Economy — 08 March 2013
The Economic Growth Imperative within Capitalism and the Islamic Viewpoint (Part 3)

This paper earned the Award for Best Paper at Sharia Economics Conference 2013 , authored by Jamal Harwood and Sarfraz Wali. You can find Sarfraz Wali’s blog at

This is Part 3 of the paper Part 1 can be found Here or Part 2 can be found Here

Section 5: Islam’s vision regarding Growth

Measurement of the economy in Islam is not driven by empirical measures such as growth, rather the purpose of the economy is to meet certain inalienable rights (including food, shelter and clothing) and enabling individuals and companies to flourish within a comprehensive and stable regulatory environment according to the Shariah law. Muslims have an obligation to implement Shariah law within the Islamic state and an examination of the Shariah with respect to economy indicates factors highlighting its suitability in engendering growth, although growth is not the objective of the Shariah.

With debt and off balance sheet liabilities spiraling out of control in western economies (4), a return to growth is seen as essential, not only to generate tax revenues to pay back loans, but also to restore growth in employment. But, with the economy so beholden to the finance industry – whether via expensive bailouts or protective legislation – and with the banks sitting on cash to bolster their weakened balance sheets, there is a significant drain on the economy (5). The only solution put forward has been a toxic mix of money printing and austerity. There is another way. To encourage public investment back on track requires an environment in which spending and investment is encouraged. Islam tackles this in two ways. Firstly, by removing all interest based investments, and coupling that with laws preventing the hoarding of wealth/money, society will naturally seek returns on capital via business investment. Consequently, the Islamic company investment market in an Islamic state is very vibrant and participants share in risks and rewards with investment dependent upon actual participation in the company rather than anonymous “trading” in/out as espoused by western markets. A second key element is the taxation system which taxes heavily un-invested capital, providing another incentive for full investment.

Core characteristics of the economy within the Islamic State includes a stable currency based on gold and silver bullion, no interest allowed on any transaction, prohibiting the hoarding of wealth coupled with wealth based taxation and equity/partnership rather than debt based financing.

Of great importance is circulation of wealth amongst all in society, with incentives for investment and strong dis-incentives for hoarding maintaining the momentum and velocity of the economy.

“In case it (wealth) circulates solely among the wealthy from amongst you.” [Translation of the meaning the Quran surah Al-Hashr, 59:7]

Section 6  Strategic Growth Advantages of the Shariah

12 distinguishing characteristics of Islam with respect to growth:

1) Gold/Silver based currency

The currency is fully administered and managed by the State treasury (Beit al Mal). The state is obliged to back 100% any issued currency notes (with physical gold and silver) – no fractional banking is tolerated by Shariah and gold/silver reserves are fully open to public audit. As a consequence fractional reserve banking is not allowed within the state and no growth of money (open market money creation) via banking groups or the state is tolerated. Money is treated as a medium of exchange and consequently is not a monetary tool for banking interests. With monetary supply dependent upon wealth within the state, currency induced inflation is minimal and cannot reach levels seen during the 1970’s for example when the US took the world unilaterally away from the gold standard in 1971. Historically the level of inflation and deflation under the gold standard was low and within a 2% variation (not more than 2% inflation or deflation) (6)

Maintaining currency stability and the absence of high levels of inflation is a key requirement for business (7). The volatility of fiat/paper based currencies, particularly where governments engage in aggressive monetary easing due to excessive spending runs directly against the needs of business.

Inflation from the viewpoint of price instability, is harmful as business proprietors cannot calculate prices and hence do not undertake investment given uncertainty towards costs, sale prices and profitability. Under the gold standard, prices are more stable over the long term leading to a more stable environment for investment decision making. Businesses struggle to plan and gain investment within high inflation environments.

The passing of power to central banks to enable manipulation of the money supply in recessionary times risks uncontrollable inflation. The recessionary business cycle in which a fiat currency/fractional reserve banking environment is a factor through inflation risk, adds to business uncertainty and can delay the growth cycle (8).

Lastly gold and silver is the ultimate currency and physical gold and silver (not paper based investment products) have no counterparty risk.

2) Non Interest Economy

Islam forbids all usurious (interest) based transactions.

“Whereas Allah has permitted trade but forbidden usury (interest)” [TMQ Al-Baqarah 2:275]

The provision of interest across most financial transactions acts as a form of taxation, it is an additional cost and consequently is a drag on profitability, investment and growth. Rather than equity/partnership based investment the interest/debt model popular in western economies has meant that banks and finance providers can not only create money from nothing (fractional reserve banking) but can charge interest (expense). Furthermore via collateral lending, lenders can guarantee virtually risk free returns via the requirement for valued assets to be put up as collateral against non payment of principal and interest.

