Profitability of Islamic Bank
Islamic bank was established based on interest-free institution. The objective of this institution is to issue financial facilities by providing financial instruments that comply and in line with the revelations in the Quran and the Hadith. It’s to render socio-economic benefits to the Muslim communities.
The operation of Islamic banks and the conventional banks are totally different. Islamic banks promote profit and loss sharing (PLS) between investors and entrepreneurs. It is guided by the shariah principles. Since the Islamic banks do not charge interest and therefore do not lend money, they have developed some techniques such as murahabah contract, musharakah, and mudharabah to invest money and gain profit.
In conventional banks, the depositors will be informed exactly about the amount of the returns from their deposits while in Islamic banks this information will not be provided. Basically, we can determine it based on assumption and historical fact.
As we know, most of the banks get their major funds from depositor’s money including Islamic banks. The factors that influenced the depositor’s decision making in depositing their money with the Islamic banks need to be determined by the management of Islamic banks clearly. For instance, religion as a factor for the customers to choose the Islamic banks in Bahrain. However, in Turkey and Sudan, a study shows religion is not the main reason for depositor choosing Islamic banks. While in Malaysia and Singapore both religion and profit are the factors.
Another fund Islamic banks are from investment deposit. The investment deposit is usually known as a profit and loss sharing (PLS) account or simply, the investment account. The investment account holders have an opportunity to earn more interesting return although there is also exposed to bear the risk of capital losses.
Islam encourages its followers to invest their money. Muslim economists noticed that both the demand and the supply of investment funds are possible to show an increase consequent to the replacement of conventional interest based system by PLS based system (Ahmad, 2007). It has been pointed out that Islamic banking would be more competent and efficient in allocating resources as contrasted to the conventional interest-based banking. Islamic banks also promote sharing of losses, which decrease the badness of business recession and business able to keep going without shutting down their activities.
It has been pointed out that both the rate of profit applied in Islamic banking system and the rate of interest have a solid relationship with the amount of deposits. The higher the profit rate, the higher the amount of money that will be saved into the account of the banks. The Islamic banks’ management is bound to follow the market rate when declaring the profit rate for their customers. They believe that the attitude of depositors is considered as similar between Islamic and conventional banks.
It is allowed for the Islamic banks to maximize profit for future development of the bank but there is a certain condition that needs to be considered when operating the banks. The element such as riba, gharar, and maysir should not be circulated in Islamic banks operation.
Some modernist argue that extra charges are allowed when they are used for:
1. The motive other than exploiting the weak and poor people of the society by the strong,
2. Loans other than loans that has been practised in pre-Islamic period,
3. Interest-based transaction but not for usurious transaction,
4. Business investment but not for consumption loans,
5. Simple interest but not for compound interest,
6. The lost suffered by the creditor due to inflation, and
7. Institutions, but not for individuals.
As opposed to these views, any predetermined fixed return for the use of money is considered as riba whether it is excessively high or reasonable, is additional to principal borrowed and does not comply with Quran. All form of exploitation and injustice are eliminated by this prohibition.