Raising Efficiency with Risk Sharing

Economists proffer the perception that usury allocates resources efficiently, in so far as it allocates funds to those who are able to pay the rates of usury demanded by lenders. This is expressed in the so-called "rationing theory of capital allocation." This means that all businesses whose profits are too thin to repay debt become ineligible to borrow. Hence, all businesses in industries where profits are razor thin are unable to borrow. In this way, interest-based financing penalizes efficient businesses and rewards inefficient enterprises. Instead, creditors channel funds to oligopolies that earn sufficient profits to enable them to repay borrowings. In this way, banks reward the inefficient and penalize the efficient. This is a significant anomaly in economic theory and practice. The fact that banks channel resources to inefficient businesses and withhold them from efficient businesses, the SMEs, (small and medium enterprises), adds to unemployment and reduces economic growth. In this way, usury undermines economic objectives which encompass, but are not restricted to stable prices, minimal unemployment and robust growth. In different words, usury reduces the standard of living, sabotages government policies and reduces public welfare. Protecting the legality of usury is against the public interest. It is a wonder that the dire effects of usury escaped the attention of economists and policymakers for so long. It appears to testify not just to the extent to which politicians became "slaves of defunct economists," as Keynes put it, but also to the extent to which economists, neither excluding nor excusing Muslim economists, became the acolytes of usurers. For usurers exist off the work of productive persons. Economists appear to be unaware of the inefficiencies and distress caused by usury to the public. By contrast, equity financing allocates resources efficiently. These are compelling reasons for the abolition of usury and the utilization of equity financing. Regrettably, Islamic finance is not living up to expectations of providing a better alternative. It appears to have "sold the signs of Allah for a miserable price." This is reflected in its wanton replication of usury-based finance, in the shape of sukuk with "profit" and capital guarantees that replicate usury-bearing debt in all but name.