. !+ Issue credit - de#it cards. g+ )roviding market intelligence re ort.

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Islamic Financial System Commercial Banking under Islamic Framework


7.00 What is Islamic Banking? 3eneral Secretariat o! the 0IC de!ined Islamic Banking as 8An Islamic Bank is a !inancial institution whose statutes" rules and rocedures e. ressly state its commitment to the rinci les o! Islamic Shariah and to the #anning o! the recei t & ayment o! interest on any o! its o erations. *e!inition & ,y es o! 1i#a' *e!inition o! 1i#a' ,he word 81i#a: means e.cess" increase or addition" which correctly inter reted according to Shariah terminology" im lies any e.cess com ensation without due consideration. 9.0% ,y es o! 1i#a' ,here are two ty es o! 1i#a' 9.0%. 1 81i#a An ;asiyah: is de!ined as e.cess" which results !rom redetermined interest which a lender receives over an a#ove the rinci al <1as ul =aal+.
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9.00 9.01

Islamic Financial System Commercial Banking under Islamic Framework


9.0%. % 81i#a Al Fadl: is de!ined as e.cess com ensation without any consideration resulting !rom sale o! goods. 1i#a Al6Fadl actually mean that e.cess which is taken in e.change o! s eci!ic homogenous commodities and encountered in their hand6to hand urchase and sale. 3old" silver" *ates" Wheat" Salt & Barley are the si. commodities can only #e #ought & sold in e$ual $uantities and on s ot. 1i#a in the ?uran' First 1evelation <Surah ar61um" verse (@+ Second 1evelation <Surah ar6;isa"verse 1>1+ ,hird 1evelation <Surah Al Imran"verses 1(06%+
Fourth 1evelation <Surah Al6Ba$arah" verses %A96B1+

>.00 >.01 >.0% >.0( >.07 A.00 A.01

1i#a in Cadith' From Da#ir <1+' ,he )ro het <Sm+" may cursed the receiver and the ayer o! interest" the one who records it and the two witnesses to the transaction and said' 8,hey are all alike Ein guiltF. 8<=uslim"kita# al =usa$at Ba# laGni akili ar ri#a wa muGkilihiHalso in ,irmidhi and =usnad Ahmed+
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Islamic Financial System Commercial Banking under Islamic Framework


A.0% ,he )ro het <S=+" said" sell gold in e.change o! e$uivalent gold" sell silver in e.change o! e$uivalent silver" sell dates in e.change o! e$uivalent dates" sell wheat in e.change o! e$uivalent wheat" sell salt in e.change o! e$uivalent salt" sell #arely in e.change o! e$uivalent #arley" #ut i! a erson transacts in e.cess" it will #e usury <ri#a+. Cowever" sell gold !or silver anyway you lease on the condition it is hand6 to6hand <s ot+ and sell #arley !or date anyway you lease on the condition it is hand6to6hand <s ot+. 4iews o! other religions and scholars on 1i#a <Interest+. Interest has #een #anned in the two #ooks o! CaIrat =usa <A+ which are considered as the scri tures o! Dews. ,he %%nd line o! e.odus goes as saying" 8 I! you lend money to a oor man" donGt #ecome money lenders and donGt realiIe interest !orm him:. Similarly" in %(rd line o! ancient scri ture o! the Dews entitled 8 *euteronomy: states" 8 5ou donGt lend money to your #rother !or interest6i.e. interest on money" interest on !oodstu!! and interest on anything which is lent.:
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B.00 B.01

