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Sharīʿah-compliant or Sharīʿah-based? The Changing Ethical Discourse of

Islamic Finance

Article  in  Arab Law Quarterly · December 2020

DOI: 10.1163/15730255-BJA10008

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 Arab Law Quarterly 34 (2020) 1-24 Arab Law
Quarterly
brill.com/alq

Sharīʿah-compliant or Sharīʿah-based? The

Changing Ethical Discourse of Islamic Finance

Ryan Calder
Assistant Professor of Sociology and Islamic Studies,
Department of Sociology, Johns Hopkins University, Baltimore, MD, USA
rcalder@jhu.edu

Abstract

Observers call upon Islamic financial institutions to move beyond offering merely
Sharīʿah-compliant instruments toward offering more Sharīʿah-based ones. But
when did these terms come into usage, and why? What precisely do people mean by
‘Sharīʿah-based’? In this article we argue that the term ‘Sharīʿah-compliant’ emerged
in the 1990s and allowed Islamic finance institutions to leave behind scandals of the
1980s, presenting Islamic finance anew as a technically rational project grounded in
Sharīʿah expertise. In contrast, the call for Sharīʿah-based finance became popular in
the 2000s, and especially after the 2008 global financial crisis, which made systemic
stability and product transparency pressing concerns. Usages of ‘Sharīʿah-based’ fall
into three categories: those that stress separation from conventional finance, those
that stress authenticity, and those that stress welfare. This definitional multiplicity is
not a problem but rather a starting point for debate and a sign of Islamic finance’s
growing maturity as an ethical project.

Keywords

Islamic financial ethics – Sharīʿah-based Islamic finance – legal discourse – legalism –

transparency – form-versus-substance debate

1 Introduction

The Islamic finance industry is constantly soul-searching. Because it has al-

ways presented itself as a more just and virtuous alternative to conventional

© Koninklijke Brill NV, Leiden, 2020 | doi:10.1163/15730255-bja10008

2 Calder

finance, people within the industry regularly ask how they can bring the actual
practice of Islamic finance closer to an ethical ideal. Conferences, seminars,
books, articles, and innovation competitions all call for ethical breakthroughs
in Islamic finance. These calls are based on the notion that Islamic finance has
the potential to be more ethical than it is today.
Advocates of reform use various terms to describe the changes they envision.
Some say the industry must shift from an emphasis on ‘form’ to an emphasis on
‘substance’; others from a ‘risk-shifting’ system to a ‘risk-sharing’ system; oth-
ers from the ‘copy-pasting’ of conventional instruments toward the indigenous
creation of ‘home-grown’ Islamic instruments; others from a ‘debt-based’ ap-
proach to an ‘equity-based’ approach; and still others from ‘asset-based’ struc-
tures to ‘asset-backed’ structures.
Over the past decade, perhaps the most common refrain from reformers
has been that Islamic financial institutions should move beyond offering
merely ‘Sharīʿah-compliant’ instruments toward offering more ‘Sharīʿah-based’
(or ‘Sharīʿah-driven’1) ones. But what exactly do they mean? All of the terms
listed above suffer from some level of ambiguity, but the ‘Sharīʿah-based’
concept in particular seems to leave even industry insiders scratching their
heads. Even a number of senior bankers with many years’ experience in the
industry are left confused about the distinction between Sharīʿah-based
and Sharīʿah-compliant finance. Others feel the distinction is meaningless.
Interlocutors agree on one basic point: all Sharīʿah-based instruments and ac-
tivities are Sharīʿah-compliant, but not all Sharīʿah-compliant instruments and
activities are Sharīʿah-based. Beyond this, there is little consensus.
The body of this article has two sections, each of which poses a question. The
first section asks: Where do the terms ‘Sharīʿah-compliant’ and ‘Sharīʿah-based’
originate? We will discuss their early recorded usages and possible origins,
concluding that the popularity of the call for Sharīʿah-based finance is an arte-
fact of the 2000s and especially of the post-2008 period, when systemic stabil-
ity and product transparency became pressing concerns in both Islamic and
conventional finance.
The second section asks: What exactly do people mean by ‘Sharīʿah-based’?
While some assert that the distinction between Sharīʿah-based and
Sharīʿah-compliant finance is straightforward, the author finds that indus-
try figures have in fact used the term in very different ways. Their definitions
sometimes generate more ambiguity than clarity. To find a way out of this
confusion, we can distil circulating definitions of ‘Sharīʿah-based’ into three

1  
Industry literature uses ‘Sharīʿah-based’ and ‘Sharīʿah-driven’ interchangeably. I use
‘Sharīʿah-based’ in this section because it is more common at the moment.

Arab Law Quarterly 34 (2020) 1-24

Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 3

categories: those that stress separation from conventional finance, those that
stress authenticity, and those that stress welfare. We will conclude by noting
that the multiplicity of definitions is not a problem to be hidden away but rath-
er a starting point for debate and a sign of Islamic finance’s growing maturity
as an ethical project.
The goal of this article is not to advocate one path or another, or even to
argue for Sharīʿah-based finance. Instead, it is to bring conceptual clarity to
debates over Islamic financial ethics and to invite further conversation about
whether Sharīʿah-based finance is a meaningful and realistic lodestar in the
third decade of the 21st century.

2 Where Do the Terms ‘Shariah-compliant’ and ‘Sharīʿah-based’

Originate?

2.1 ‘Sharīʿah-Compliant’ Islamic Finance

The English term ‘Sharīʿah-compliant’ appears to have come into existence in
the early or mid-1990s. This contrasts with the term ‘Islamic banking’, which
appeared in major English-language newspapers2 and academic sources3 as
early as 1974, and in other sources even before that; and with the term ‘Islamic
finance’, which we find in English usage by 1982 at the latest.4
By the mid- to late 1990s, the term ‘Sharīʿah-compliant’ was widespread.
Literature searches for the term5 unearthed a magazine article from 1996,6
a newspaper article from March 1999,7 and a scholarly article from the same

2  W.D. Hartley, ‘Finance Ministers of Muslim Nations Propose Establishment of Islamic

Development Bank’, Wall Street Journal (12 August 1974), p. 6; ‘Saudi Arabia’s Minister Sheik
Ahmed Zaki al-Yamani Suggests that His Government Might Put Some of Its Windfall Profits
into “Using New Facilities” Created by World Bank’, The New York Times (13 April 1974), p. 9.
3  Z. Ahmed, ‘Review Article: Dr. Najjar’s Al-Madḫal ilā l-Naẓariyyāt il-Iqtiṣādiyya fī l-Manhaǧ
il-Islāmī’ (‘An Introduction to the Economic Theory of Islam’), Islamic Studies 13(4) (1974):
269-280.
4  I. Karsten, ‘Islam and Financial Intermediation (L’Islam et L’intermédiation Financière)
(Islamiso E Intermediación Financiera)’, Staff Papers - International Monetary Fund 29(1)
(1982): 108-142. I mean here ‘Islamic finance’ in the sense of modern Islamic finance, as op-
posed to medieval Islamic financial activities.
5  Databases searched include WorldCat (the world’s largest library catalogue, which itemises
the collections of 72,000 libraries in 170 countries), Lexis-Nexis, JSTOR, Google Scholar, and
Google Books. The search encompassed spelling variants (‘sharia’, ‘shariah’, ‘sharīʿah’, etc.) and
both hyphenated (‘shariah-compliant’) and non-hyphenated (‘shariah compliant’) variants.
6  ‘Bahrain Gets New Islamic Bank’, Middle East Economic Digest (November 1996): 4.
7  S. Womack, ‘God Comes before Greed for the Faithful Millions’, The Mail on Sunday (21 March
1999), pp. 28-29.

