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How is the profit in a Murabaha different from the interest on a conventional loan? |
The main difference between the profit on a Murabaha, paid back in installments along with the cost, and interest on a conventional loan paid back in installments along with the principal, is that in a cash-for-cash transaction, there is no asset involved. Involving an asset may appear merely academic, but there are less obvious benefits.
First, and arguably foremost, there is no increasing of the repayable amount. In a Murabaha, the seller may, at most, charge a permissible fixed late payment penalty (payable to a charity fund), but may not keep increasing the repayable amount at some interest rate. For instance, a $10,000 cost on an asset, with a $1,000 profit, remains $11,000; whereas a $10,000 loan with a 10% interest rate can quickly double if left unpaid.
Second, the existence of an asset ensures that wealth does not inflate beyond the immediate transaction. One hundred Murabaha transactions still requires 100 assets; 100 interest-based loans, on the other hand, might finance 1,000 other loans, which in turn might finance yet more loans, bringing greater volatility and risk to the market. In a crisis situation, those 100 Murabaha transactions are still backed by 100 assets; whereas none of the thousands of interest-based loans are backed by anything except cash; cash which may or may not be there on the repayment date.
It is worth noting that, even though there are material differences between a Murabaha and an interest-based loan, should there be no differences in a single transaction, we still have to look at the impact of many transactions applied to an entire market.
Islamic finance, and indeed Islam, often puts the greater good of society above the particular interests of a single individual or transaction. So when looking at this or any other Islamic finance example, we should ask “If we were to repeat this transaction millions of times around the world, would the impact be the same as a similar-looking conventional transaction?”
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