B.0%

Islamic Financial System Commercial Banking under Islamic Framework


B.0( Ce#rewism is known as =usaic or Dewism. =usaic laws or commands o! =usa are the #asis o! Ce#rewism. Interest was totally rohi#ited in =usaic law. ,his rule was e.clusively ractised #y the Dews. In this ideology" there are clear directions on interest as other as ects o! economics. 0ne Dew couldnGt take interest #y lending money !rom another. But taking interest was in ractice #y lending money to the eo le o! other religions. Some writers $uoted !rom the #ook" J,almudG that the Ce#rew ro hets !or#ade interest not only !rom Dews #ut !rom all <2ric 1oll" A history o! 2conomic ,hought' )age 7B+ Interest was rohi#ited !orm the #ginning o! the Christianity to the advent o! the 1e!orm =ovement and !rom the Church under )o e in 1ome to the division o! other churches. Christ said" 8 /end ho ing !or nothing again:. </uke 4I (9" Canley' Cistory o! 2conomic ,hought. 1@>7" )age 101+ In Cinduism" usury #usiness was restricted within the 8 Baithayas:. JBirth o! =oney !rom =oneyG6 Aristotle.
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B.07

B.09

B.0>

B.0A B.0B

Islamic Financial System Commercial Banking under Islamic Framework


@.00 @.01 @.01.1 Sources o! Funds o! Islamic Banks' Ca ital - Share6holdersG e$uity' Core Ca ital' a+ )aid u ca ital #+ Share )remium c+ Statutory 1eserve d+ 3eneral 1eserve e+ *ividend 2$ualiIation Account !+ 1etained 2arnings @.01.% Su lementary Ca ital' a+ 3eneral )rovision on unclassi!ied Investment #+ Assets 1evaluation 1eserve c+ 2.change e$ualiIation Account. =odes o! *e osit' *e osits are acce ted #y the Islamic Banks under the !ollowing =odes' Al6Wadeeah' ,he word JAl6WadeeahG has #een derived !orm the Ara#ic word JwadyunG which means to kee -to de osit to give u leave o!! etc. In Islamic Banking" the rinci le o! Al6 wadeeah means" the Bank receives money !rom the clients !or sa!e6custody with the condition to return the money on demand #y the customer. Current Accounts are o ened under this rinci le de ositors authoriIe the Bank to use the money at BankGs risk. ,he customer is not entitled to receive any #ene!it !rom the Bank. CIBF6A

@.0% @.0%.1

Islamic Financial System Commercial Banking under Islamic Framework


@.0%.% Al6=udara#ah ' ,he word JAl6=udara#ahG has #een derived !orm the Ara#ic word J*ar#K -*ar#uG which means to movement to earn rahmat <=una!a+ o! Allah. =udara#a is a !orm o! artnershi where one o! the contracting arties called the JShahin6al6=aalG or the J1a##6ul6=aalG <the !inancier+ rovides a s eci!ied amount o! ca ital and acts like a slee ing or a dormant artner while the other arty" called the J=udari#G <entre reneur+G rovides the entre reneurshi and management !or currying on any venture" trade" industry or service with the o#Lectives o! earniBng ro!its. ,he =udari# is in the nature o! a trustee as well as an agent o! the #usiness. )ro!it is distri#uted as er reagreed ratio while the loss is entirely #orne #y the Shahi#6al6=all. Al6=udara#ah de osit )roducts' ,here can #e many ty es o! =udara#ah de osit roducts. ,he !ollowing are the title o! some o! the =udara#ah )roducts so !ar introduced #y the Islamic #anks in Bangladesh. M =udara#ah S ecial ;otice *e osit M =udara#ah Savings *e osit M =udara#ah ,erm *e osit M =udara#ah Savings Bonds M =udara#ah S ecial Savings <)ension+ M =udara#ah =onthly )ro!it *e osit Scheme M =udara#ah =uhar Savings M =udara#ah Cash Wa$! *e osit M =udara#ah CaLL *e osit. CIBF6B