Arab Law Quarterly 34 (2020) 1-24

4 Calder

year.8 By the year 2000, the term was being used at the Harvard University
Forum on Islamic Finance.9 The year 2000 was also the first year that
‘Sharīʿah-compliant’ appeared in American legal literature.10 All of this sug-
gests that ‘Sharīʿah-compliant’ first came into use in the early to mid-1990s.
Prior to that, authors typically described financial instruments by simply using
the label ‘Islamic’, as in ‘Islamic profit-sharing arrangement’,11 or talked about
commercial or financial activities that ‘conform to Shariah’.12 They did not use
Sharīʿah-compliant as an adjective the way it is used today.
Putting a date on the first appearance of the term ‘Sharīʿah-compliant’ may
seem pedantic, but it is in fact important because it allows us to place the term
in the context of the history of Islamic finance. Why, we might ask, was it nec-
essary to start using the term ‘Sharīʿah-compliant’? What was wrong with just
calling a financial instrument ‘Islamic’, for example, as had been done in the
1980s, and as is still often done today? There are several possible reasons for
this discursive shift.
The first possible reason was to bolster consumer confidence in Islamic fi-
nance in the wake of scandal. Consumers needed reassurance that their money
was being handled according to strict ethical standards. After all, a number
of so-called ‘Islamic’ financial operations had recently been publicly discred-
ited. In perhaps the most tragic case, many of Egypt’s leading Islamic capital-
investment companies (šarikāt tawẓīf al-amwāl al-islāmīyah) of the 1980s,
including the giants Al-Rayan and Al-Saad, turned out to be pyramid schemes
or to be engaging in other unsavoury forms of behaviour.13 All the while, the
leaders of these schemes had been proclaiming their piety publicly. One of

8   R. Wilson, ‘Challenges and Opportunities for Islamic Banking and Finance in the West:
The United Kingdom Experience’, Thunderbird International Business Review 41(4-5)
(1999): 421-444.
9   T. Gainor, ‘A Practical Approach to Product Development’, in Proceedings of the Fourth
Harvard University Forum on Islamic Finance—Islamic Finance: The Task Ahead, Center
for Middle Eastern Studies, Harvard University, Cambridge, MA (2000), 235-241.
10  Y. DeLorenzo, ‘The Religious Foundations of Islamic Finance’, Jurist 60 (2000): 137;
M.J.T. McMillen, ‘Islamic Shari’ah-Compliant Project Finance: Collateral Security and
Financing Structure Case Studies’, Fordham International Law Journal 24 (2000): 1184;
H.M. Sharawy, ‘Understanding the Islamic Prohibition of Interest: A Guide to Aid
Economic Cooperation between the Islamic and Western Worlds’, Georgia Journal of
International and Comparative Law 29 (2000): 153.
11  Z. Iqbal & A. Mirakhor, Islamic Banking (Washington, DC: International Monetary
Fund, 1987).
12  Islamic Economics Research Bureau (Bangladesh), Thoughts on Islamic Banking (Dacca:
Islamic Economics Research Bureau, 1982).
13  I.M. Oweiss, ‘Egypt’s Economy: The Pressing Issues’, in: I.M. Oweiss (ed.), The Political
Economy of Contemporary Egypt (Washington, DC: Center for Contemporary Arab

Arab Law Quarterly 34 (2020) 1-24

Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 5

them, Aḥmad al-Rayyān, eventually served 21 years in prison and became the
subject of a Ramadan television series.14 Using the term ‘Sharīʿah-compliant’
may have been a way for the Islamic financial institutions of the 1990s to stress
that they, unlike the failed Egyptian capital-investment companies, operated
according to a high ethical standard.
Second, and relatedly, the word ‘compliant’ serves another powerful market-
ing function: it communicates that a high level of formal rationality, techni-
cal expertise, and rigorous assessment lie behind approved Islamic financial
products. The word ‘compliant’ means ‘meeting or in accordance with rules
or standards’15 or ‘manufactured or produced in accordance with a specified
body of rules’.16 Compliance standards for electronics products govern levels of
heavy metals; compliance standards for food products set maximum levels of
testable toxic substances and bacteria; and compliance standards for aircraft
require hundreds of mechanical and electrical stress tests. Compliance is a se-
rious matter. When the word ‘compliance’ is used, we assume that standards
are monitored in a rational and consistent way by professional experts. We also
assume there is punishment for non-compliance.
Because consumers are used to hearing the word ‘compliant’ used thus,
the word ‘Sharīʿah-compliant’ provides reassurance to customers who might
have wondered just what is Islamic about an Islamic financial product. At the
same time, use of the term ‘Sharīʿah-compliant’ constructs a cognitive equiv-
alence between Sharīʿah and a system of regulations, standards, or rules. It
stresses the formal aspect of Islamic law. It emphasises that Sharīʿah is more
formally rational, institutionally rooted, and standardised than ‘mere’ eth-
ics, which may be subjective. One would never say a financial instrument is
‘ethics-compliant’, because ethics vary from person to person and community
to community. Calling something ‘ethics-compliant’ would beg the question,
‘Whose ethics’?17 In other words, using the term ‘Sharīʿah-compliant’ elevates

Studies, Georgetown University, 1990), pp. 13-18; I. Warde, Islamic Finance in the Global
Economy, 2nd edn. (Edinburgh: Edinburgh University Press, 2010).
14  A. Fikrī & M. Nādī, ‘Wafāh “al-Rayyān” ... Ṣāḥib Ašhar Qiḍāyā “Tawẓīf al-Amwāl” ’, Al-Maṣrī
al-Yaum (7 June 2013); O. Kamal, ‘Al-Rayyān: From Fact to Fiction’, Al-Ahram Weekly
(18 August 2011).
15  E. McKean (ed.), ‘Compliant’, The New Oxford American Dictionary, 2nd edn. (New York:
Oxford University Press, 2005).
16  S.B. Flexner (ed.), ‘Compliant’, Random House Webster’s Unabridged Dictionary (New York:
Random House, 1993).
17  However, one could certainly say that a physician’s behaviour is ‘compliant with’ the
American Medical Association’s Code of Ethics—because this is a settled, formal, institu-
tionally rooted set of rules.

Arab Law Quarterly 34 (2020) 1-24

6 Calder

adherence to Sharīʿah from a subjective matter that can vary from interpreter
to interpreter to an objective matter that is testable against fixed regulations.
As Islamic finance evolved toward increasingly sophisticated product of-
ferings, it became ever more important to communicate that the ‘Islamicity’
of those product offerings was being measured in a formal and technical
way. In the 1970s and 1980s, most Islamic financial products relied on a single
Islamic nominate contract, such as murābaḥah, mušārakah, or muḍārabah.
The product could be described by using the name of that contract. For ex-
ample, an Islamic auto financing could simply and accurately be described
as a murābaḥah auto financing (tamwīl murābaḥah al-sayyārah). However, as
Islamic finance entered the capital markets with gusto in the 1990s, naming re-
quirements changed. Stock screens posed a problem, for example. Describing
an investment fund of screened companies as ‘Islamic’ was ambiguous, but
describing it as Sharīʿah-compliant more accurately portrayed that the stocks
it contained did not violate specific Islamic legal conditions, such as involve-
ment in ḥarām sectors such as pork, alcohol, and pornography. Likewise, as
Islamic financial institutions increasingly introduced replicas of sophisticated
conventional instruments, the need to differentiate their products from the
conventional products they replicated grew stronger. ‘Sharīʿah-compliant
cross-currency swap’ sounds more unambiguously different from a conven-
tional cross-currency swap than ‘Islamic cross-currency swap’ does. It also
sounds more technical and more rigorously vetted.
In sum, the term ‘Sharīʿah-compliant’ is an industry neologism that first ap-
peared in the 1990s. It not only explicitly conveys information about the prod-
uct in question, but also implicitly communicates a specific understanding
of shariah: that Sharīʿah is a formal system of regulations. Finally, it is worth
noting that the term almost certainly originated within the Islamic finance in-
dustry, as it is virtually never used outside the industry. Likewise, its Arabic
equivalent, the phrase mutawāfiq maʿ al-šarīʿah al-islāmīyah, rarely appears
outside the context of Islamic finance. In this sense, the Islamic finance in-
dustry and its vocabulary are arguably driving how 21st-century Muslims and
non-Muslims conceive of Islamic law.18

2.2 Sharīʿah-Based Islamic Finance

The term ‘Sharīʿah-based’ has appeared relatively often in English-language
literature about Islamic law. However, most uses of this term outside Islamic
finance simply imply being involved with Sharīʿah in some general way

18  K. Bälz, Shariah Risk? How Islamic Finance Has Transformed Islamic Contract Law
(Cambridge, MA: Islamic Legal Studies Program, Harvard Law School, 2008).

