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Main Features of the Interest-Free

Banking Movement in Pakistan

Author of Research Article:

M. Mansoor Khan

Council of Islamic Ideology mandate

Interest free banking got significant shape in the

globe late 1970s

in Pakistan, President of Pakistan

assigned task to CII to formulate blueprint for an

interest free economy within three years. In February 1980 report titled “Report on the Elimination of Interest from the Economy was

submitted to CII by the panel of experts assigned

In

1977

the task. Proposed Model, Criticism & implementation

The CII Banking Model

Banking Model

Profit and loss system being recommended throughout the economy as replacement to

“interest”

For transitional period, eight secondary interest free instruments were suggested.

Secondary instruments and some other proposals

were claimed as interest free by CII but they remained controversial as hybrid.

The CII central banking Model

Radical changes proposed for bank rate and

open market operations replacement with PLS system.

Criticism on CII raised by researchers

panel of experts

government borrowings

international trade financing issues

Interest free banking practice in Pakistan

1n 1980, CII’s report implementation task to Ministry of finance who gave it to SBP and PBC.

PBC-Superior Task Force proposed major changes in Banking Companies Ordinance 1962 for adoption of PLS system and mark up in pricing.

Mudaraba Ordinance 1984 promulgated.

Banks started to receive deposits on PLS basis,

during 1981-85, the profit rates remained high as to conventional and PLS gained remarkable deposits.

Criticism raised on such practices as actual mark-up financing was fictitious transaction of sale and purchase of good in paper only.

Accounting, tax, legal and other structural

constraints were also remained present.

Banks invested of amount deposited under PLS system to interest based modes.

Return rates on PLS accounts almost fix and

predetermined

SBP allowed banks to invest in government interest based securities

SBP did not established its own Islamic research

and sharia compliant board

No sharia related training to bankers

SBP introduced some conventional schemes like Khas, DSC etc with higher returns to Islamic leading to drop in Islamic portfolio

In 1985, the president of Pakistan admitted

before the National Assembly his unsuccessful

efforts regarding elimination of interest from economy

FSC Judgment on Riba in 1991

In 14 th November 1991, FSC banned riba from

economy of Pakistan and highlighted 20 laws of

markup as interest based.

FSC gave time to government by 1 st July 1992 for replacement of these 20 laws.

As a result, foreign aid, loan, local investors were hit and declined in financial activities were

observed.

Government of Pakistan challenged FSC Judgment in Supreme Court.

CIE’s models on interest free banking in Pakistan

In 1991, the GoP constituted CIE with objective to make recommendations for improving the

credibility of interest-free banking practice.

In June 1992, it submitted the first draft of report with some serious observations on unIslamic

banking practice in Pakistan.

e.g. bank investment in short notice, trade bills and all types of government securities are based on

fixed return.

The markup financing was a interest based activity.

Interest on government securities

Foreign currency deposits return being paid under SBP instructions.

Banks major borrowing from SBP, other banks and foreign lending agencies based on interest.

CIE Recommendations

bank and client should given full freedom to

decide PLS ratio under true Sharia spirit

Suggested income tax rebate on Islamic

securities

Trade bills to dealt as stated in CII 1980 report.

Criticism were also raised on CIE recommendations

incomplete