@.0%.(

Islamic Banking =ode o! Investment


1.0 )ro!it & /oss Sharing =ode 1.01 Shirkat - =usharaka %.0 )ro!it Sharing /oss #earing =ode %.01 Al6=udara#ah (.0 Bai6=ode <Buying & Selling+ (.01 Bai6=ura#aha (.0% Bai6=uaLLal (.0( Bai6Salam (.07 Bai6Ishtisna (.09 Bai6IstiLrar (.0> Bai6=usawamah (.0A Bai6Sur! (.0B Bai6=u$ayada 7.0 1ent Sharing =ode 7.1 IaLarah </ease+ 7.% ILarah wa i$tina <Cire )urchase+ 7.( Cire )urchase under Shirkatul =elk <C)S=+ 9.0 )roduction Sharing =ode 9.1 =oIarah 9.% =usa$ah ?uard6al6Casana CIBF6Ba

>.0

Islamic Financial System Commercial Banking under Islamic Framework


@.0( =ode o! Investment ' Investment is made #y the Islamic under the !ollowing =odes' )ro!it & /oss Sharing =ode ' M Shirkat - =usharaka It is an agreement under which the Islamic #ank rovides !unds which are mingled with the !unds o! the #usiness enter rise and others. All roviders o! ca ital are entitled to artici ate in the management #ut not necessarily re$uired to do so. ,he ro!it is distri#uted among the artners in re6determined ratios" while the loss is #orne #y each artner in ro ortion to his contri#ution. @.0(.% )ro!it & /oss #earing =ode ' Al6=udara#a =udara#a is a !orm o! artnershi where one o! the contracting oints called the J Shahi#6al6=aalG or the J1a##6ul6=aalG <the !inancier+ rovides a s eci!ied amount o! ca ital and acts like a slee ing a dormant artner while the other arty" called the =udari# <entre reneur+" rovides the entre reneurshi and management !or carrying on any venture" trade" industry or service with the o#Lectives o! earning ro!its. )ro!it in distri#uted as er reagreed ratio while the loss is entirely #orne #y the JShahi#6al6=aalG.
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@.0(.1

Islamic Financial System Commercial Banking under Islamic Framework


@.0(.( Bai6=ode <Buying & Selling+' M Bai6=ura#aha' /iterally" sale on ro!it. ,echnically" a contract o! sale in which the seller declares his cost and ro!it. M Bai6=uaLLal' /iterally" a credit sale. It is a contract in which the seller allows the #uyer to ay the rice o! a commodity at a !uture date in a lum sum or in installments. M Bai6Salam' ,his term re!ers to advance ayment !or goods" which are to #e delivered later. M Bai6Ishtisna' IshtisnaGa is a sale contract #y which al6saniG <the seller+ on the #asis o! the order laced #y al6mustasniG <the #uyer+ a!ter having manu!actured or otherwise ac$uired al6masnooG <the goods+ as er s eci!ication sells the same to al6mustasniG !or an agreed u on rice and method o! settlement whether that #e in advance" #y instalments or de!erred to a s eci!ic time.
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Islamic Financial System Commercial Banking under Islamic Framework


Bai6IstiLrar' IstiLrar means urchasing goods !rom time to time in di!!erent $uantities. In Islamic Luris rudence IstiLrar is an agreement where a #uyer urchases something !rom time to timeH each time there is no o!!er or acce tance or #argain. ,here is one master agreement where all terms and conditions are !inaliIed. ,here are two ty es o! IstiLrar' i+ ,he rice is determined a!ter all transactions o! urchase are com lete ii+ ,he rice is determined in advance #ut the urchase is e.ecuted !rom time to time. M Bai6=usawamah' It re!ers to normal sale in which cost rice is not known. M Bai6Sur!' It re!ers to the sale o! gold" silver and currency. M Bai6=u$ayada' It re!ers to #arter sale e.cluding currency sale. @.0(.7 1ent Sharing =ode' M ILarah </ease+ ILarah has #een de!ined as a contract #etween two arties" the Ciree and Cirer where the Cirer enLoys or rea s a s eci!ic sercice or #ene!it against a s eci!ied consideration or rent !rom the asset owned #y the Ciree. It is a hire agreement under which a certain asset is hired out #y the Ciree to a Cirer against !i.ed rent or rentals !or a s eci!ied eriod. CIBF611