As all fiat money exists as debt, then the need for interest payments on debt necessitates an ever increasing expansion of the money supply to keep the system afloat. This drives a corresponding increase in the growth in the production of goods to avoid hyperinflation resulting from too much money in relation to goods. In the ten years prior to the financial crisis of 2008 over 100 Trillion dollars of money (debt) was created (9), the deleveraging of this debt is continuing to this day and acts as an anchor against economic recovery and growth.

The enabling of banks to set interest rates and then bet on the movement of such rates is manipulative and runs counter to the notion of open markets. The LIBOR (London Interbank Offered Rate) scandal highlighted the damage caused to market confidence and the record levels of fines (10) indicated the seriousness of this damage. Such manipulation of markets is not possible where interest in all forms is forbidden.

Despite steadily decreasing interest rates in the Japanese economy – an indication that policy makers recognise that interest is injurious to growth – growth has been been elusive over the past 20 years (8). Current attempts by the US and other central banks (for example the UK) to steadily reduce interest rates to generate growth through lowering the costs of borrowing clearly show that interest is costly to the economy. It is strange that governments now are close to a zero interest rate policy – given to some banks – whereas a zero interest rate policy for all borrowers is not adopted.

Having brought significant numbers of investors into government bond markets who depend upon interest to provide investment returns including significant pension assets, those investors are now suffering with tiny returns as interest rates have been reduced to close to zero for government bonds (and are less than inflation – negative real rates). Current typical asset allocation for pension funds is 40% invested in interest bearing securities (11). Gillian Tett, deputy editor of the Financial Times called this “financial repression” against these bondholders (28 Jan 2013 Newsnight, BBC). If the whole system was based upon equity/partnership returns rather than interest as advocated by Islam, then the consistency of investment approach would provide greater certainty and stability based on business profitability rather than variable interest rate returns.

3) No hoarding of wealth

A key element of financial management in Islam is the requirement that wealth is not hoarded.

“And those who hoard gold and silver and do not spend them in the Path of Allah then announce to them a painful torment” [TMQ 9:34]

With interest based economies and the associated bust and boom cycle means, wealth is alternately readily available for investment in times of growth and withdrawn from investment in recessionary times.

A consistent environment for growth in the economy requires a consistent flow of wealth into the economy for investment. The interest based banking system is dominated by banks which provide liquidity when it suits them and withdraw capital when deleveraging as in the current cycle. When felt not to be profitable banks will not lend money and this forms obstacles to the circulation of wealth and a return to growth in the economy (12).

Furthermore, taking money out of circulation leads to a heavy taxation penalty upon the perpetrator.

4) Taxation policy

Islam maintains a wealth and productive capacity of the land based taxation system which encourages full investment and a rapid circulation of wealth.

The plethora of taxes imposed on the public in western economies is a great oppression. Islam has a simplified approach, which is predominantly based on wealth as opposed to income tax. By focusing upon accumulated wealth which is not invested (Zakat at 2.5% per annum), taxes on the productive capacity of the land (Kharaj) and head taxes (Jizya) for those who can afford them, the State is encouraging work/enterprise and investment, and discouraging the withdrawal of wealth from circulation, exactly the conditions which bank/debt dominated western economies are suffering most from. Inevitably, the consequence is a smaller footprint for the state which coincides with the general perception that governments in the western world have taken on too much responsibility (and high budget deficits) and are stifling recovery with ever higher taxes—taxes which fall unevenly on the poorer via income and consumption taxes.

With little or no disincentive from taking wealth out of circulation, banks, large corporations, and wealthy individuals will hold onto wealth and perpetuate the dis-investment cycle. Contraction in business, fewer jobs and further declines in government taxes results.

5) Equity/Partnership rather than debt based financing

Capital markets in the Islamic state are dominated by partnership and company formation in which the key features are: offer and acceptance, defined profit and loss sharing between investors/partners, a specific corporate body (not anonymous share ownership), and no limited liability. Additionally there is no organised share trading market (stock market), as transfer of ownership must be agreed between owners on a case by case basis. As a consequence the ownership and management of companies is tightly controlled and all partners/investors have specific responsibilities rather than the often anonymous and opaque ownership structures in western markets (13).

