Assalamu 'Alaikum,Clear thinking article to uncloud the clouded.
Tarek El Diwany
I first applied for work in the City of London as a derivatives dealer in the late 1980s. Over casual chats I was informed that the City demanded a rare combination of intellect, eloquence and sharpness. Those in possession of this skill set would be rewarded handsomely, for the City was a place where talent was recognized, irrespective of age. So I was told, and it occurred to me that if I could succeed in this environment, then I would have proven my worth to the many doubting Thomases around me. A new Porsche 911 said so much more than mere words could.
Thus I acquiesced to the notion that success is measured by the amount of money that one earns. In the City I met many people who were fully committed to that notion, and who implemented it on a grand scale. Money was the sole measure of success. Make money, and you would be promoted. Fail to make money, and you would be sacked. Or moved to the training department. Financial products were invented and marketed not because they met a client need, but because they made an enormous profit for the bank or finance company. Research “stories” were told in order to sell financial securities that insiders wouldn’t touch with a barge pole. Massive gambles were taken with billions worth of depositors’ funds, while in public the language of “prudent banking” was dished out in solemn tones. Investment decisions were frequently made by people whose technical knowledge was shockingly poor, and sometimes for the flimsiest of reasons. “Shares were up ten after a good lunch,” joked one of my bosses, and what a lunch it was!
I found that I was rather good at making money, although few of the financial theories that I had learned at university seemed to apply in my work. For example, the simplest laws of supply and demand didn’t seem to work with regard to City salaries. If there were one hundred applicants for each City job, why did pay rates remain so obstinately high? If African countries were being told that good economic management meant running a balanced budget, why was it that the US and Britain, two of the most prosperous nations on earth, almost never ran a balanced budget? Even the cardinal rule of monetarism, that inflation could be reduced by raising the rate of interest, didn’t make sense to me. The available data showed that a rise in interest rates actually had the opposite effect, by increasing the cost of mortgage repayments.
Despite my nagging doubts about the financial system, what eventually changed my perspective on the City were the attitudes and values that I encountered along the way. These undoubtedly rubbed off on me, but there comes a time when one is forced to make a choice between two ways of life. Clients were being treated as prey, when I wanted to treat them as human beings. Money had become a God, but I wanted to find out: “Who is God? What does He expect of me?” This kind of talk was like death on the trading desk. It caused colleagues to go silent. Worse, it caused clients to stop ringing us.
Resigning one’s post while at the top of the tree is almost unheard of in the City, but to do so in exchange for a career in Islamic finance was something that my colleagues found almost laughable. To me it offered the combination of ethics and profit that I had been looking for. For others, it represented an unacceptable interference by religion in the science of finance. Orthodox economists in particular liked to make that point. Religion was loaded with value judgments, they said, while economists dealt impartially with facts on the ground.
But such arguments overlooked the possibility that modern finance had itself become a religion. Here, the purpose of commercial activity was to maximize shareholder value, and the unit of measure was almost exclusively a monetary one. Stress, pollution, divorce and crime, all these could be conveniently ignored when measuring Gross Domestic Product. In this manner, a monetarily rich but unhappy society was seen as better off than a monetarily poor but happy one. Was this not a massive value judgment for modern finance to make?
As a newly practicing Muslim I discovered that the purpose of life is to worship the Creator, and that life is merely a test to determine whether we can fulfill that purpose. Wealth is a means for worshiping the Creator, not an end in its own right. To make the accumulation of wealth an objective of life is to worship wealth instead of the Creator, and this is one of the most fundamental errors that a human being can make. However, as in any test, we have the freedom to make that error. We can follow the commands of the Creator or ignore them and go our own way.
The responsibilities that the Creator requires us to fulfill include many that are understood by both religious and secular minds. If people are free to murder or steal from one another, if the one who has wealth does not pay the wealth tax, if the one who has power does not dispense it with justice, then the whole of society suffers. For any individual to enjoy a right, she or he must shoulder a corresponding responsibility, and the surest way to destroy human rights is for individuals to shirk their human responsibilities.
Among the responsibilities required of humankind, one above all has been relegated in the modern age. This is the prohibition of usury and it is common to the three Abrahamic faiths. However, unlike murder and theft, the destructive impact of usury is not always obvious and this has sustained much debate on the topic over many centuries in both East and West. For the Islamic jurist, usury encompasses a variety of commercial practices of which the fee charged by a moneylender is but one. Deuteronomy prohibits usury among the Jews, and the Gospel of Luke advises Christians to “lend hoping for nothing thereby.” Indeed, the only violent act of Jesus’ ministry was to expel the usurers from the temple, and as recently as 500 years ago those who profited from the act of lending money were committing a crime under English law.
Today everything has changed. The one who was despised in centuries past is now our financial overlord, inhabiting the plushest of city boardrooms. This remarkable transformation could not have been achieved without a heavy dose of legal semantics. In Rome during the early 13th century, Hispanus argued that while usury was surely prohibited, if a borrower was late in repaying a loan then the lender could charge a penalty fee. The period between the date on which the borrower should have paid and the date on which she or he did repay, Hispanus termed “inter esse,” that which “in between is.” By the middle of the 16th century, Henry VIII permitted the charging of interest up to a rate of ten percent. Thus began the fall of the Christian prohibition of usury. Henceforth, only the practice of charging “excessive” interest was to be proscribed.