Islamic Financial System Commercial Banking under Islamic Framework


M ILarah wa i$tina <Cire )urchase+ It is a contract under which the Islamic Bank !inances e$ui ment" #uilding or other !acility !or the client against an agreed rental together with an undertaking !rom the client to urchase the e$ui ment or the !acility. M Cire )urchase under Shirkatul =elk <C)S=+ It is a com#ination o! three contracts viI' Shirkat" ILarah and sale. Shirkat means artnershi . @.0(.9 )roduction Sharing =ode' M =oIarah' It is a contract in which one erson agrees to ,ill the land o! the other erson in return !or a art o! the roduce o! the land. M =usa$ah' A contract in which the owner o! the garden shares its roduce with another erson in return !or his services in irrigating the garden. @.0(.> ?uard6al6Casana' A virtuous loan. A loan with the sti ulation to return the rinci al sum in the !uture without any increase.
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Islamic Financial System Commercial Banking under Islamic Framework


10.00 Ste s in the investment o erations' M Induction o! the client M A lication M )rocessing & A raisal. M Sanction M *ocumentation M *is#ursement M =onitoring" 2nd6use" Su ervision & 1ecovery 11.00 Fi.ation o! sale rice o! Bai6=ura#aha goods' A. )urchase rice o! the 3oods )lus <N+ B. 0ther e. enditure incurred #y the Bank in connection with the urchase" trans ortation and storage #e!ore sale o! the goods to the client viI' i+ Conveyance ii+ Commission" i! any" aid to agent iii+ Cost o! remittance o! Fund iv+ ,rans ortation cost v+ Insurance vi+ 3odown rent 4ii+ 0ther e. enses i! any C. ,otal Cost )rice <ANB+ *. )ro!it =ark u 2. Sale )rice
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Islamic Financial System Commercial Banking under Islamic Framework 11.01 11.01. 1 Fi.ation o! 1ent under J 1ent SharingG =ode' *iminishing Balance =ethod' In this method the installments are not e$ual. )rinci al installment remains e$ual. 1ent une$ual i.e. calculated on the outstanding rinci al. As at the initial stage rinci al outstanding remain higher so rent is higher which make the installment siIe large. 11.01. % 2$ual Installment =ethod <Annuity =ethod+' In this method the installments are e$ual. )rinci al & 1ent are une$ual 1ent is calculated on the outstanding rinci al and the rest amount o! installment is adLusted against rinci al. At the initial stage rinci al outstanding remain higher so rent is higher and decreased gradually. At the initial stage rinci al adLustment is less and increases gradually.

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Islamic Financial System Commercial Banking under Islamic Framework ,he main di!!erence #etween the *iminishing Balance =ethod and Annuity =ethod is that the )rinci al adLustment is not e$ual. As at the initial stage )rinci al adLustment is less the total 1ent in this method is more than the *iminishing Balance =ethod. 11.01. ( 2$ual Installment =ethod <2$ual 1ent =ethod+' In this method the installments are e$ual. )rinci al & 1ent remain e$ual. 1ent is calculated !or the whole eriod o! Investment considering diminishing #alance o! )rinci al & e$ually distri#uted all over the re ayment eriod. ,hough the total rent on the investment in this case is e$ual to that o! *iminishing Balance =ethod #ut the e!!ective 1.1. is less due to o ortunity loss on the calculated #ut not realiIed rent !or7 the 1st hal! o! the re ayment eriod.