Arab Law Quarterly 34 (2020) 1-24

Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 7

(e.g., ‘Sharīʿah-based arbitration’,19 ‘Sharīʿah-based rulings’,20 ‘Sharīʿah-based

protests’21). The same is true of ‘Sharīʿah-driven’, which experiences various us-
ages, including some inflammatory ones by Islamophobes.22
In its usage here—that is, presented as an ethically preferable alterna-
tive to ‘Sharīʿah-compliant’—the term ‘Sharīʿah-based’ and its synonym
‘Sharīʿah-driven’ probably first appeared in the early to mid-2000s. One of the
earliest recorded usages was by Iqbal Khan in a 2006 lecture. Khan equated a
Sharīʿah-based future for Islamic finance with a more ethical one:

It is critical that the industry redress the balance in the letter and spirit
of the law to maintain its authenticity – shifting from its accommodative,
Shariah-compliant setup to a spirited, Shariah-based industry, which en-
capsulates a change in mindset as well as product offering, away from
indebtedness products, to savings and investment solutions.23

Here, Khan associates being Sharīʿah-compliant with ‘indebtedness products’

and being Sharīʿah-based with ‘savings and investment’ products. He also de-
scribes the Sharīʿah-compliant approach as ‘accommodative’—bending to
market forces, presumably—and the Sharīʿah-based approach as ‘spirited’, or
agentic and visionary. As we will see later in this article, however, this has been
just one of many meanings attributed to the term ‘Sharīʿah-based’.
The term came into increasingly common usage in literature of the late
2000s and the first half of the 2010s. What was special about that historical
moment? The answer has to do with the decline of one paradigm in Islamic
finance and the rise of another. This article began with the proposition that
the Islamic finance industry is constantly soul-searching. The industry’s claim
to be ethically superior to conventional finance goes to the heart of its com-
mercial identity: that is, to its appeal to customers. It also goes to the heart of
industry practitioners’ self-identity—to the way practitioners make sense of
what they do for a living and why it is worth doing. As a result, Islamic finance

19  A. Khan, ‘The Interaction between Sharīʿah and International Law in Arbitration’, Chicago
Journal of International Law 6(2) (2006): 791-802.
20  J.A. Solé, Introducing Islamic Banks into Conventional Banking Systems (Washington, DC:
Social Science Research Network, 2007).
21  L.A. Khan, ‘Jurodynamics of Islamic Law’, Rutgers Law Review 61 (2008): 231-294.
22  Such as David Yerushalmi, a neoconservative American lawyer who drafted legislation
that banned Sharīʿah in Tennessee courts and speaks of a ‘Shariah-driven jihad-based’
form of Islam (Martin 2011).
23  I. Khan, Assessing the Evolution and Increasing Relevance of Islamic Finance in Mainstream
Banking, lecture, Institute for Islamic Banking and Insurance, London, 2006.

Arab Law Quarterly 34 (2020) 1-24

8 Calder

must always have a lodestar. The industry’s momentum depends on having a

beacon that shows the way toward improvement, even if in practice it may
be unattainable in the foreseeable future. Customers, and especially practi-
tioners, will only remain committed to the industry if it seems committed to
improving itself.
With this in mind, one reason for the ascendance of the dichotomy in indus-
try discourse between ‘Sharīʿah-compliant’ and ‘Sharīʿah-based’ is the gradual
decline of profit-and-loss sharing (PLS) as the lodestar for Islamic finance.
One aspirational narrative is replacing another in Islamic finance. The old
aspirational narrative was that the industry needed to move from debt-based
finance to equity-based (i.e., PLS) finance. The new aspirational narrative is
that the industry needs to move from Sharīʿah-compliant finance to Sharīʿah-
based finance.
Unfortunately, PLS has always been more of a dream than reality in for-
profit Islamic finance. In the 1960s, the earliest utopian ventures in Islamic
banking, such as Egypt’s Mit Ghamr Savings Bank, were launched based largely
on PLS. From that time onward, PLS became the paradigmatic ideal template
for Islamic finance. However, it proved difficult to implement in a commer-
cial setting. In the late 1970s and early 1980s, a few early Islamic banks tried to
implement a PLS-based operating model known as two-tier muḍārabah that
had been theorised by pioneering Islamic economists M. Nejatullah Siddiqi
and Mohammad Uzair.24 These banks soon found that two-tier muḍārabah,
while good in principle, raised serious commercial, regulatory, and liquidity-
management-related troubles when implemented in financial markets that
were already dominated by conventional competitors and that were deeply
shaped by conventional regulatory schemes and conventional financial infra-
structures. This led to the spread of the ‘murābaḥah syndrome’25—the domi-
nance of murābaḥah and other debt-based structures in Islamic finance. The
murābaḥah syndrome persists today; no one has found a viable large-scale so-
lution for it.26 PLS has been in retreat since the early 1980s.

24  M.N. Siddiqi, Banking without Interest (Leicester: Islamic Foundation, 1983 (originally
published in Urdu, 1973)); M. Uzair, Interest Free Banking (Karachi: Royal Book, 1978).
25  T.M. Yousef, ‘The Murabaha Syndrome in Islamic Finance: Laws, Institutions and Politics’,
in: C.M. Henry & R. Wilson (eds.), The Politics of Islamic Finance (Edinburgh: Edinburgh
University Press, 2004), pp. 63-80.
26  A.R. Abdul Rahman, ‘Islamic Banking and Finance: Between Ideals and Realities’, IIUM
Journal of Economics and Management 15(2) (2007): 123-141; A.W. Dusuki & A. Abozaid,
‘A Critical Appraisal on the Challenges of Realizing Maqāṣid al-Sharīʿah in Islamic
Banking and Finance’, IIUM Journal of Economics and Management 15(2) (2007): 143-
65; M. Iqbal & P. Molyneux. Thirty Years of Islamic Banking: History, Performance, and
Prospects (New York: Palgrave Macmillan, 2005); S. Khan, ‘Organised Tawarruq in Practice:

Arab Law Quarterly 34 (2020) 1-24

Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 9

Crucially, PLS-based finance began declining as a pragmatic operational

goal for the industry over three decades ago, but remained in place as an ide-
alistic narrative. The vast majority of marketplace practitioners of Islamic fi-
nance stopped making serious efforts to implement two-tier muḍārabah and
other holistic PLS-based models in the 1980s. This was not because of ethi-
cal failings or personality flaws but because market conditions and regulatory
conditions precluded the implementation of holistic PLS. It is true that PLS
structures continued to play a role in Islamic finance, but that role has been
minor since the early 1980s. Today, even muḍārabah-based constructs and
mušārakah-based constructs usually facilitate the replication of conventional
debt instruments insofar as they offer what is very close to a fixed, predeter-
mined positive return. True PLS-based finance, in the sense of finance that
apportions significant investment risk to the provider of capital, lives merely
in the interstices of Islamic finance, except in those sectors such as Islamic
private equity that are risk-sharing in their conventional form anyway. Yet from
a narrative perspective, Islamic financial institutions, Sharīʿah scholars, and
even government regulators continued to claim until recently that the ground-
ing of Islamic finance in PLS is the main difference that makes Islamic finance
superior to conventional finance. With apologies to Langston Hughes, PLS be-
tween the 1980s and the 2000s was always a dream deferred—but one that was
consistently useful as a marketing tool.

