1. The Islamic Gracious Monetary Instruments: A Theoretical Approach Associate Professor Rifki Ismal The 3 rd International Workshop on Islamic Economics (IWIET) Universitas Islam Indonesia (UII) and University Kebangsaan Malaysia Jogjakarta, 19-20 June 2012 1

2. BackgroundBackground General AssumptionsGeneral Assumptions Islamic Gracious Monetary InstrumentsIslamic Gracious Monetary Instruments Qardh hassan central bank certificateQardh hassan central bank certificate Waqf central bank certificateWaqf central bank certificate Hibah (gift) central bank certificateHibah (gift) central bank certificate Utilities of the gracious instrumentsUtilities of the gracious instruments ConclusionConclusion 2

3. Background 3

4. Natures of the Islamic Central Bank Instruments The central bank uses some monetary instruments to inject/absorb liquidity. It can use either tabarru (gracious) or tijarah instruments but have to comply with sharia principles and values. The main objective is to increase the economic activities by relocating unutilized funds to the productive projects. Qard hassan (free loan), Waqf (endowment), Ibra (loan forgiven), I’arah /a’riyah (free leasing of non fungible item) or Hibah (Gift) are gracious contracts available to be adopted as gracious Islamic monetary instruments. BACKGROUND

5. Pre requisite to Implement Generous depositors locate/donate funds to finance projects/businesses in the real sectors. The issuance of central bank certificates is not for profit but for welfare of the people. The main intention of depositors is the bounty of Allah SWT Qard hassan (free loan), Waqf and Hadiah are contracts to be exercised. Depositors’ funds are extended to finance the productive real sector projects with investment based, leasing based or trading based financing. BACKGROUND

6. General Assumptions 6

7. Assumptions in Issuing the Certificates Fostering economic activities by utilizing idle funds. Gracious instruments are offered to the public. Generous depositors want to locate/donate their funds for the sake of the needy. No remuneration in the Qardh hassan central bank certificate but it needs to be returned in an agreed time. In Waqf central bank certificate, Nadzir (the central bank) can manage funds for the benefit of the people. The owner of Waqf funds is Allah SWT (Lord) and any income comes from Waqf funds is for the needies (public). ASSUMMPTIONS

8. Assumptions in Issuing the Certificates Waqf funds are not allowed to face losses, as such, it is not appropriate for investment based projects. In Hadiah (Gift) central bank certificate, the central bank can utilize the funds to finance investment, leasing or trading based financing. The central bank is the owner of such gift funds, no obligatory remuneration, no need to return the funds even it can freely choose the projects. Adoption of temporary Waqf and Qardh hassan funds. The projects are very likely the government projects. ASSUMMPTIONS

9. Islamic Gracious Monetary Instruments: Qardh Hassan Central Bank Certificate 9

10. Total Qard hassan funds are called X q for the t period between 0 < t < n. X q will then mature at t n in the future. X q finance Mudarabah or Musharakah financing (government projects). The probability of having profit is α, the probability of having loss is (1-α). α stands between 0 < α < 1. The rate of return and rate of loss are represented by r p and r l with 0< r p, r l < 1. p is the profit sharing for the central bank and q is portion of profit sharing for the entrepreneur. p and q are between 0 < p,q < 1. CONSTRUCTION

11. The monthly return (R t ) of a Mudarabah project from t =1 until the last month (t = n) or 1 < t < n is: APPLICATION The positive return is αr p X q and the negative return (loss) is (1-α) r l X q. the monthly costs (Ct) are fixed costs of C and variable costs of cXq

12. formulas of profit and the maximum profit are: APPLICATION formula of losses is: Profit sharing the max profit for the central bank are: (π cb )’ = p/(p+q)[(r p +r l )α-c] The end of the contract, X n is: Xq is returned to the holders of Qardh hassan central bank certificate, while π cb and π e go subsequently to the central bank and the government (entrepreneur)

13. Accomplishment of the government projects which are useful for the public, Utilization of idle funds which prevents inflation, Reduction of unemployment because they are now working in the projects and, Increasing the national output (GDP) or economic performance. Those benefits are not only enjoyed by the holder of Qardh hassan central bank certificate, the government or the central bank but also the public in general BENEFITS