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Islamic Financial System Commercial Banking under Islamic Framework


1%.00 1%.01 1%.0% 1%.0( 1%.07 1%.09 1%.0> 1%.0A 1%.0B 1%.0@ 1%.10 1%.11 1%.1% 1%.1( 1%.17 ;ature o! Shariah /a ses generally occur in Investment 0 erations' Cash !acilities are allowed. Fresh investments are allowed !or adLustment o! revious lia#ility. /etter o! authority is not o#tained !orm the client in case o! dealershi license in the name o! Investment clients. 1ent - )ro!it is charged and recovered !or the gestations eriod. )re6!i.ed ro!it is recovered in the )re6shi ment =usharaka Investment. Cash =emo o#tained in the name o! client. Cash =emo is not at all o#tained. Agreements are ke t #lank and undated. Back dated - ost dated chash memo is o#tained. ,he a lication !or )ayment 0rder -*emand *ra!t-,, etc. is signed #y the client instead o! signing the same #y the Bank ,he amount o! dis#ursement does not agree with the amount o! cash memo. 3oods are received directly #y the client instead o! recei t o! goods !irst #y the #ank and then #y the client. *ocuments o! receiving goods #y the #ranch are not availa#le in the Branch record. Bai6=uaLLal investment is allowed in cash o! stock6lot items. CIBF61>

Islamic Financial System Commercial Banking under Islamic Framework


1(.00 *istri#ution o! )ro!it to =udara#a *e ositors' ,he rinci les o! calculation and distri#ution o! ro!it to =udara#a *e ositors generally !ollowed #y di!!erent Islami Banks are as under' 1(.01 1(.0% =udara#a *e ositors share income derived !rom investment o! their !und. =udara#a *e ositors do not share any income derived !rom miscellaneous #anking services where use o! their !und is tnot involved" such as commission" e.change" service charges and other !ees realiIed #y the Bank. =udara#a *e osits get riority in the matters o! investment over #ankGs e$uity and other cost !ree !unds. ,he gross income derived !rom investments during the accounting year is" at !irst" allocated to =udara#a *e osits and e$uity & cost6!ree6!unds according to their ro ortion in the total investment.

1(.0(

1(.07

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Islamic Financial System Commercial Banking under Islamic Framework


1(.09 ,he share o! gross investment income o! =udara#a de osits as worked out in terms o! rinci le shown against serial ;o. 10.07 is distri#uted as under' a+ Bank retains a reagreed ortion <say %0O+ as =anagement !ee !or managing the investment. #+ Bank retains another reagreed ortion <say 19O+ !or o!!6 setting investment loss or with a view to maintaining a general level o! return on =udara#a de osits. c+ ,he remaining ortion <say >9O+ is distri#uted to =udara#a *e ositors a lying weightages. 1(.0> /et us su ose that an Islami Bank a lies the !ollowing weightages to =udara#a *e osits. a+ =udara#a CaLL Savings *e osit #+ =udara#a ,erm *e osits (> =onths %7 1% 0> 0( c+ =udara#a Savings d+ =udara#a Short ;otice
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110O 100O @BO @>O @%O BBO A9O 99O

JG 8 8 8

Islamic Financial System Commercial Banking under Islamic Framework


1(.0A 0n the #asis o! the a#ove rinci les" let us work out the rates o! ro!it using the in!ormation and !igures given #elow' a+ ,otal Investment #+ ,otal Investment Income c+ ,otal !und em loyed i+ Banks e$uity and Al6Wadeeah *e osits ii+ =udara#a *e osits ,k. 1000 ,k. 190 ,k. %00 ,k. B00 ,k.1000

,here!ore the share o! investment income o! =udara#a *e osit will #e <190P1000QB00+ ,k.1%0.00 /ess a+ %0O =anagement !ee #+ 19O /oss 0!!6setting 1eserve *istri#uta#le Investment Income
Sl. No. 1 1. 2. Type of Yearly Mudaraba Porduct Deposit 2 Mudaraba %a&& 12) Sa'i(gs Mudaraba Ter* Deposit # Mo(ths 1)) 2! Mo(ths 11) 12 Mo(ths ,) )# Mo(ths 12" ) Mo(ths +" Mudaraba 12) Sa'i(gs Mudaraba Short ") Notice Total ,)) Weightage % ! 11) Weightage Product " 1 2.))

