Theory of Islamic Financial System and Economic growth
Recently, there has been a rise of academic interest in the restructuring of financial systems. Economists have centered their discussions on the theoretical insights into comparative advantage of bank-base or market-base systems in promoting long-run economic growth. No matter if it is different or not, actually Shariah compliant or not, it is a fact that Islamic finance is gaining clout and influence every passing day. It is the fastest mode of finance in Pakistan and the world with assets and deposits growing faster than its conventional counterpart. It has now become a trillion-dollar industry worldwide and is expected to continue this growth as more and more Muslim countries have inclination to climb the development ladder with rising incomes. So this gives rise to another question. Is Islamic finance – considering its increasing clout – really a practical substitute of financial system and solution? The Islamic financial system has been advancing without exception. However, the areas of research on this subject are very limited as mainly their focus is on permissible scope of activities for Islamic banks and other Islamic depository financial intermediaries only. These activities are mainly determined by the policies and set of law wherein it is found dictating the abolishment of interest rate in the financial system. (Kurshid Ahmad (2000), Chapra (1985) and Siddiqi (1982). Promoters of the bank-base systems lay emphasis on, that the systems are improved at activating savings, recognizing good investments and applying sound and stable corporate control, mainly during the early phases of economic expansion and in weak institutional surroundings (Steinherr and Huveneers, 1993; Titman and Wessels, 1988). However, other stakeholders stresses the advantages of markets in allocating assets and resources, as long as risk management tools and justifying the harms related with greatly influential banks (Levine and Zervos, 1998; Bartholdyet al., 1997). This paper evaluates the pragmatic relation between the level of financial intermediary development and economic growth in the light of Islamic financial system. The study aims to consider the pragmatic works on Islamic financial system in the light of room for economic advancement and the development. The approach in this regard is to look at the many aspects of the Islamic financial system and suggests some prudent and sound regulatory frameworks which are deemed necessary. The findings of the study suggest the more services that can be offered by the financial intermediaries, the greater the chances of producing more specialized financial services and diversification of financial institutions which can paves the way for future scholars to examine the systems from the angle of efficiency, effectiveness, rules and regulations, and the present lack of a recognized legal and accounting system.
Keywords: Islam, Finance, Banking, Economics, theory, wealth, interest