Economic Growth in Islam

In Islam, economic growth is seen as helpful to the extent that it is focused on human spiritual and material needs and that humans are both its intended ends as well as its means. Economic growth cannot be for growth's sake. There must be a higher motive that improves human lives and brings them together in to the unity of Allah's (swt) creation. Economic growth in Islam is seen as a function of factor productivity, which, in turn, depends on the adoption of policies that promote efficiency in the use of resources. Enhancing human productivity is important for economic growth, but this becomes reality when the labor force is well nourished, skilled, and well educated. Technological progress that allows human societies to obtain the highest possible output from the resources provided by the Almighty must be supported. Economic prosperity is important because it provides the means by which humans can satisfy their material needs and thus remove the economic barriers on the path to their spiritual progress. Moreover, institutions (rules and norms plus their enforcement characteristics) have been found to play a crucial role in determining total factor productivity in the economy. Institutions (rules) proposed by Islam relating to governance, social solidarity, cooperation, and justice are designed to achieve economic development and growth. Additionally, the Quran emphasizes a particular consequence of rule compliance, baraka (blessings), a source of increase in total factor productivity. As part of its incentive structure to induce rule compliance, the Quran asserts that every righteous action brings multiple returns. A righteous action-decision can be operationally defined as any action-decision that is undertaken in full consciousness of the ever-presence of Allah (swt) and for the purpose of achieving His pleasure and approval; that is, any action-decision undertaken in compliance with the rules prescribed by the Lawgiver. Whosoever brings a good deed will receive tenfold of the like thereof (Quran 160:6).

This concept is particularly striking with respect to certain economic behaviors, especially those whose goal is to improve the economic well-being of other humans, such as providing loans to those in need without expecting a monetary reward. This type of loan is called qardh hassan, or a “beautiful loan,” because the Quran (245:2) designates the borrower to be Allah (swt) and not the person who receives the loan: Who is it that will lend unto Allah (swt) a beautiful loan so that He may give it manifold increase? This act of righteousness is so important that providing it to those in need is placed at the same level as the required daily prayers, the cleansing of one's income and wealth, and the belief in and strong support of the messengers of Allah (swt), all of which lead to forgiveness by Allah (swt) of (previous) misdeeds:

Verily Allah made a covenant with the children of Israel and We raised among them twelve chieftains, and Allah said: Lo! I am with you. If you establish daily prayers and cleanse your income and wealth (pay the due portion) and believe in and support My Messengers, and lend to Allah a beautiful loan, surely I shall remit your transgressions, and surely I shall bring you into gardens underneath which rivers flow. Whoso among you disbelieves after this, will surely go astray from the path. (Quran 12:5)

Establish the daily-required prayers, pay Zakah (cleanse your income and wealth from the rights of others in them), and lend unto Allah a beautiful loan. Whatsoever good you send before you for your selves you will surely find it with Allah better and greater in recompense. (Quran 20:73)

The baraka for spending in the path of Allah is even more astonishing: The similitude of those who spend their wealth in Allah's path is as the likeness of a grain which grows seven ears, in every ear a hundred grains. (Quran 261:2)

That is, the return on expenditures whose goal is to help the needy remove the economic barriers in their path to perfection is 700 times the amount of the transfer. Such rewards resulting from rule compliance are not limited to these examples. The responsibility for the supervision and enforcement of the prescribed rules given by the Lawgiver are relegated in the first place to society and then to the legitimate authorities.

Dimensions of Development in Islam

One of the important tests for humans comes about when some individuals and groups experience conditions of plenty while others are faced with scarcity. The rules prescribed by Allah (swt) specify the appropriate response to these tests, which are considered by the Quran to be signs for the true believer. The wealthy are the ones who reject the messages of sharing and giving that have been brought to them by the messengers of Allah (swt). Those who share and spend their wealth in the way prescribed are the adorers of Allah (swt), and He recompenses them for their spending aimed at pleasing Him. These humans recognize that the source of their blessings of bounty is the Creator and not their own doing. There are those, however, who, when faced with an adverse trial, turn to their Creator for help, but once they achieve success, attribute it to themselves.

As mentioned a number of times earlier, in contrast to conventional economics, scarcity in Islam is not a binding constraint at the level of humanity. It is only a constraint at a micro-individual level; at this level, it is a test both for the person who is constrained and for the person who is not constrained. For the constrained, it is a test of the strength of belief that has been experientially revealed to the person and is a light shining on the strength and weakness of the self. For those economically better off, it is a test of their recognition of the real source of their wealth and the strength of their rule compliance in helping remove economic constraints, namely, barriers from the path to perfection of those in need of help. There is recognition and an important role for legitimate authorities. The important point is that it is the strength of the rule compliance of rulers, not their cunningness, physical or military prowess, or other worldly advantages, such as riches, that legitimizes their authority to oversee the implementation of the prescribed rules. It is clear that the strength of belief for those who will be vested with legitimate authority must surpass that of a representative believer.