,k.%7.00 ,k.1B.00 ,k.7%.00 ,k.AB.00


Share of Rate of Distributable Profit Profit # $ 1!.)" 11.$1%

1)) +, +# +2 ,, $" ""

1)).)) 1)$.,) $#.,) 11".)) , .#) +).)) 2$.") $ 2.$)

1).#! 11.!, ,.1, 12.2! ,.+) +.", 2.+ $,.))

1).#!% 1).!!% 1).22% +.$+% +. $% $.+,% ".,#%

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Islamic Financial System Commercial Banking under Islamic Framework


17.00 Foreign ,rade & Foreign 2.change #usiness under Islamic Framework' =usharaka can #e used !or Im ort Financing as well. ,here are two ty es o! #ank charges on the letter o! credit rovided to the im orter' 17.01 Im ort Financing a. Service charges !or o ening an /C #. Interest charged on /Cs" which are not o ened on !ull margin. Collecting service charges !or this ur ose is allowed" #ut as interest cannot #e charged in any case" e. erts have ro osed tw$ methods !or !inancing /Cs' a+ Based on =usharakah-=udara#ah #+ Based on =ura#aha.
17.01.1 17.01.% 17.0% =usharakah - =udara#ah' Bai6=ura#ahah' 2. ort Financing' A #ank lays two very im ortant roles in 2. orts. It acts as a negotiating #ank and charges a !ee !or this ur ose" which is allowed in Shariah. Secondly" it rovides e. ort6!inancing !acility to the e. orters and charge interest on this service. ,hese services are o! two ty es' a. )re6shi ment !inancing #. )ost shi ment !inancing
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Islamic Financial System Commercial Banking under Islamic Framework


17.0%.1 )re6shi ment Fiancing' )re6shi ment !inancing needs can #e !ul!illed #y two methods. a. =usharaka - =udara#ah 17.0%.% Bai6Salam' )ost Shi ment Financing' )ost shi ment !inance is similar to the discounting o! the #ill o! e.change. Its alternate Shariah com liant rocedure is discussed #elow' ,he e. orter with the #ill o! e.hcnage can a oint the #ank as his agent to collect receiva#le on his #ehal!. ,he #ank can charge a !ee !or this service and can rovide ?uard6al6Casana to the e. orter" which is e$ual to the amount o! the #ill" and the e. orter will give his consent to the #ank that it can kee the amount received !rom the #ill as a ayment o! the loan. Cere two rocesses are se arated" and thus two agreements will #e made. 0ne will authoriIe the #ank to collect the #ill amount on his #ehal! as an agent" !or which he will charge a articular !ee. ,he second agreement will rovide ?uard6al6Casana to the e. orter" and authoriIe the #ank !or kee ing the amount received through #ill as a ayment !or $uard6al6Casana.
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Islamic Financial System Commercial Banking under Islamic Framework 19.00 19.01 *istinguishing Features o! Islamic Banking 1isk Sharing R ;o redetermined rate o! return. R Sharing end result o! the #usiness. R =udara#a loss is entirely #orne #y the shahi#6al6 maaGl. 19.0% 2m hasis on roductivity as com ared to credit worthiness' R *ominant consideration no on collaterals. R 2m hasis on soundness o! the roLect. 19.0( =oral *imension' R Islamic value oriented System. R Full com liance o! Shariah. R ;o !inance !or wine - to#acco - casino - ork roduction or trading.
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Islamic Financial System Commercial Banking under Islamic Framework 19.07 2$uity' R Dustice to all arties. R 1i#a is unLust. 19.09 Allocative e!!iciency' R )roductivity o! the roLect. R Finance goes to high roductive roLect even i! credit worthiness is lower. 19.0> Sta#ility o! the Banking System' R =udara#a & =usharaka =echanism ensure sta#ility.
19.0A

3rowth R )romotes Innovation. R 2nter reneurshi *evelo ment.

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