COMPLETE THESIS Thesis Title: Benchmarking of Financial Solutions Offered by Islamic Banks Supervisor: Fredrik Jörgensen Author 1: Name Junaid Ahmad Email [email protected] Registration Number 830826-P737 Author 2: Name Muhammad Abdul Majid Email [email protected] Registration Number 801010-T452 1 ACKNOWLEDGEMENTS Firstly we are grateful to Swedish government and BTH for providing this wonderful opportunity (MBA degree) to improve our academic qualifications at no cost. Special thanks to our supervisor Fredrik Jörgensen who has been very supportive throughout the thesis semester. Your guidance and attention enabled to improve the quality of thesis. Last but not least we would like to thank our Programme Director Dr Marie Aurell whose so many efforts were so little appreciated. 2 Contents ACKNOWLEDGEMENTS ............................................................................................................... 2 1. Introduction ............................................................................................................................ 6 1.1 Background ....................................................................................................................... 6 1.2 Problem discussion ............................................................................................................ 7 1.3 Problem formulation and purpose ..................................................................................... 7 1.4 De-limitations .................................................................................................................... 8 1.5 Thesis structure ................................................................................................................. 9 2. Theory ................................................................................................................................... 10 2.1 Comparison between Islamic and conventional banking .................................................. 10 2.2 Shariah compliance in Islamic banking ............................................................................. 12 2.3 Shariah compliance structure by SBP in Pakistan ............................................................. 13 2.3.1 Shariah board ........................................................................................................... 13 2.3.2 Responsibilities of Shariah advisor ............................................................................ 14 2.3.3 Essentials of Islamic modes of financing .................................................................... 14 2.3.4 Model agreements of Islamic modes of financing ...................................................... 14 2.3.5 Shariah compliance Inspection of Islamic banks ........................................................ 14 2.3.6 Meetings of Shariah advisors .................................................................................... 14 2.3.7 Conflict resolution..................................................................................................... 14 2.4 Financial products of KFH, DIB, NBK and SCB ................................................................... 15 2.5 Ethics of business ............................................................................................................ 16 2.5.1 Ethics of banking ....................................................................................................... 16 2.5.2 Ethics of Islamic finance ............................................................................................ 16 2.5.3 Islamic banking does not deal in money .................................................................... 17 2.6 Risks involved in Islamic banking ...................................................................................... 17 2.7 Standards for verifying Shariah compliance ..................................................................... 18 2.7.1 SBP Shariah guideline and model agreements for Islamic modes of finance .............. 18 2.7.2 Introduction to Islamic finance, Mufti Taqi Usmani ................................................... 19 2.7.3 Guide to Islamic banking, Dr. Mufti Imran Ashraf Usmani.......................................... 20 2.8 Financial assessment of Islamic and conventional banking products ................................ 21 3. Method ................................................................................................................................. 22 3.1 Secondary data ................................................................................................................ 22 3 3.2 Primary data .................................................................................................................... 22 3.3 Qualitative or quantitative research ................................................................................ 23 3.4 Research methodology .................................................................................................... 23 3.5 Research paradigm .......................................................................................................... 24 4. Analysis ................................................................................................................................. 25 4.1 Empirical Findings ............................................................................................................ 26 4.2 Critical Analysis of Mudaraba based saving accounts ....................................................... 28 4.2.1 Predetermined ratio of profit .................................................................................... 29 4.2.2 Mudarib fee .............................................................................................................. 30 4.2.3 Mudarib share rate variation (in the favor of depositor) ............................................ 31 4.2.4 Findings .................................................................................................................... 32 4.3 Critical Analysis of Murabaha as an underlying mode....................................................... 32 4.3.1 Rules of Murabaha sale ............................................................................................. 33 4.3.2 Factors invalidating Murabaha sale ........................................................................... 34 4.3.3 Rules of credit Murabaha .......................................................................................... 35 4.3.4 Critical analysis of credit Murabaha .......................................................................... 36 4.3.5 Murabaha for cash .................................................................................................... 38 4.3.6 Findings .................................................................................................................... 39 4.4 Diminishing Musharaka as an underlying mode ............................................................... 40 4.4.1 Critical analysis of home financing under diminishing Musharaka ............................. 41 4.4.2 Promise to sell and buy ............................................................................................. 41 4.4.3 Buying shares in first year ......................................................................................... 41 4.4.4 Findings .................................................................................................................... 41 4.5 Ijara as an underlying mode ............................................................................................. 42 4.5.1 Mechanism of Ijara ................................................................................................... 42 4.5.2 Valid conditions for Ijara ........................................................................................... 42 4.5.3 Agency agreement .................................................................................................... 44 4.5.4 Critical analysis of Ijara contract ................................................................................ 44 4.5.5 Findings .................................................................................................................... 47 4.6 Comparison of Islamic banks products against conventional banks products ................... 48 4.6.1 Analysis & findings of credit cards of KFH and NBK .................................................... 48 4.6.2 Analysis & findings of house financing of DIB and SCB ............................................... 51 4 4.6.3 Analysis & findings of car financing of DIB and SCB.................................................... 54 5. Conclusions and Implications ................................................................................................. 57 REFERENCES .............................................................................................................................. 60 WEBSITE REFERENCES ............................................................................................................... 61 APPENDIX A GLOSSARY ............................................................................................................. 62 APPENDIX B AN OVERVIEW OF ISLAMIC BANKING ..................................................................... 63 1. Interest (Riba) definition .................................................................................................... 63 2. Explanation of Riba and its