The Role of Islamic Finance in Economic Development

Abstract

The prohibition of interest in Islam and the aspiration of Muslims to make this prohibition a practical reality in their economies, have led to the establishment of Islamic financial institutions (IFIs).² As a result, Islamic finance has grown in response to demand, especially from the Middle East’s Gulf region. This approach to economics, and particularly to commercial exchange, has gained traction in recent decades. In fact, a robust and widespread movement has arisen to position Islamic finance and IFIs globally as viable competitors to conventional finance and banking. In great part, the cause of this change lies is traditional supply and demand. The worldwide resurgence of Islamic teaching has driven demand for Islamic finance and for the creation of Islamic financial institutions.³ Islamic finance is a demand-driven entity whose customers are both the Muslim population and non-Muslims.⁴ This demand has created its own supply to fill the market gap. This chapter explores the role of profit-and-loss sharing (PLS) in IFIs for economic development, and how that role differs from conventional finance.