Money in Islam

Masudul A. Choudhury

• Publisher: Routledge
• Year: 2005
• ISBN:
  9781134714452
• Edition: 1
• Topic: Negocios y empresa
• Subtopic: Negocios en general

This volume takes a unique and challenging look at how money has operated in Islamic society and at how Islamic theoretical frameworks have influenced perceptions of money.
The author draws upon historical, data and policy analysis to present a comparative study of monetary theories, including recent treatment of money by Islamic economists. Discussion also covers the nature of joint venture, stock markets, banks and financial intermediaries, price stability and international trade. This work sheds pioneering light in this area, and will be of interest to academics, graduates and researchers internationally.

1

THE ISLAMIC EPISTEMOLOGICAL FOUNDATIONS OF A THEORY OF MONEY, ORGANIZATION AND MARKETS

Comparative perspectives

The history of economic thought shows that money, organizations and markets were always tied to moral and ethical issues of society. We will undertake a comparative study of this epistemological background relating to money and economic activity, and then expound the central thesis of this chapter. This will be to formulate epistemological problems that underlie the methodology of Islamic political economy in general and how to show these apply to money, organizations and markets in particular.

A COMPARATIVE HISTORY OF MONEY AND ECONOMIC ACTIVITY

David Home, Irving Fisher, Major Douglas and Jacques Maritain on money

When David Hume and Irving Fisher conceptualized their quantity theory of money, they had in mind the relationship between prices and money supply (Hume 1752, Fisher 1930). If the quantity of money was in excess of its need in economic transactions, its velocity of circulation through the real goods sector lessened. This caused an inflation in prices by the excess amount of money that did not enter market exchange to enhance the velocity of money circulation. Hume voiced his concern against the bullions theory of money by stating that the mercantilist idea of buying cheap and selling expensive metals in the world economy during the colonial days of the British empire, would result in the export of money in the form of its embodiment in expensive metals, bullions. In modern parlance of the balance of payments, such an export of monetary resources causes worsening of the capital accounts balances, whereas a depreciation of the exchange rate would now cause both interest rate and inflation rate to increase. It was argued that although the volume of savings following higher interest rates might meet the investment needs of an economy, its export on the other hand, in the form of capital and precious metals, will cause a dilution of savings away from real sector investments.

Irving Fisher and Major Douglas

Irving Fisher wrote about the social credit nature of money. Money according to Fisher was a contravention to value ‘leal’ goods and services involved in market exchange. Hence, money as a contravention to assign value of exchange transactions carried a social meaning in proportion to the volume of its supply. To Fisher as to Douglas, social credit theory of money was tantamount to a 100 per cent reserve requirement (Douglas 1924). According to this doctrine, commercial banks were not empowered to create money of their own through the issuance of promissory notes and ‘excess reserves’. All money created by the central bank was in strict accordance with the requirements of ‘leal’ spending. In such a case of money supply, the use of money in exchange transactions becomes one of monetization and not of holding. The holding of money as cash balances fuels the venturism of speculators, who would like to hedge between the holding of interestdenominated savings and bonds. In Fisher and Douglas’s social credit theory of money, only long business cycles cause fraud and distortionary expectations. This results in an excess creation of money creeping into economic activity. In such a long-run view, the 100 per cent reserve requirement finally gives way to an unethical use of money for purposes of speculation and of holding as a liquid asset.

A case has been made to point out that only if the 100 per cent reserve requirement, and hence the gold standard, are abandoned, then would it become possible for owners of money capital to usurize the economy. Usurious use of money causes widespread economic inequity and social evils. The holding of money in the presence of usury is shown to generate excess accumulation of wealth, but causes extensive social deprivation (Doak 1988).

Jacques Maritain

In the area of money and usury, it is interesting to observe the ethical ideas of Jacques Maritain (Haines 1987). Maritain promoted the idea of token money to replace currency money, and he argued that if the state supplied an inordinate amount of such tokens, the price of goods would rise to an extent that will logically push out such expensive goods from demand. In such a case, the value of tokens supplied would turn out to be zero by the sheer force of market transactions. Hence in such a state of its worthlessness, Maritain saw that the existence of interest rates as the price for token money would also become non-existent. Maritain saw in interest rates the root cause of all evils. He wanted to banish interest rates from the economy by making the economy moneyless, that is, moneyless in the sense of basing market transactions not on metals but simply on tokens created in inordinate amounts by the state for the needs of its citizens.

KEYNES ON THE MONEY MOTIVE

The debate surrounding the motive for holding money was deeply entrenched in Keynes’s epistemological foundations of socio-economic theory. Keynes (1930) said in a famous passage, ‘The love of money as a possession -as distinguished from the love of money as a means to the enjoyment and realities of life -will be recognized for what it is, a somewhat disgusting morbidity, one of those semi-criminal, semi-pathological propensities which one hands over with a shudder to the specialists in mental disease.’