The ability to practice usury was in olden times limited by the amount of gold or silver coins available to the moneylender. In the 17th century, a critical development in England largely removed this limiting factor. Here, early bankers took deposits of gold coins and in return issued paper receipts promising repayment on demand. In due course, merchants began to use the bankers’ receipts in payment for goods and services. It was easier to hand over a paper receipt to a seller than to travel to the bank in order to withdraw coins first. This behavior allowed the bankers dramatically to enlarge their business as moneylenders because, from now on, when the public came to borrow money, the banker could lend them freshly printed paper receipts. This policy had one great advantage. Unlike gold, paper receipts could be manufactured at little or no cost. “The Bank hath benefit of interest on all moneys which it creates out of nothing,” was how William Paterson, first Director of the Bank of England, put it in 1694. The more paper receipts bankers printed, the more loans they could make and the more interest they could earn. It was therefore “in their interest” to create as much money as possible. But this policy had dire consequences for the rest of society. The more money that was issued into circulation, the more prices began to rise throughout the economy. And because every unit of paper money was issued under a loan contract, the indebtedness of society grew remorselessly over time. If a banker called in the paper loans, a vicious recession could easily result. The political power that this gave to the banks was not lost on President Andrew Jackson. In his farewell address of 1837, he accused the Bank of the United States of having done exactly this in an attempt to defeat his program on banking reform:
“The distress and alarm which pervaded and agitated the whole country when the Bank of the United States waged war upon the people in order to compel them to submit to its demands cannot yet be forgotten. The ruthless and unsparing temper with which whole cities and communities were oppressed, individuals impoverished and ruined, and a scene of cheerful prosperity suddenly changed into one of gloom and despondency ought to be indelibly impressed on the memory of the people of the United States. If such was its power in time of peace, what would it have been in a season of war, with an enemy at your doors? No nation but the free men [sic] of the United States could have come out victorious from such a contest; yet, if you had not conquered, the government would have passed from the hands of the many to the few, and this organized money power, from its secret conclave, would have dictated the choice of your highest officials and compelled you to make peace or war, as best suited their own wishes.”
If the banking classes favored men of similar inclinations with their loans of newly created money, a small group of individuals could quickly and quietly amass great influence over the commercial and political life of the nation. Today, this is a reality that extends into media and academia with devastating consequences at the intellectual level. Financial newspapers hesitate to publish material that is hostile to their largest source of advertising revenue, and the huge volumes of research and commentary that pour forth from researchers in the banking sector are similarly slanted by financial pressures. From cradle to grave, the issues of money creation and usury therefore tend to remain in the background, disguised by a terminology that is impenetrable to the lay person. As John Kenneth Galbraith wrote in Money: Whence it Came, Where it Went,
“The study of money, above all other fields in economics, is the one in which complexity is used to disguise the truth or to evade the truth, not to reveal it.”
Nations across the world have thereby come to accept that interest-based debt is a normal fact of economic life. For most in the paradoxically labeled “rich world,” there is nothing dangerous or shameful in perpetual indebtedness. Our parents’ advice to save for things that we want in life is now mocked as an old-fashioned delusion. Why save, when the desire to consume can be satisfied now? Materialist ideologies reinforce such attitudes substantially. If there is no afterlife, then surely we must try to enjoy this life as much as possible?
Yet the inexorable rise of debt makes the enjoyment of life a distant dream for much of humanity. In the poorer countries, the objective becomes mere survival, if necessary by dint of politically spiked loan agreements. In 1997, the United Nations Development Programme estimated that up to five million children die in Africa every year because of the pressures that debt service places upon national budgets. Tanzania and Uganda were among many whose debt service payments exceeded the entire national budget for healthcare. The consequences of developing country indebtedness are ecological in nature too. For example, the fastest deforesting countries in the world are among its most indebted, as rainforests are sacrificed in order to earn the foreign exchange that will pay off creditors in the rich countries.
The model of borrowing funds at interest in order to invest and generate profit has now accumulated a long track record of failure in dealing with such problems. A glance at IMF figures on developing country debt tells a story of ever-climbing debt levels over five decades.
As for aid, the entire package of assistance given by the developed countries to the developing word is typically less than a quarter of the debt service payments that flow in the opposite direction. The widely trumpeted Heavily Indebted Poor Countries program of debt relief promoted by the IMF and the World Bank in 1996 required widespread austerity budgets of the kind rarely implemented in the West, yet after more than a decade in operation only one nation out of 42 had been removed from the list of HIPC countries.
Underlying all of these problems is the practice of usury. In Islam, it is seen as fundamentally wrong for a financier to make a profit from a client even when that client’s business is failing. Instead, the financier must share both the profits and the losses of those finances, much like modern equity investors do. This simple requirement ties together the interests of financier and clients in a way that interest-based lending never can. When a financier can only make a profit if the client makes a profit, then the financier is much more careful about whom he finances. In interest-based finance, those who wish to obtain loan finance are often those who have the most collateral to offer, not those who have the best projects. Poor people with good business ideas therefore tend to stay poor under the interest-based system, precisely because they lack collateral and cannot therefore attract finance for their businesses.
