ROLE OF ISLAMIC BANKS FOR FINANCING SMALL BUSINESS START-UPS in PAKISTAN

By

Table Of Content

TABLE OF CONTENT2

CHAPTER 1: INTRODUCTION3

Background3

Purpose of Study5

Rationale5

Significance6

CHAPTER 2 LITERATURE REVIEW8

Specific uses of binary Islamic endogenous loans9

For small and start-up businesses12

The function of banking in Islamic perspective17

The key decision opposite Islam22

CHAPTER 3: METHODOLOGY25

CHAPTER 4: ANALYSIS AND DISCUSSION28

Murabaha (trade with assess up or cost plus sale)29

Bay “bi-thaman ajil” (credit sales)30

Musharaka (partnership or junction venture)31

Modaraba (profit and loss sharing)32

Salam (sales contract)33

Ijara (leasing contract)34

Qard-e-Hasna (benevolent lend or interest free loan)35

Risks of financial contracts36

Risk guideline by the Central Bank42

Islamic banking in practice: a case study of Pakistan4.44

Scheduled banks data46

Islamic banks' balance sheets47

Risk, liquidity, and asset performance48

Earning and profitability ratios49

Liquidity ratios49

Solvency and risk exposure ratios50

CHAPTER 5: CONCLUSION53

REFERENCES55

APPENDICES60

Table IIIComposition of short- and long-term financing (million Rs.)61

Table IVTrend in modes of financing (million Rs.)61

Table VSelected performance indicators61

Chapter 1: Introduction

Background

Over the last ten years, the demand for Islamic banking and finance products has developed strongly. In mid-2004, the Islamic financial market had 265 banks with assets of more than $262 billion and investments of more than $400 billion (IOSCO, 2004). From simple earnings and loss sharing (PLS) savings accounts, Islamic savings and investment products have now progressed to hedge funds, bonds and derivatives. The expansion of Islamic banking products to more than 50 countries encompassing USA and Europe is understandable as worldwide banks can see a earnings opening by tapping into the large and increasing banking needs of the Muslim community in Middle East, Asia and elsewhere.

Islamic banks are prohibited to yield or obtain any interest in their lending and investing transactions. They also face a supply side shortage of befitting Islamic instruments which can serve the liquidity, risk management and hedging needs of customers or the banks themselves. Such instruments are suggested by customary banks in the pattern of derivatives (forward and futures contracts) and options (put and call). Under various (though not all) interpretations of Islamic regulation all such instruments are forbidden as they encompass the component of risk (gharar). The risk of these futures instruments is that at the time the agreement is performed, (which is the present period), the object/commodity to be sold does not usually exist. Insurance is also directed out both on the grounds of risk and also as it includes an component of riba (interest) because insurance companies invest their funds in several repaired earnings securities which profit from interest. Insurance also has an component of wagering in the sense that the insured party could assemble a large allowance of cash after giving a couple of or just one installment of insurance premium or on the other hand they may make numerous payments without ever getting the state contingent come back from the insurance company.

The injunctions of no interest, and no doubt and risk in contracts manage not suggest that an Islamic financial system is inconceivable and that markets will not evolve to supply financing and risk hedging instruments. In detail, such a system has been designed and is in procedure with changing degrees of success in a number of countries ...