2.3 A Reality Check and the Birth of a New Paradigm

Recent years have been a turning point in this regard: narrative has begun to
adjust to reality. Since the mid- to late 2000s, the dissonance between PLS as a
seemingly impossible operational goal and PLS as an idealistic marketing nar-
rative has become too stark to sustain.
Industry players have started to acknowledge that true PLS is almost no-
where to be found. This is largely because the frequency of serious dialogue
has increased: with the Islamic finance industry growing at 15% to 20% per
annum since 2000, forums for discussing and debating the industry have mul-
tiplied. Conferences, workshops, seminars, and training sessions on Islamic
finance have mushroomed. Magazines, academic journals, and information

A Shari’ah Non-Compliant and Unjustified Transaction’, New Horizon (December 2010):

16-21; M.K. Lewis & L.M. Algaoud, Islamic Banking (Cheltenham: Elgar, 2001); S. Nagaoka,
Islamic Finance in Economic History: Marginal System or Another Universal System?, paper
presented at Second Workshop on Islamic Finance: What Islamic Finance Does (Not)
Change (EM Strasbourg Business School, Strasbourg, 17 March 2010), available at: http://
www.iefpedia.com/english/wp-content/uploads/2010/03/Islamic-Finance-in-Economic
-History-Marginal-System-or-Another-Universal-System-.pdf, accessed 6 July 2019.

Arab Law Quarterly 34 (2020) 1-24

10 Calder

clearinghouses specific to Islamic finance have appeared. Existing industry

bodies such as the Accounting and Auditing Organization for Islamic Financial
Institutions (AAOIFI) and the Islamic Financial Services Board (IFSB) have
grown stronger, while new ones have emerged. Government regulators too
have become more knowledgeable about Islamic finance. All of these changes
have widened the circle of people who understand how Islamic financial insti-
tutions operate. In the process, it has become impossible to sustain the myth
that Islamic finance is fundamentally PLS-based, or even that a PLS-based
Islamic financial system is a realistic goal in anything but the very long term.
Increased dialogue in the industry has shattered the PLS myth.
At the same time, earthquakes in the conventional financial industry have
underscored the need for a new aspiration. A succession of disasters has ex-
posed the dark and lurid underbelly of conventional finance. The Asian finan-
cial crisis of 1997-1998 revealed the human cost of footloose investment capital
and currency speculation. Accounting scandals at Enron, Tyco, and WorldCom
in 2001-2002 unveiled incompetence at leading accountancies and gross venal-
ity among corporate executives. And the US subprime crisis and subsequent
global financial contagion of 2007-2008, which claimed Northern Rock, Bear
Stearns, and Lehman Brothers as well as tens of millions of jobs worldwide,
illustrated the hazard of financial structures so complex that neither ratings
agencies nor regulators understood them.
At its core, the call for system-wide PLS was a call to make banking itself
obsolete. The early theorists and pioneers of Islamic finance in the 1950s and
1960s aimed to replace banks—defined in a simple sense as financial inter-
mediaries that take deposits at one interest rate and make loans at a higher
rate—with trading houses and investment firms. If implemented completely
and taken to its logical conclusion, the dream of systemic PLS-based Islamic
finance would lead to the elimination of all debt financing paying a fixed
non-zero return. This meant the disappearance of banks as traditionally un-
derstood (with the minor exception of institutions providing charitable qarḍ
ḥasan). The early pioneers and theorists had good reasons for wanting this: not
only was the entire global banking system worm-eaten with ribā, but it was
also an oppressive instrument of Western economic and political hegemony.27

27  A.M. ʿA. al-Naǧǧār, Bunūk bi-lā Fawāid: ka-Istirātīǧīyah li-l-Tanmiyah al-Iqtiṣādīyah wa-
l-Iǧtimāʿīyah fī l-Duwal il-Islāmīyah: Maǧmūʿat Muḥāḍarāt (Jeddah: King Abdulaziz
University, 1972); M.B. al-Ṣadr, Iqtiṣādunā: Dirāsah Mawḍūʿīyah Tatanāwalu bi-l-Naqd wa
l-Baḥṯ al-Maḏāhib al-Iqtiṣādīyah li-l-Mārkisīyah wa-l-Raʾsmālīyah wa l-Islām fī Ususihā
l-Fikrīyah wa-Tafāṣīlihā (Beirut: Dār al-Kitāb al-Lubnānī, 1977).

Arab Law Quarterly 34 (2020) 1-24

Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 11

In contrast, the call for Sharīʿah-based finance is a call to make banking bet-
ter. While it is true that most advocates of Sharīʿah-based finance continue to
support increased use of PLS financing, few expect PLS financing ever to re-
place banking outright. Instead, they hope to reform the banking system. This
is a less ambitious, more pragmatic goal.
The new Sharīʿah-based narrative concedes that debt-based finance, wheth-
er conventional or Islamic, is probably be here to stay – but that Islamic finance
can curb its worst excesses. In the words of Ibrahim Warde, Islamic finance
can show the world how to ‘put the brakes’28 on finance, which tends toward
dangerous innovations and reckless activity in the absence of moral oversight.
By extension, it is not just Muslims who can benefit from Islamic finance and
learn from it, but the whole world. In this sense, the call for Sharīʿah-based
finance is a response to the current round of financialisation29 and financial
globalisation.30

3 What do People Mean by ‘Sharīʿah-based’? Separation,

Authenticity, Welfare

There is confusion about just what the term ‘Sharīʿah-based’ means. People
mean different things by it. One economic research house alleged that in shift-
ing its approach ‘from sharia-compliant to sharia-based’, Malaysia’s Securities
Commission is implementing ‘essentially a liberalisation that will allow more
innovation and international marketability’.31 But is this accurate? If anything,

28  I thank Ibrahim Warde for this formulation, which he shared with me in a conversation in
2008.
29  By ‘financialisation’, I mean the increasing importance, since the 1970s, of the financial
sector—as opposed to trade and commodity production—in the GDP, labour mar-
kets, and dominant cognitive frames of national economies. See G.A. Epstein (ed.),
Financialization and the World Economy (Cheltenham: Edward Elgar, 2005); N. Fligstein,
The Architecture of Markets: An Economic Sociology of Twenty-First-Century Capitalist
Societies (Princeton: Princeton University Press, 2002); J. Froud, C. Haslam, S. Johal & Karel
Williams, ‘Shareholder Value and Financialization: Consultancy Promises, Management
Moves’, Economy and Society 29(1) (2000): 80-110; G.R. Krippner, ‘The Financialization of
the American Economy’, Socio-Economic Review 3(2) (2005): 173-208.
30  By ‘financial globalisation’, I mean the expansion and increasing transnational inter-
connectedness of capital flows and financial markets. See P.G. Cerny, ‘The Dynamics
of Financial Globalization: Technology, Market Structure, and Policy Response’, Policy
Sciences 27(4) (1994): 319-342; J. Heathcote & F. Perri, ‘Financial Globalization and Real
Regionalization’, Journal of Economic Theory 119(1) (2004): 207-243.
31  Oxford Business Group, The Report: Sarawak 2011 (London: Oxford Business Group, 2011).