Whilst large companies can form under Islamic company governance rules, most of the largest projects including management of public resources such as oil, gas, water and electricity are administered by the state. With no corporation tax or business taxes and only zakat payable on certain of the business inventories (including livestock) there is no little incentive for business formation and growth. The requirement for all partners/owners to agree in the formation, objectives, profit disposition and other major decision making ensures direct accountability and closer association with the running of business, rather than that detached ownership model driven in the secular stock markets, where employees (company Directors) can take decision largely separate from day to day review and the active oversight of shareholders.

6) Absence of limited liability

Leading to more measured risk taking.

A necessary requirement for all company formations in Islam is the existence of partners/owners who take full responsibility for all transactions/contracts entered into. Losses are apportioned to partners/owners in the proportion of capital invested in the business. This contrasts with the excessive risk and borrowing approach adopted by the large Wall Street banks. Large Wall Street banks who regarded themselves as ‘too big to fail’ i.e. operated with the knowledge that their liabilities would be covered by the taxpayer in order to avoid systemic collapse. At the height of the financial crisis large US banks balance sheets were more than 40 times levered (14). Shareholders are not technically responsible for all commitments of these companies with limited liability.

The consequent bailouts of these banks have placed immense burdens upon taxpayers and the economies of these western countries. Bailouts in the UK alone have amounted to more than £1.2 Trillion greater than the size of UK yearly output (15). Under Shariah the State and its leaders are not authorised to bailout any failed companies.

7) Gambling is prohibited

No Derivative or virtual economy leading to massive volatility in financial markets and which have spilled over into the real economy. Much of the need for many of the financial products that act as insurance to the volatility of the current economic approach is negated as the same degree of uncertainty does not exist with the Islamic economy.

The role of Goldman Sachs in the problems of Greece is adequate to demonstrate how such manipulation is possible through the use of these complex financial instruments that often beat the ability of regulators to understand in time. (16)

Gambling and derivative contracts also add nothing to the economy but heightened counterparty risk. As winning and losing bets are between respective parties it is often felt that the economic impact is neutral, however the counterparty risk of a bank failure, and an attendant domino collapse was highlighted at the time of the collapse of Lehman brothers in 2008. The taking on of risk equal to more than 20 times the size of the world economy owes more to a drive to earn greater fees and earnings rather than a reduction in risk. One commentator likened the market to a 40 pound flea on the back of a 4 pound dog, with the dog now dying. (17)

8) No intellectual property rights

Rapid technological innovation with improved distribution.

It is argued that intellectual property i.e. patent protection is vital to create entrepreneurial drive, as without knowledge protection, there is insignificant incentive to develop innovative productive science. In Islam knowledge is purchased along with the purchase of the good or service as far as this knowledge can be obtained. This means that many firms can develop on existing knowledge and bring the new innovations to market quickly, leading to rapid increments to innovation. This approach negates some of the limitations in development of commercial projects on the same scale as the capitalist PLC companies. (18)

9)  Flexible labour markets where wages are able to adjust to deflationary environments

Efficient markets due to sound concepts of value and Rizq (God given provision)

A significant factor in explaining why recessions occur is due to market pricing failure. Employers do not drop wages and salaries to levels necessary to ensure that they can keep their existing staff employed. Instead they prefer to preserve fewer staff at current wage levels. However this increases unemployment and is very damaging for the wider macroeconomic environment due to a decrease in aggregate demand at current price levels.

The reason why dropping prices or deflation is considered a great evil under Capitalism is due to unique factors which do not exist in Islam. Firstly, monetary policy becomes ineffective during deflationary times as banks would need to pay interest on the loans they issue to incentivise borrowers to borrow money, which means borrowing declines and monetary policy becomes ineffective. Secondly, existing debtors are penalised in deflationary environments as the value of their debts increase in real terms. This reality also does not exist in Islam as borrowing is not the norm instead equity investment is the prevalent mode of finance.

Money illusion is additionally a key reason why workers are averse to pay cuts despite their not being any worse off in real terms as lower wages in an environment where prices are falling does not equate with a lower standard of living. In this regard, the Capitalist theorists failed to capture the real essence of the meaning of value as far as separating it from money as a gauge and this has led to a disconnect from seeing value, in this case the value of wages, away from the prism of the nominal amount and hence this irrational attachment to the nominal amount of wages and salaries being the paramount consideration in wage negotiation. Furthermore the fear of monetary inflation is never far from the fear of deflation and this further de-incentivises workers from accepting pay cuts.

As these factors do not exist in the Islamic model, there is no reason to suspect that workers will be averse to having flexibility in wage negotiation and hence offers a much more versatile and robust feature to the economy.