The possibility of life without interest-based finance or money creation by a privileged élite is amply demonstrated by the history of Islamic empire. Here, profit-sharing, usury-free trade credit, charitable donations and zakat (Islamic tithe) combined to fulfill the entire spectrum of society’s needs. All of this was built upon the foundations of a commodity money system that held its purchasing power across centuries, where today’s money cannot even hold its value across a single decade. Many of the great universities and hospitals of the Muslim world were funded by endowments, and much of its transport infrastructure from zakat funds. The modern private finance initiative cannot compete with these methods of financing. Interest charges typically devour at least a third of a project costing, with the result that today’s infrastructure is a shadow of our former achievements. Just compare the flimsy modern extension to London’s St Pancras railway station with the beautiful original that John Betjeman helped save for the nation.
The fact that an alternative economic paradigm was once achieved in the Muslim world is a vital lesson for our time. It is therefore rather sad that instead of re-establishing that paradigm, modern Islamic financiers have rushed to adopt the institutional structures and product range of the interest-based world. Gone for now are the dreams of Islamic economists in the 1960s, who argued for a banking system that shared risk and reward with its clients. In its place we find an industry that camouflages interest-based loans with Islamic terminology and excuses its lack of vision by reference to the overarching realities of modern banking and finance.
The clients of banks, Islamic or otherwise, are not entirely passive actors in this tale of woe, for most of them have adopted interest-based leverage as the basis of their business activities. Why would an entrepreneur who makes a 20 percent profit on funds invested want to share that profit with investors, if he can finance himself using a loan at five percent interest? And if borrowing $100 at five percent interest allows a company to make $20 profit, then why not borrow $100 million and make $20 million in profit?
The inevitable commercial consequence of this mentality is that firms borrow as much as possible. In doing so, they can swallow up much of the competition and dominate their sector of the market. Interest-based leverage largely explains the tendency towards large-scale business operations throughout much of the Western world today. Five supermarkets now control more than 75 percent of the British grocery trade, where 50 years ago thousands of independent retailers could be found competing with one another. In the fashion sector, although Dorothy Perkins, Burtons, BHS, Miss Selfridge, Top Man, Top Shop, and Wallis compete for customers on many British high streets, this isn’t quite the idyll of free market capitalism that first greets the eye. All of these shops are controlled by one retail tycoon, Philip Green, who lives his tax-free life in Monaco. In the construction sector the consequences of interest-based leverage are even more obvious. The beautiful towns and villages of yesteryear are being replaced with the anonymous housing estates that emanate from the drawing boards of massive corporations and bank mortgage departments. Housing has become a means not for building a community, but for extracting wealth from it. Thus, the financial resources that used to go toward making our buildings beautiful, now go to paying the interest charges and dividends of a few large corporations.
As independent owner-managed businesses decline in importance, the number of employees at or near the minimum wage is increasing dramatically. This feature alone has devastating consequences in terms of customer service and job satisfaction, for the one who owns her or his business tends to care much more for it than the one who works on a low wage and shares none of its success. Conveniently for those who proclaim the victory of modern finance capitalism, the resulting decline of morale among millions of British workers appears nowhere in our headline statistics on economic performance.
The above are just some of the features of life under the interest-based financial system. We should not have to live like this, but one small example from my own professional experience helps to demonstrate why we do. Some years ago our firm helped to develop and launch a radical new home-purchase scheme in Britain. It is based on a partnership arrangement in which a prospective home-buyer and financier together purchase a property as partners. The home-buyer may then occupy the property as a tenant, but can instead elect to rent the property to a third party. Both partners share any rental income and any capital gains or losses on the property price, in line with their partnership ratios, and the home-buyer may from time to time buy portions of the property from the financier at market value. In this scheme, the home-buyer is never in debt for she or he has not borrowed money nor is required to buy the financier’s share of the property. “Negative equity,” repossession and sleepless nights are a thing of the past under this approach to home finance. When we launched our product in London during 2005, we did so in the hope that it could be part of a wider solution for the reduction of household debt. Alas, we were met by a wall of silence from British financial institutions. Bankers, lawyers, consultants, brokers and property dealers, all were dipping their snouts in the trough of easy credit and were in no mood to adopt an alternative model of home finance. In this business, profits came from debt expansion, not debt reduction. This is precisely why those who have helped create the credit crisis should not be charged with finding a solution. To do so is to place the fox in charge of the chicken run.
As of late March 2009, trillions of newly created money have been fed to the banking industry in just a few months. It may prove hard to withdraw this money from circulation at a later date, in which case a historic hyperinflation is likely to ensue. This in turn will place the Western world but a few steps from dictatorship and war. It would be a brave person who bets against a financial establishment with a 300-year track record of survival, but if the interest-based monetary system is sustained it will be the cause of still greater crises and suffering in generations to come. Replacing it is therefore the critical struggle of our time. It is not a system we can reform. We must simply defeat it, because if we don’t, it will defeat us.