Arab Law Quarterly 34 (2020) 1-24

12 Calder

the shift toward Sharīʿah-based finance is probably the opposite of a liberali-

sation. Similarly, former Malaysian Prime Minister Najib Razak stated that:
‘[…] the Securities Commission [of Malaysia] will also work to encourage the
wider shift Shariah-compliant approach to a Shariah-based approach, pro-
moting higher levels of innovation and international marketability’.32 While
international marketability might result from a Sharīʿah-based approach, it
might not. In any case, marketability is hardly the essence of a Sharīʿah-based
approach. Statements like this, while well-meaning and intended to promote
Sharīʿah-based finance, add to the terminological confusion.
Sometimes, ‘Sharīʿah-based’ and ‘Sharīʿah-driven’ even seem to be short-
hand for any and all desirable reforms in Islamic finance. In 2007, the regional
head of a major multinational Islamic bank argued that a more proactive regu-
latory framework, greater innovation, appropriate technology solutions, better
human resources and training, and wider academic input were all vital compo-
nents of a ‘change in mindset from Shariah compliant to Shariah driven prod-
ucts and services’.33 He clearly did not mean that all of these elements define
what it means to be Sharīʿah-driven, but rather that they are components of the
broader Islamic financial infrastructure or ecology necessary to bring systemic
Sharīʿah-based finance to fruition. He was implying that ‘it takes a village’ to
build Sharīʿah-driven finance. Nevertheless, such sweeping statements leave
open the question: What exactly does ‘Sharīʿah-based’ (or ‘Sharīʿah-driven’)
mean? And what does it not mean? Is ‘Sharīʿah-based’ simply a basket term for
all the changes that people would like to see in the Islamic finance industry?
Or does it have a more specific meaning?
My interviews throughout the Islamic finance industry,34 as well as usages
in the Islamic-finance literature, suggest that definitions of Sharīʿah-based
finance refer to at least one of three separate principles: separation, authentic-
ity, or welfare.

3.1 Separation
Some figures in the Islamic finance industry define Sharīʿah-based finance as
being more separate from conventional finance than financial activity that is
merely Sharīʿah-compliant. They argue that Sharīʿah-based finance involves

32  T.A.R. Najib, keynote address, Invest Malaysia 2011 Conference (Kuala Lumpur, 12 April
2011), available at: https://www.theedgemarkets.com/article/flash-pm%E2%80%99s
-speech-invest-malaysia-2011, accessed 7 July 2019.
33  ‘Shariah Driven, Not Just Compliant’, Islamic Finance News (10 August 2007), p. 2.
34  Conducted between 2008 and 2019 as part of research for a book manuscript on the his-
torical evolution of Islamic finance.

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Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 13

separate product development, separate pricing, the segregation of funds, or

sectoral separation.

3.1.1 Separate Product Development

Some scholars of Islamic finance argue that Sharīʿah-based instruments must
be developed ‘from the ground up’ based on Islamic principles. According
to this view, instruments that are replicated or ‘copy-pasted’ from con-
ventional finance in order to fit within the legal rules of Sharīʿah might be
Sharīʿah-compliant, but they cannot be Sharīʿah-based. In the words of Ashar
Nazim, being Sharīʿah-based means doing more than ‘just having synthetic in-
struments’ built to mimic conventional ones.35
Ahcene Lahsasna and M. Kabir Hassan, for example, lay out separate product-
development processes for Sharīʿah-based products and Sharīʿah-compliant
ones. They argue that development of Sharīʿah-based products must begin by
identifying a pre-existing Islamic commercial contract and working upward
from it, whereas development of products that are only Sharīʿah-compliant be-
gins by ‘selecting an appropriate product for a niche market’, often leveraging
product knowledge from the bank’s conventional division if the Islamic bank is
part of a conventional mother bank.36 Making a similar point, Rodney Wilson
seems to suggest that the direct involvement of Sharīʿah scholars in developing
products—and not just approving them – is crucial to Sharīʿah-based status:

Despite the success of sukuk there remain fundamental questions about

their legitimacy from a shariah perspective, as the current structures have
been devised by lawyers and investment bankers and are not shariah-
based, as the contracts in traditional Islamic jurisprudence, fiqh, are sig-
nificantly different. The sukuk are shariah-compliant in the sense that
they have been approved by the shariah boards of the institutions under-
taking their arrangement, but the shariah scholars serving on the boards
have not been involved in the structuring of the financial instruments.37

Proponents of this view stress that the very fate of Islamic finance depends
on Islamic financial institutions’ ability to stop replicating conventional

35  A. Jamil, ‘Islamic Banks “Should Focus More on Quality Growth” ’, The Malaysian Reserve
(18 February 2013): 24.
36  A. Lahsasna & M.K. Hassan, ‘The Shariah Process in Product Development and Approval
in ICM’, in: M.K. Hassan & M. Mahlknecht (eds.), Islamic Capital Markets: Products and
Strategies (Chichester: Wiley, 2011), pp. 23-68.
37  R. Wilson, ‘Islamic Capital Markets: The Role of Sukuk’, in Islamic Finance: Instruments
and Markets (London: Bloomsbury, 2010), pp. 57-60.

Arab Law Quarterly 34 (2020) 1-24

14 Calder

interest-based products and instead to develop instruments and markets spe-

cific to Islamic finance. Rasem N. Kayed and M. Kabir Hassan write:

There is no absolute assurance that Islamic finance, once mature, will

weather a similar financial crisis [to the 2008 global financial crisis] in
the future unless it commits itself to being Shariah-based (the substance)
rather than Shariah-compliant (the form). Such commitment compels
the young evolving Islamic financial industry to embark on vigorous,
first-class, and steady research with the aim of developing its own sophis-
ticated intermediary markets or alternatives.38

3.1.2 Separate Pricing

A similar argument, albeit a less common one, is that Sharīʿah-based prod-
ucts must be priced in a way distinct from conventional ones or those that
are merely Sharīʿah-compliant. According to Securities Commission Malaysia,
for example, one characteristic of Sharīʿah-based products is that they would
offer ‘significantly different pricing and returns characteristics’ from conven-
tional or Sharīʿah-compliant ones.39 More specifically, some observers argue
that Sharīʿah-based instruments must not use conventional interest rates as
price benchmarks. This echoes the longstanding objection to the use in Islamic
finance of LIBOR and other conventional interest-rate benchmarks. A leading
Sharīʿah consultant at one GCC-based Islamic bank argues, for example, that
a requirement for a murābaḥah product to be Sharīʿah-based is that it not be
priced using any IBOR-type rates.40 To address this issue, Norhanim Mat Sari
and Abbas Mirakhor advocate the eventual development of a Sharīʿah-based
benchmark as an instrument of monetary policy. They assert that a central
bank could issue instruments of different maturities whose rates are tied to
GDP growth, and which would then trade on the secondary market, setting
a yield curve reflecting real economic activity and ‘the government’s risk-
premium adjusted ‘benchmark’ rate’.41

38  R.N. Kayed & M.K. Hassan, ‘The Global Financial Crisis and Islamic Finance’, Thunderbird
International Business Review 53(5) (2011): 551-564 at 562.
39  Securities Commission Malaysia, ‘Capital Market Masterplan 2: Widening Islamic Capital
Markets International Base’, Malaysian ICM: Quarterly Bulletin of Malaysian Islamic
Capital Market (2011): 2-3.
40  This includes LIBOR, Euribor, SIBOR, KLIBOR, and so on. Based on an author interview
with an informant who prefers to remain anonymous.
41  N. Mat Sari & A. Mirakhor, ‘Islamic Monetary Policy in Malaysia: A Conceptual Framework’,
in 2nd ISRA Colloquium, Bank Negara Malaysia (Kuala Lumpur: ISRA, 2012).

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Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 15

3.1.3 Separation of Funds

Natalie Schoon suggests that the segregation of funds used for Islamic financial
transactions from funds used for conventional ones is another requirement for
being Sharīʿah-based. She notes that while conventional banks offer individual
products that are Sharīʿah-compliant and use separate distribution channels
for their Islamic products, they may well commingle ‘funds raised in an Islamic
manner with conventionally raised funds’,42 which could undermine claims
they make to practicing Sharīʿah-based finance. (This seems to raise a provoca-
tive question: Is it possible for Islamic divisions and Islamic windows of con-
ventional banks to practice Sharīʿah-based finance at all?)