14. Islamic Gracious Monetary Instruments: Waqf Central Bank Certificate 14

15. Total Waqf funds are called X w for the t period between 0 < t < n, then buys an assets under IMBT. The rental rate is fixed = r i X w and total price of the asset is divided proportionally or (X w /t) Total monthly return (R) is below, if monthly costs are fixed or C t and less than (X w /t) plus (r i X w ) then: CONSTRUCTION & APPLICATION

16. formulas of profit and the maximum profit are: APPLICATION & BENEFITS The end of the contract, X n is: All of the profit above belongs solely to the central bank and is extended to the public the trading (buying and leasing) of a project which is increasing the economic activity, paying return (profit) and fee to the related parties (private owner of the project, the government council for the government tax, services from intermediaries of the transaction, etc), helping the government to lease and finally own the project for the public benefits and, adding the number of public infrastructures (for example, hospital, school, etc) meaning improving the welfare of the people (needies)

17. Islamic Gracious Monetary Instruments: Hibah Central Bank Certificate 17

18. Total Hibah funds are called X g for the t period between 0 < t < n, then are used for Mudarabah financing. CONSTRUCTION & APPLICATION If the monthly costs are fixed and variables then: Formula of profit: Total monthly return (R) is: formula of losses: PLS and max profit for the central bank:

19. Utilities of the Gracious Instruments 19

20. UTILITIES Islamic Gracious Monetary Instruments Benefit for the Economy (Public) Status of the Funds Qardh hassan central bank certificate (Mudarabah Financing) Returned to the Certificates ’ Holders Qardh hassan central bank certificate (Musharakah Financing) Returned to the Certificates ’ Holders Waqf central bank certificate (Ijarah Muntahia bitamlik Financing) Belonged to the God Waqf central bank certificate (Murabahah Financing) Belonged to the God Gift central bank certificate (Mudarabaha Financing) Belonged to the Central Bank Gift central bank certificate (Musharakah Financing) Belonged to the Central Bank

21. Qardh hassan central bank certificate under Mudarabah and Musharakah financing contracts give benefits for the economy but the one from Musharakah financing give more benefits than Mudarabah financing. It is because, funds utilized in Musharakah financing is a combination of funds from the Qardh hassan central bank certificate and from the government (entrepreneur) funds. However, the usage of the Qardh hassan funds should consider the tenor and maturity date as such funds have to be returned to the certificate holders at the end of the Qardh hassan certificate period UTILITIES OF QARDH HASSAN

22. Waqf central bank certificate under Ijarah muntahia bitamlik and Murabahah financing contracts give main benefits in terms of purchasing or leasing to be purchased an asset(s) or project(s) to increase the public benefits. The Waqf funds are assumed not permanent thus they are going to be returned to the holders of the Waqf central bank certificates. However, the central bank as the manager of the Waqf funds (Nadzir) has to be professional in managing them as loss is not allowed to occur in this type of Islamic contract. Compared with the first Islamic gracious certificate, the economic impact of trading based financing contracts (Ijarah muntahia bitamlik and Murabahah) is less than investment based financing contracts (Mudarabah and Musharakah). UTILITIES OF WAQF

23. Hadiah (Gift) central bank certificate under Mudarabah and Musharakah financing contracts give benefits for the economy. Nevertheless, the Hadiah central bank certificate provides even more benefits than the one from the Waqf central bank certificate. It is because the Hadiah (Gift) central bank certificate is not time restricted (tenor and maturity date) such as the one in Qardh hassan central bank certificate. Hence, the central bank should not strictly avoid business losses and has a full control over the management of funds UTILITIES OF HIBAH

24. Unlike the conventional one, Islam (Sharia) has Islamic gracious central bank certificates for the public benefits and the needies. In this case, there are at least three proposed central bank certificates which are: (i) Qardh hassan central bank certificate, (ii) Waqf central bank certificate and, (iii) Hibah (Gift) central bank certificate. All of them contribute to the economy in different ways even the profit earned by both central bank and the government is for the welfare of the people as well. From the perspective of monetary control and easiness to attract generous depositors, Qardh hassan and Waqf central bank certificates are preferred than Hibah. Qardh hassan, has maturity date (temporary placement), similar as the commercial central bank certificates. However, Hadiah (Gift) is more flexible to manage funds than Qardh hassan and Waqf central bank certificates. CONCLUSION

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