10) Land reform

The Quran stresses:

“In order that it does not make a circuit between the wealthy” [TMQ Hashr 59:7]

The aggregation of vast land tracts into the hands of a few has led to widespread poverty amongst the masses. In the US, 15% of the population now depends upon food stamps for basic food needs. Land ownership in one of the largest and most fertile countries in the world is but a dream for most, as it sadly is in most of the Muslim world, as Islamic law is not currently applied. Shariah law in this regard is very dynamic and enables widespread ownership amongst the many. If land is not utilised for a period of 3 years, it reverts to the State and will be re-allocated to those that will use it. Any member of the public can claim dead or unused lands, and leasing of lands by those that cannot utilise it directly is forbidden. This coupled with strict restrictions against any form of price fixing translates into dynamic land utilisation and far wider participation in the core wealth of the land.

11) Ethical trade and trader rights

In Islam, there are numerous rules and provisions which ensure traders feel confident that either contracting party will not be subjected to any form of exploitation and in the event that this has happened, to have fair and decisive redress in the form of annulling of the contract. Therefore market failure due to knowledge asymmetries is not a reality in Islam.

Furthermore the Prophet said as narrated from Muhammad ibn Yahya ibn Hibban:

“If you purchased say there is no deception, then in every commodity you purchased you have the choice after three nights to accept (the commodity) and thus hold it or to return it back to its owner.”

This is conditional of their having been ignorance on the part of the buyer or seller as to the market price and the deviation from the market price being excessive. Under such an environment, traders will be more forthcoming to trade, knowing that a fair mechanism to seek redress exists. Trade can be expected to flourish under such a business friendly environment. This is just one example of the rules, further examples of the business friendly principles can be found on page 22 of ‘Economic Thought of Al-Ghazali’ by S. Mohammad Ghazanfar and Abdul Azim Islahi.

12) Regulatory framework In Islam

Regulation in Islam aims to foster a safe and productive environment where wealth that is generated can be more equitably distributed than the current Capitalist economy. It is not a means of creating entry barriers for small business or allowing favours to be granted by the political structure in response to lobbying and other underhand means.

One may argue that the goals of regulation, namely to curtail open trade, are inherently in conflict with the goals of traders who are profit seekers and as such they will always have a limited ability to achieve their desired aims. In Islam, as wealth procurement is not the ultimate aim in life, as is earning the pleasure of Allah, such frictions have no reality as both the wealth and the means to obtain it lie firmly under the domain of the individuals desire to adhere to the Shariah rules which manifest this goal in life.

As far as the second concern highlighted above, there is no possibility of lobbyists creating a biased agenda for regulation to protect the few dominant players as the rules are clearly defined by the Shariah rules. Furthermore many rules are aimed at aiding traders to enter markets to create a healthy competitive environment for sustainable growth unlike the regulations which penalise small businesses and lead to substantial barriers for entry. (19)


There is a growth imperative within the capitalist solution and this permeates all mainstream Capitalist schools of thought. This growth imperative is leading to an implosion of the current system given the finite and rapidly diminishing resources of the world, which are to be used to try and meet the demands of compounding interest and ballooning derivatives gambling. The world is ready for an alternative root and branch vision based on the unique solution offered by the Islamic alternative and it is the aim of this document to start laying the framework for the debate so that one can enter it with effectiveness.

This alternative will show how the economy should function and grow through sustainable practices so as to attain a more equitable distribution of wealth. It will offer an approach with the correct balance of savings, investment and consumption to achieve real wealth for all. The Islamic economy is not founded upon forced re-distribution of wealth in efforts to drive some form of equality, nor completely un-regulated markets where strong corporate interests can dominate the economy. The Islamic economy focuses upon a clear and consistent set of rules which are consistently applied across society. The emphasis is upon ensuring ownership of land far and wide and low tax to encourage spending and investment. The results throughout history of the Islamic State (Caliphate) has been one of widespread circulation of wealth to ensure all can benefit from it, rather than a divisive accumulation of wealth in the hands of the few.

See Also

The Economic Growth Imperative within Capitalism and the Islamic Viewpoint (Part 1)

The Economic Growth Imperative within Capitalism and the Islamic Viewpoint (Part 2)






gdp-balance sheet



(6)     (pages 9 and 10)

(7)    The Inflation Tax in a Real Business Cycle Model, Cooley and Hansen

(8)    Are we the next Japan?

(9)    ATCA, Asymmetric Threats Contingency Alliance




(13) The Economic System in Islam, Taqiuddin an-Nabhani, Sixth Edition, 2008







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