The traditions of the Prophet (sawa) invest the legitimacy of leadership of the community with another dimension, that of bay'ah, a contract between the person who is deemed worthy of accession to the office due to demonstrated full compliance with prescribed rules and acceptability by the members of the community. The manner in which the Prophet (sawa) organized the first community as specified in the Quran constitutes legitimate political authority, and He sought acceptability among the multireligious population of Medina. The central term of the contract between the ruler and the ruled is understood clearly: full compliance with the prescribed rules by the legitimate authority. The community and its members commit to following and obeying the legitimate ruler so long as he is rule compliant. The legitimate ruler commits not only to complying with all the prescribed rules, among which is the imperative of consultation, but also to ensuring the preservation, cohesion, and well-being of the community in accordance with the duties of the trusteeship-agency office. The strength of the legitimacy of the community is derived from the enforcement of the rules. No authority has any legitimate basis for creating new rules that contradict those specified in the Quran and practiced by the Prophet (sawa). No political authority selected on the basis of this framework could retain legitimacy in the face of noncompliance with or violation of the rules. As history shows, governments that violated rules retained power only by force. But such an event is simultaneously and concurrently a failure of rule compliance by the community being ruled by force. Commanding others to rule compliance is part of the cognizance of the love bond between the Creator and the created since rule compliance is the necessary and sufficient condition for staying on the path to perfection. No political authority can violate the prescribed rules and retain legitimacy, and no community can claim that it has remained a believing community while being ruled over by an authority that is noncompliant with and in violation of the prescribed rules. In short, it is the noncompliance with rules that leads to the emergence of unjust, dictatorial, and totalitarian authority.

Commanding what is good and forbidding what is evil is a duty incumbent on individuals as well as on the whole community. It is a promoter of solidarity and achievement and a preserver of social order in the community. The very existence of oppression, corruption, massive inequality, and poverty in a community is prima facie evidence of noncompliance with or outright shirking of this duty on the part of the group's members. Given the strength of the emphasis on rule compliance by the individual, even the existence of a legitimate political authority does not absolve a human being from the necessity of performing the duty of commanding rule compliance and forbidding rule violation. Coupled with the prescribed rule of consultation, this duty gives every member of society the right, and imposes on him or her the duty, of participating in community affairs. And, since the primary responsibility of the legitimate political authority is to enforce rule compliance, the more active the individuals' roles in assuring that their own behaviors and those of others in the community are rule compliant, the more limited the need for interference of the authority in the socioeconomic life of the community.

The Quran makes it clear that prescribed rules require that economic transactions be based on freedom of choice and freedom of contract, which in turn require property rights over possessions to be exchanged. While the historical evidence strongly suggests that markets already existed in Arabia, it was the Prophet (sawa) who created the first market that was structured with operations in accordance with the prescribed rules of conduct for justice to prevail in exchange and trade. He appointed a market supervisor to promote full compliance with the prescribed rules of market behavior. While the legitimate authority has the obligation of supervising and enforcing rule compliance, market participants are rule compliant as long as they are free from further interference. The history of the market created by the Prophet (sawa) in Medina underlines the importance and centrality of the market and rules.

As stated earlier, the Quran and the traditions of the Prophet (sawa) envision development as composed of three interrelated and interdependent dimensions. The most important of all these is individual human development, without which the other two would not progress as envisioned. The process of human self-development is referred to in the Quran as rushd, which is the opposite of qhay, meaning deep ignorance. When the process of rushd strengthens, the person is said to becoming rasheed: that is, someone who is making progress on the path to perfection. This stands in stark contrast to Western economic thought, as it was only in the last three decades of the twentieth century that professionals looked at a broader concept of development beyond the growth of physical capacity to produce goods and services, namely, that economic growth is only an element of the overall progress of human beings and that humans should be the ends, rather than the means, of development. Even in the most sophisticated of concepts—Sen's development as freedom—the imperative of self-development as the prerequisite for a comprehension of the substantive meaning of freedom has received little attention. If development means freedom and functioning, then what guarantee is there that without self-development, doing what one values will not lead to fully self-centered, selfish outcomes? These selfish outcomes include massive poverty and misery for a large segment of humanity side by side with incredible opulence and wealth accumulation for a few. Some minimum level of income is doubtless necessary to avoid destitution and absolute poverty before one is able to reflect upon one's action-decision choices. But beyond that, self-development becomes an imperative for humans to recognize the responsibilities of their khalifal state and to develop the earth so as to remove economic barriers and minimize the pain of material paucity for all humans.