3.1.4 Sectoral Separation

To Rushdi Siddiqui, the term ‘Sharīʿah-based’—when used in the context of
equities—should be applied only to investments in companies that are in a
distinctively Islamic sector. Such sectors include ḥalāl foods, Islamic finance,
and Islamic education. This contrasts with Sharīʿah-compliant equities, which
have merely passed sectoral screens (filtering out ḥarām sectors such as al-
cohol, pork, and pornography) and financial screens (filtering out companies
with high debt, high accounts receivable, and high non-operating interest in-
come). ‘There is nothing “Islamic” about Sharīʿah-compliant indexes, as most
of the underlying companies are not from Muslim countries’, writes Siddiqui.43
‘The dominating compliant companies are Western based, like Apple, Pfizer,
ExxonMobil’, unlike Sharīʿah-based companies such as ‘Al-Rajhi, KFH, Bank
Asya, Bank Islam, Dubai Islamic Bank, Meezan Bank’, and so on.44

3.2 Authenticity
A second position defines Sharīʿah-based transactions and instruments as
more authentic than merely Sharīʿah-compliant ones. Here, ‘authentic’ can
mean three different things: historically authentic, authentically connected to
the real economy, or what we may call ‘ontologically transparent’.

3.2.1 Historical Authenticity

A financial instrument is historically authentic if its current usage is the same
as, or at least similar to, its usage at earlier times in Islamic history. Typically,
the historical times in question are pre-modern, such as the age of the Prophet

42  N. Schoon, Islamic Banking and Finance (London: Spiramus Press, 2009).
43  R. Siddiqui, ‘Year of Index Outperformance’, Business Times (Malaysia) (17 January 2012).
44  R. Siddiqui, ‘Islamic Finance, Halal Industry and the Media’, Business Times (Malaysia)
(7 June 2011).

Arab Law Quarterly 34 (2020) 1-24

16 Calder

Muhammad or medieval periods when a range of nominate Islamic contracts

were commonly used in long-distance trade. It is easier to think of histori-
cally authentic products as Sharīʿah-based because they have passed the test
of time: jurists over many generations have scrutinised them and found them
valid. Products based on nominate structures such as muḍārabah, mušārakah,
salam, iǧārah, and ḥawālah are arguably more likely to be Sharīʿah-based be-
cause they have been discussed ‘by Muslims jurist[s] through the ages’, with
‘their concepts, meanings, rules and conditions […] clearly spelt out in the
books of Islamic law’.45 This contrasts with novel structures that have only been
synthesised in modern times to suit modern needs. Likewise, some contempo-
rary practitioners of Islamic finance consider many of the present-day usages
of murābaḥah—particularly in tawarruq and commodity murābaḥah—to be
perversions of murābaḥah’s medieval usage, which was as a mark-up justified
by substantial operational risks (such as injury to the trader or the risk of spoil-
age) incurred during long-distance trade.46
In some cases, the historical period for comparison is the 1960s and 1970s,
when early pioneers and theorists were formulating the original vision of
Islamic finance. Some practitioners, for example, stress that the first Islamic
banks used muḍārabah and mušārakah only as investment instruments, and
that more recent innovations—such as the use of repayment guarantees with
muḍārabah and mušārakah—are not Sharīʿah-based partly because they are
not aligned with the visions of the founders of Islamic finance.

3.2.2 Authentic Connection to the Real Economy

Another common argument is that an instrument must be authentically linked
to the real economy in order to be Sharīʿah-based. This principle was a sine qua
non for the first Islamic banks of the 1960s and 1970s, which ‘were suspicious of
all financial products whose links to the real economy were deemed tenuous’
and ‘preferred to invest in physical assets such as real estate or commodities’.47
However, with the rise of debt-based financing instruments, Islamic finance
became increasingly detached from productive economic activity—even
when it employed asset sales or leases to mimic conventional interest-based
lending. Although many Islamic financial institutions today pay lip service to
the idea of a necessary connection to the real economy, the proliferation of

45  Lahsasna & Hassan, supra note 34 at 9: 37.

46  A. Udovitch, ‘Islamic law and the social context of exchange in the medieval Middle East’,
History and Anthropology 1(2) (1985): 445-465.
47  I. Warde, Islamic Finance in the Global Economy, 2nd edn. (Edinburgh: Edinburgh
University Press, 2010), p. 3.

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Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 17

Islamic derivatives, Islamic products with repayment guarantees, and other

highly structured Sharīʿah-compliant instruments has often severed or weak-
ened this connection. As a result, some industry figures are now calling for
a Sharīʿah-based finance that re-establishes this link. One such figure is Nik
Ramlah Mahmood, who predicts a shift ‘towards the Shariah-based, as op-
posed to Shariah-compliant, approach’—a move toward investment products
grounded in ‘productive, real economic activities’.48

3.2.3 Ontological Transparency

In Islamic finance, two kinds of transparency matter. One kind, which I call
‘communicative transparency’, is easy to describe. A financial product is
communicatively transparent if the institution selling it states its terms in a
well-written contract, explains the product to the customer without lying or
embellishing, and then adheres to the terms it has laid out. Communicative
transparency is a basic condition of all Sharīʿah-compliant instruments, and
indeed of all financial instruments under most bodies of secular law.
There is also another important kind of transparency, which I call ‘onto-
logical transparency’, that practitioners often refer to without describing as
such. To some people who advocate Sharīʿah-based finance, ontological trans-
parency is an essential feature—often the essential feature—that separates
Sharīʿah-based finance from Sharīʿah-compliant finance. An Islamic financial
instrument or transaction is ontologically transparent if it ‘does what is in
its nature to do’ or ‘does what it is supposed to do’ in a straightforward way.
Ontological transparency is a function of the structure of the instrument it-
self, not of the way it is communicated. When an Islamic financial instrument
is ontologically transparent, its Islamicity is readily apparent, and its ground-
ing in Islamic principles so clear that extensive explanation is unnecessary.
As the managing director of one Islamic venture-capital firm put it, ‘to me,
Sharīʿah-based means alignment with the principles [of Islam]—as under-
stood by the man in the street’.49
One Sharīʿah consultant at a GCC-based bank described the requirement of
ontological authenticity as his ‘golden rule’ of Islamic finance: that ‘products
must be what they claim to be’. He elaborated:

48  N
 .R. Mahmood, Islamic Capital Market: Gearing for the Next Phase of Growth, keynote ad-
dress, Invest Malaysia 2011 Conference (Kuala Lumpur, 12 April 2011), available at: https://
www.sc.com.my/news/speeches/ifn-2011-issuers-investors-asia-forum, accessed 7 July
2019.
49  Interview with author, 2013.

Arab Law Quarterly 34 (2020) 1-24

18 Calder

In order to be genuinely in line with Sharīʿah, products must demonstra-

bly possess the characteristics of the commercial business-transaction
templates they claim to be based on […] We have these words like
murābaḥah, salam, istiṣnāʿ, and iǧārah – words that people in the indus-
try deliberately use [to create an air of mystery]. They say, ‘I understand
these words, and you don’t, so you need to come to me to understand
them’. But murābaḥah, salam, and istiṣnāʿ are all just forms of sale. And
iǧārah is simply a lease. Whatever the flowery names, you can just reduce
it to what it is.50

Total ontological transparency is an ambitious standard. Those who ada-

mantly support it impose conditions for being Sharīʿah-based that virtually no
Islamic bank operating today fulfils. According to them, an instrument such
as commodity murābaḥah is not Sharīʿah-based because it uses murābaḥah,
which is a mark-up sale whose fundamental function is to facilitate trade, as a
cash facility that has nothing to do with a real trade transaction. Indeed, this
view of Sharīʿah-based finance may completely exclude from Islamic finance
any debt-based cash-in-hand solutions, because no ontologically transparent
usage of the basic Islamic-finance contracts—such as murābaḥah (cost-plus
sale), iǧārah (lease), muḍārabah (silent partnership), or mušārakah (equity
participation financing)—allows for such activity.51 Moreover, when financ-
ing asset purchases using murābaḥah (as in a murābaḥah auto financing),
Sharīʿah-based Islamic banks would have to do much more than they cur-
rently do. Instead of simply going through the motions of trading, they would
actually have to act as trading houses. The Sharīʿah consultant quoted above,
for example, stresses that in order to be Sharīʿah-based, a bank providing
murābaḥah financing must take true and meaningful ownership of the goods
it is financing—including legal title and physical delivery—by filing the nec-
essary title paperwork and by maintaining a warehouse or a stocking facility
to take delivery. In short, banks would have to be traders; finance and trade
would be fully integrated. Such practices have existed at Islamic banks at some
times and places in the past; Kuwait Finance House was a prime example for

