London School of International Business (LSIB)

How does the regulatory framework for Islamic finance differ from that of conventional finance?

Islamic finance and conventional finance are two distinct systems that operate under different principles and guidelines. The regulatory framework for Islamic finance is based on Sharia law, which prohibits the payment or receipt of interest (riba) and promotes ethical and socially responsible investing. On the other hand, conventional finance operates under a regulatory framework that allows for the payment and receipt of interest and is governed by laws and regulations set by financial authorities.

One of the key differences between the regulatory frameworks of Islamic finance and conventional finance is the prohibition of interest in Islamic finance. In Islamic finance, transactions must be structured in a way that avoids the payment or receipt of interest, as it is considered exploitative and unethical. Instead, Islamic finance relies on profit-sharing arrangements, asset-backed financing, and risk-sharing partnerships to generate returns for investors.

Another difference is the emphasis on ethical and socially responsible investing in Islamic finance. Islamic finance principles require investments to be made in sectors that are deemed halal (permissible) and to avoid industries such as alcohol, gambling, and tobacco. This ethical screening process ensures that investments are in line with Islamic values and principles.

Furthermore, the regulatory framework for Islamic finance includes the establishment of Sharia supervisory boards, which are responsible for ensuring that financial products and services comply with Sharia law. These boards consist of Islamic scholars who provide guidance and oversight to ensure that transactions are conducted in accordance with Islamic principles.

In contrast, conventional finance does not have a similar system of oversight by religious scholars. Instead, financial institutions are regulated by government authorities and must comply with laws and regulations set by financial regulators. This difference in regulatory oversight reflects the unique nature of Islamic finance and its adherence to Sharia law.

Overall, the regulatory framework for Islamic finance differs from that of conventional finance in its prohibition of interest, emphasis on ethical investing, and reliance on Sharia supervisory boards for oversight. These differences reflect the underlying principles and values of Islamic finance, which prioritize ethical and socially responsible investing in accordance with Sharia law.