Where does this money motive that is based on avarice and greed, arise? The holding of money as cash balances may be fuelled by the animal spirit for speculative gains. In such a case, the money motive can be argued to arise when it is possible for the speculative venturist to extract from the economy by speculation and distortionary valuation of real things, a rent that gets monetized by the rate of interest or usury. Interest on money then becomes a wasteful and socially repugnant excess that values such things that do not objectively exist, but are only subjectively possible. Hence speculation is priced by individualistic perceptions of costs imputed to subjective events. Institutions such as the central bank and financial intermediaries take account of such subjective costs in their clientele. The subjective preference of monetary utilitarianism is thus passed on to the macroeconomic level. Interest rate now gets entrenched as an extensive subjective pricing through the actions of financial institutions in response to subjective preferences and costs imputed to the holding of cash balances in speculative outlets. Thus the money motive fuels not the social purpose but the avaricious consequences of holding on to money as liquid assets.

Keynes argued that price stability in a national economy within the global order was possible, only if all nations were induced to agree on a grand contravention of monetary discipline that would be based on strict convertibility in terms of gold. Keynes recommended a return to the gold standard only if such a global discipline of gold convertibility could be possible. But, on the other hand, the presence of the avaricious motive to hold money for gaining speculative rents, caused world price levels to remain volatile. The accompanying random fluctuations helped speculation to gain high ground. With such speculative motives to hold money came about the printing of paper money emerged as promissory notes, the IOUS.

MONETARISM VS KEYNESIANISM ON MONEY

In recent times, we find the moral and ethical relevance of money to once again become a debate of large proportions (Chick 1985). The rise of monetarism as an exercise on restrictive money supply pressuring interest rates upwards, helps to sustain a rentiership on the basis of credits. The direct relationship between credit and interest payments was thus embraced by the world financial system to give credence to the shift in economic activities from industry to financial institutions. With such shifts and with the growing independence of large commercial banks from national monetary controls, the culture of monetarism has come to enable usurious activities to entrench themselves world wide. The social function of money in relation to objective exchange is lost (Bhaduri and Steindl 1985).

Keynesianism is at loggerheads with monetarism (Friedman 1983). In Keynesian analysis, the ethical relevance of the full-employment level of economic activity in Keynes’s general equilibrium system, causes governments to create money to fuel transaction money demand. As long as transactions demand is fully satisfied by the amount of money supply, the money creation is found to be non-inflationary by Keynes. In the textbooks this is implied by the existence of an elastic aggregate supply curve and the corresponding LM curve at the level of interest rate corresponding with liquidity trap. Thus Keynes found interest rate a most unsocial creation of man.

The ethical relevance of money under the Keynesian-monetarist debate hinges on the nature of transactions demand for money. The question to ask is, what does money monetize? If speculation, understood here as subjective pricing of activities without adequate real feasibility for the delivery of output, is included in the demand function of goods, then money will always evaluate such subjective demand expectations. Whereas, as long as the demand function for money is limited to the transactions demand, then only real goods with objective feasibility will be priced out in the market exchange for such goods. Speculation cannot thereby coexist with the transactions demand for money.

Keynes’s moral compunction surrounding the social purpose for rejecting interest rate could not however be sustained in the general equilibrium analysis. Interest rate was forced into the total money demand function even though it may exist in the limiting case of its liquidity trap, a minimal level of interest rate set by the central bank.

In the monetarist perspective, however, the money supply curve becomes steeply elastic across all levels of interest rates. The socio-economic consequences of such elastic supply curves of money can be noted: while monetary and fiscal expansions are now promoted in the Keynesian system to attain the moral goal of full employment, in monetarism on the other hand, a point of full-employment level of output is found to be sensitive to economic expectations. Thereby, according to the monetarist view, the Keynesian fullemployment point remains subject to permanent inflationary pressures. Consequently, monetarists argue that the shifting full-employment points according ...

Table of contents

• Cover
• MONEY IN ISLAM
• ROUTLEDGE INTERNATIONAL STUDIES IN MONEY AND BANKING
• Full Title
• Copyright
• Dedication
• Contents
• List of figures
• List of tables
• Foreword
• Acknowledgements
• Introduction
• 1 THE ISLAMIC EPISTEMOLOGICAL FOUNDATIONS OF A THEORY OF MONEY, ORGANIZATION AND MARKETS: COMPARATIVE PERSPECTIVES
• 2 THE THEORY OF ENDOGENOUS MONEY IN COMPARATIVE ISLAMIC PERSPECTIVES
• 3 HISTORY OF ENDOGENOUS MONEY IN ISLAM
• 4 JOINT VENTURE AS A PRINCIPAL ISLAMIC FINANCIAL INSTRUMENT
• 5 A GENERALIZED THEORY OF ISLAMIC DEVELOPMENT FINANCING IN THE LIGHT OF ENDOGENOUS MONETARY THEORY
• 6 A MODEL OF THE STOCK MARKET WITH EXTENSIVE INTERACTIONS: IMPLICATIONS OF THE SHURATIC PROCESS
• 7 MONEY AND ISLAMIC FINANCIAL INSTITUTIONS IN A GENERAL EQUILIBRIUM SYSTEM OF ISLAMIC POLITICAL ECONOMY
• 8 EXTERNAL SECTOR MULTIPLIER RELATIONS OF ENDOGENOUS MONEY
• 9 A GENERAL EQUILIBRIUM TREATMENT OF MONEY, FINANCE AND TRADE: MUSLIM COUNTRIES AND CAPITALIST GLOBALIZATION
• 10 A GENERAL EQUILIBRIUM TREATMENT OF MONEY, FINANCE AND TRADE: ISLAMIC POLITICAL ECONOMY AND GLOBALIZATION
• Glossary of essential Arabic terms
• Index