50  Interview with author, 2013. The Sharīʿah consultant continued: ‘For example, if I’m talk-
ing about iǧārah muntahiyah bi-l-tamlīk, is it indeed acting like a lease—specifically, a
lease with an embedded option? And if [I’m arranging a murābaḥah auto financing], am
I actually acting as a car trader? Am I trading based on real ownership, risk of inventory,
arranging insurance, pricing based on cost of operation (and not IBOR), real possession,
real transfer of possession, no advance promises, and so on?’
51  Some uses of salam and istiṣnāʿ might allow for debt-based cash-in-hand solutions, but
only in special cases.

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Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 19

much of its history.52 This contrasts with the current industry-standard prac-
tice of murābaḥah financing, in which Islamic banks merely take beneficial
ownership of a good while taking neither legal title under secular law nor
physical delivery.

3.3 Welfare
The third position is that Sharīʿah-based finance is concerned with welfare,
whereas merely Sharīʿah-compliant finance is concerned only with formal rule-
following. To put it another way, Sharīʿah-based finance adopts a consequen-
tialist approach to Sharīʿah, while merely Sharīʿah-compliant finance brackets
Sharīʿah within the formal confines of the transaction itself. Supporters of this
position sometimes (but not always) equate being Sharīʿah-based with being
rooted in maqāṣid al-šarīʿah: the objectives, purposes, principles, or divine
intents underlying Islamic law.53 For example, in a 2019 article arguing that
interest-tax shields obstruct maqāṣid al-šarīʿah, Qamar Uz Zaman et al. write
that ‘the Sharīʿah-based ends of finance are known as maqāṣid al-šarīʿah in
finance’.54
The welfarist definition of Sharīʿah-based finance can be stated simply:
‘any financial activity or banking product that enhances public interest is
Sharīʿah-based’.55 However, ‘welfare’ and ‘public interest’ are broad terms. In
fact, the welfarist definition comes in several types. Some feel the sine qua non
of being Sharīʿah-based is risk-sharing. Others consider Sharīʿah-based instru-
ments to be those that address the financial needs of the poor. Still others focus
not on the transaction, but on the financial institution’s business operations.

3.3.1 Risk-sharing
Those who consider risk-sharing to be essential to Sharīʿah-based finance
generally believe that risk-sharing is inherently welfare-improving. They feel
that risk-shifting instruments, by contrast, may be merely Sharīʿah-compliant
but cannot be Sharīʿah-based. This vision of Sharīʿah-based finance has

52  K. Smith, ‘The Kuwait Finance House and the Islamization of public life in Kuwait’, in:
Henry & Wilson (eds.), supra note 25, pp. 168-190.
53  J. Auda, Maqasid Al-Shariah as Philosophy of Islamic Law: A Systems Approach (Herndon,
VA: International Institute of Islamic Thought, 2008); M.H. Kamali, ‘Maqāṣid al-Sharīʿah:
The Objectives of Islamic Law’, Islamic Studies 38(2) (1999): 193-208.
54  Q.U. Zaman, M.K. Hassan, W. Akhter & J. Brodmann, ‘Does the interest tax shield align
with maqasid al Shariah in finance?’, Borsa İstanbul Review 19(1) (2019): 39-48: 39.
55  H. Dar, ‘Is Syariah Compliance Enough?’, The Brunei Times (24 March 2009).

Arab Law Quarterly 34 (2020) 1-24

20 Calder

a long history in Islamic economic thought. It is very similar to the call for
universal PLS.56
However, we find different definitions of risk-sharing in the call for
Sharīʿah-based finance. Some focus on the use of particular instruments.
Rodney Wilson wrote in 2009 that ‘muḍārabah and mušārakah are regarded
as Sharīʿah-based structures for equity investments’,57 and Iqbal Khan in 2006
associated Sharīʿah-based finance with ‘savings and investment’ products.58
But others note that investment products such as muḍārabah and mušārakah
can be used in ṣukūk and in other structured products in ways that are not
Sharīʿah-based, or perhaps not even Sharīʿah-compliant. This objection was
at the heart of the 2007-2008 AAOIFI ṣukūk furore,59 triggered when Sheikh
Muhammad Taqi Usmani allegedly estimated that around 85% of ṣukūk are
structured in an un-Islamic manner. Following the same line of reasoning,
many people insist that truly Sharīʿah-based ṣukūk must be asset-backed as op-
posed to asset-based: that is, they must not guarantee pre-determined returns
and they must provide investors with recourse to the real underlying assets in
the event of default.

3.3.2 Protection of the Poor or Unfortunate

Another welfarist definition of Sharīʿah-based finance is that it should
serve the interests of the poor or unfortunate. This sometimes involves ex-
plicit calls for banks to serve the neediest social strata, even if they may not
be as profitable as the wealthiest. Asyraf Wajdi Dusuki makes such a call,

56  Nik Ramlah Mahmood has expressed this position succinctly, linking the ‘shariah-based
approach’ to ‘greater innovation of investment products that are structured based on
more equitable risk-sharing arrangements’, supra note 48.
57  R. Wilson, The Development of Islamic Finance in the GCC (London: London School of
Economics, 2009), p. 15.
58  Khan, supra note 23 at 5.
59  O. Agha, ‘Islamic Finance: Principle before Profit’, Berkeley Journal of Middle Eastern
& Islamic Law 2 (2009): 125-135; S.R. Anderson, ‘Forthcoming Changes in the Shari’ah
Compliance Regime for Islamic Finance’, Yale Journal of International Law 35 (2010): 237-
243; B. Maurer, ‘Form versus Substance: AAOIFI Projects and Islamic Fundamentals in
the Case of Sukuk’, Journal of Islamic Accounting and Business Research 1(1) (2010): 32-
41; M.J.T. McMillen, ‘Asset Securitization Sukuk and Islamic Capital Markets: Structural
Issues in These Formative Years’, Wisconsin International Law Journal 25(4) (2007): 703-
772; L. Rethel, ‘Whose Legitimacy? Islamic Finance and the Global Financial Order’,
Review of International Political Economy 18(1) (2011): 75-98; O. Salah, ‘Islamic Finance: The
Impact of the AAOIFI Resolution on Equity-Based Sukuk Structures’, Law and Financial
Markets Review 4(5) (2010): 507-517; M.T. Usmani, ‘Sukuk and Their Contemporary
Applications’ (Manama, Bahrain: Accounting and Auditing Organization for Islamic
Financial Institutions Shariah Council, 2007).

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Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 21

combining a welfarist definition of Sharīʿah-based finance as serving the

poor with an authenticity-oriented definition that refers back to the mis-
sion of early Islamic financial institutions like the Mit Ghamr Savings Bank
of the 1960s:

The institution such as Mit Ghamr in Egypt had focused on econom-

ic development, poverty alleviation and fostering a culture of thrift
among poor Muslims. However, with the passage of time, the orienta-
tion of Islamic banking and finance has somehow dominated by profit-
maximisation doctrine […] As a result, most of the financial engineered
instruments are designed favorably catering the needs of the well-off cli-
ents while the poor left unbankable [sic]. […] Perhaps this phenomenon
does not reflect the raison d’être of Islamic banking, which is supposed to
be a Shariah-based institution.60

A similar notion is that Sharīʿah-based finance must protect the interests of

customers who fall onto hard times, even if this conflicts with the Islamic fi-
nancial institution’s profit motive. When asked what Sharīʿah-based finance
means to him, one internationally prominent practitioner of Islamic finance
said this:

[Say a] tenant [who has an Islamic mortgage] can’t make the mortgage
payments because of health issues of the breadwinner, or because of
some unexpected payments that come up […] If Islamic finance is about
[being] equitable and [giving] the debtor time when [he’s] having diffi-
culties, because Allah says in the Qurʾān that ‘the benefit is much greater
than what you think’, then the Islamic bank should give this debtor some
time to recover […] without tacking [extra charges].61

3.3.3 Welfarist Business Operations

Yet another welfarist definition draws the line between Sharīʿah-compliant
and Sharīʿah-based not at the level of transaction structure or policies with
regard to customers, but rather at the level of the Islamic financial institution’s
business operations. This view is not yet common in industry discourse, ap-
pearing only occasionally in basic form.62 If elaborated further, it could define

60  A.W. Dusuki, ‘Banking for the Poor: The Role of Islamic Banking in Microfinance
Initiatives’, Humanomics 24(1) (2008): 49-66: 55.
61  Interview with author, 2013. Interviewee preferred to remain anonymous.
62  Schoon, supra note 39 at 10.

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22 Calder

a Sharīʿah-based financial institution as one that maintains high labour stan-

dards for all of its workers, from the CEO to every member of the contracted
service staff; high environmental standards concerning energy use, carbon
footprint, and recycling; targets for corporate charitable donations beyond
zakat; and so on. This definition could be similar to common definitions of
corporate social responsibility, and is gaining traction among those who seek
to bridge Islamic finance with the ‘green finance’ sector, such as Zeti Akhtar
Aziz, former governor of Malaysia’s central bank.63

4 Conclusion

Studying the evolution of terms like Sharīʿah-based and Sharīʿah-compliant is

more than an invitation to semantic promenade. It reveals much about the
history and trajectory of Islamic finance.
This article has argued that the term ‘Sharīʿah-compliant’ emerged in the
1990s. It allowed Islamic finance institutions to move beyond scandals of the
1980s, presenting Islamic finance anew as a highly formalised and technically
rational project based on Sharīʿah expertise. The new vocabulary was designed
to instil confidence in both consumers and industry insiders. Moreover, since
so many of those consumers and industry insiders were accustomed to the
formal rationality and technical sophistication of the booming conventional-
finance industry, burnishing Islamic finance’s technical credentials by stressing
compliance was particularly important. Later, in the first decade of the 2000s,
the term ‘Sharīʿah-based’ came into use. It signalled a shift in the vision and
self-image of Islamic finance: a turn away from the utopian vision of the 1960s
and 1970s, rooted in using PLS to build a separate Islamic economy, and instead
toward the more pragmatic but still ambitious notion that Islamic finance can
‘put the brakes’ on the worst excesses of finance. The shift from the PLS-based
vision to the Sharīʿah-based vision is still in process today.
This shift away from the vision of system-wide PLS and toward the
Sharīʿah-based vision is happening for two reasons. On one hand, the possibil-
ity of system-wide PLS is looking increasingly distant in a world where it is vir-
tually impossible to imagine life without debt. Because such a large proportion

63  A.A. Zeti, I. Azleena, and S. Yousuf, Responsible Finance—Ethical and Islamic Finance:
Meeting the Global Agenda (London: Responsible Finance & Investment (RFI) Foundation,
2019).

Arab Law Quarterly 34 (2020) 1-24

Sharī ʿ ah-compliant or Sharī ʿ ah-based ? 23

of the people who work in Islamic finance today have professional and intel-
lectual backgrounds in conventional finance, and because the conventional
financial system is so entrenched in business practice, regulatory infrastruc-
tures, and human minds, it has become very hard to envision a financial revo-
lution that completely uproots debt-based banking and replaces it whole cloth
with trading and investment. The vision of system-wide PLS—a beautiful con-
cept, to be sure—looks more and more like a mirage. On the other hand, the
shift toward the Sharīʿah-based vision is happening because the imperative of
developing pragmatic solutions to conventional finance’s ills is pressing. Each
year, newspapers bring word of new bank failures, market instabilities, curren-
cy crises, accounting scandals, and financial doomsday scenarios. The global
financial system is showing signs of chronic illness. Proponents of Islamic fi-
nance feel it must seize the moment, presenting concrete and viable solutions,
not utopian ones like system-wide PLS.
The three principles behind calls for Sharīʿah-based finance will often
complement one another, but they will sometimes conflict with one another.
In an ideal Sharīʿah-based world, all Islamic financial instruments and ven-
tures would meet all three types of conditions: separation from conventional
finance, authenticity, and an orientation toward welfare. But in reality, some
Islamic financial arrangements will meet some of the conditions but contra-
vene others. Here are some examples:

(1) Socially responsible equity fund: Consider a socially responsible eq-

uity fund that invests in emerging Islamic economies. It is offered by a
conventional asset manager that has no Sharīʿah board and no Islamic
branding. The asset manager does not separate its Sharīʿah-compliant
funds and returns from conventional ones. However, the fund provides
equity capital to community-based start-ups that sorely need it. The fund
also happens to avoid ḥarām sectors (e.g., pork, alcohol, entertainment,
tobacco). In sum, the fund fails some tests of separation, yet it promotes
the welfare of Muslims. As for authenticity, it takes a relatively traditional
approach to investment in line with the muḍārabah model, but it does
not explicitly use a muḍārabah contract. Is it Sharīʿah-based?

(2) Salam-based futures market: Consider a platform for trading com-

modities futures that relies on salam and parallel salam. Some would
argue that this is an authentic use of salam, while others would say it is
not. Likewise, commodities-futures trading can promote welfare – such
as when farmers use it as a hedging tool to stabilise the prices of their

Arab Law Quarterly 34 (2020) 1-24

 24 Calder

inputs and outputs.64 Yet, anyone could also use the platform for specula-
tion (maysir). Is the platform Sharīʿah-based?

(3) Murābaḥah financing on luxury cars: Consider an auto financing ar-

ranged in a scrupulously ‘Islamic’ way: the Islamic bank acts as a trader,
taking physical possession of the car and acquiring legal title before sell-
ing it on to the customer. The Islamic bank also takes real responsibility
for damage in transit and for the risk that the customer changes her mind
and decides not to buy the car during the period that the bank owns it.
This is a very ‘authentic’ use of murābaḥah. Moreover, the product’s profit
rate is not based on LIBOR, but on a rate associated with average trading
profits in the car industry. This satisfies one of the ‘separation’ criteria.
However, the car being financed is a high-end luxury car costing $200,000.
The bank performs an ordinary credit check, which the customer passes,
but makes no other effort to understand why the customer needs financ-
ing. Is this murābaḥah Sharīʿah-based? Many would say that it is. But
Humayon Dar notes that while Sharīʿah does not prohibit Muslims from
buying expensive luxury items, buying them ‘on credit is certainly against
the spirit of Sharīʿah’.65 If the customer is resorting to credit, such pricey
items may well be beyond his means in the first place. According to this
reasoning, even an impeccably structured murābaḥah financing could
fail to be Sharīʿah-based.

It is not difficult to think of more examples.

In the final analysis, discussions about Sharīʿah-compliant finance and
Sharīʿah-based finance are debates about what makes Islamic finance Islamic.
It is no exaggeration, therefore, to say that they are debates about the meaning
of Islam.

64  M.H. Kamali, ‘Commodity Futures: An Islamic Legal Analysis’, Thunderbird International
Business Review 49(3) (2007): 309-339.
65  H. Dar, ‘Some Are Deemed More Islamic than Others’, The Brunei Times (26 March 2009).

Arab Law Quarterly 34 (2020) 1-24

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