Much of the concern with the early formulations of development focused on achieving and maintaining social order. The Islamic concept places great emphasis on the need to focus human energy on the achievement of social solidarity and unity. In turn, that unity is firmly grounded in the purpose of creation, the walayahh of the Creator for and over humanity, which invested high dignity in the human state and the responsibilities implied by that state. The khalifal functions of each human can be meaningful only in collectivity with other humans. Islam's emphasis on the social dimension is so great that there is not one act of adoration and worship that is devoid of societal implications. The success of each human is dependent on patient and tolerant interaction and cooperation with other humans. The idea is that mutual support and social solidarity bring about a more tolerant and patient response to individual and collective difficulties, heighten cognizance and consciousness of the Creator and of the commonalities of humanity, intensify adoration of Allah (swt) through mutual service to others and the rest of the creation, and ease the path to perfection. Complete success is possible only through appropriate social interaction. The Quran repeatedly urges humans toward social solidarity and a just social order; they must follow the prescribed rules that serve to purify the self and to create social cohesion, namely, the rules that position both individuals and society on a straight path. The fundamental objective is to create a society in which individuals become cognizant of all their capabilities, including the spiritual. When humans realize these capabilities, a life the Quran refers to as hayat tayyibah, the good life—a life free of anxiety, fear, and regrets—becomes possible; a life of full awareness of the beauty of the creation and Creator; a life of solidarity with other humans and the rest of creation; and a life lived in the full Grace of Allah (swt).

The central framework and operation of these rules is justice. The Prophet (sawa) understood the essential objective of His selection, appointment, and message to be to encourage and insert justice in human societies, as emphasized in the Quran. The Prophet (sawa) taught the responsibility of the individual, the collectivity, and the state. He particularly emphasized the equality of individuals before the law and that all rules that are incumbent on individuals and their collectivity must be more strictly observed by those in positions of authority. Thence the famous saying attributed to him: “Authority may survive disbelief but not injustice.” Insistence on justice became the hallmark of the institutional scaffolding of governance, a structure with full transparency and accountability. It was in Medina where the Prophet (sawa) was able to put into operation and implement important rules. The first and the most important of the Prophet's (sawa) efforts was the formation of a society based on Islamic teaching; this He achieved with the assistance of the critical mass of followers who had migrated with Him to Medina. It was first necessary to create peace, social stability, and the means of defending the nascent society from external threats. The social contract with the inhabitants of Medina constituted agreed-on procedures for administering society. Given that Muslims who had migrated with Him were either poor or had lost their wealth fleeing persecution in Mecca, He initiated a contract of mutual support. Next, the Prophet (sawa) clarified rules of property rights over natural resources. Those who had property at the time they entered Islam were given full rights over their property.

Douglass North believes that cognition plays a central role in belief formation, which, in turn, affects preference formation, rational decision making, and institutions. Institutions (rules) have a reciprocal effect on cognition. Beliefs constitute what North refers to as a “mental model.”⁹ However, whereas North believes that institutions “are clearly an extension to the mental constructs the human mind develops to interpret the environment of the individual,” in Islam, rules (institutions) are provided by the Lawgiver. For a believer, the “mental model” is formed by these rules (institutions), which reduce uncertainty for individuals and society, and in turn reduce transaction costs. Above all, the entrepreneurs engaged in production are subject to the rules of economic behavior that stress not cheating, not wasting (itlaf) or overusing or overspending (israf), and not causing harm to anyone in carrying out production. The Prophet (sawa) said: “There are two characteristics above which there are no other in evil: associating partners with Allah and causing harm to the servants of Allah (other humans)”; “The person who defrauds a Muslim is not of us”; and “Whoever shortchanges the wages of a laborer, his place will be in fire.”¹⁰ The exploitation of hired labor, particularly shortchanging their wages or refusing to pay labor wages commensurate with their productivity, was the subject of admonishments by the Prophet (sawa): “Whosoever mistreats a laborer in repaying for the work done, Allah will render his own work fruitless and Allah will forbid him the perfume of the Garden.”¹¹

Distribution Justice, the Market, and the State

Throughout the ages, one of the most important questions confronting humankind has been: What criterion should determine the distribution of economic resources? The answer depends on the underlying concept of justice and fairness, which, in turn, depends on the belief system. Islam considers justice an important attribute of the Creator manifested in His creation. The concept of justice for humans is simple and unambiguous: Justice is obtained when all things are placed where intended by the Creator. How are humans to know where the right (just) place is for everything? The answer is: Follow the rules prescribed by the Creator.¹² By the instrumentality of His walayahh, the loving Creator has provided all that is necessary for humans to develop and achieve perfection of the human state. He has also designated the path to perfection and has marked it with rules of behavior in all facets of human life. Rule compliance assures justice. In turn, justice ensures balance for individuals and for their collectivity. Compliance with rules, however, does more than create balance; it guarantees that humans draw near to their ultimate objective, namely, their Creator. Morality is a result of just behavior. In contrast, nontheocentric thought considers justice “an important subclass of morality in general, a subclass which generally involves appeals to the overlapping notions of right, fairness, equality, and deserts.”¹³ These systems must find ways in which a consensual agreement is reached on the concept of justice and fairness according to which goods and services produced can be distributed. To do so, they must first devise moral theories that provide reason to justify a particular distributional system. One such theory is utilitarianism, which puts forth a distributional system that avoids justice but is instead based on morality. An action is considered justified if it increases utility, or happiness, of all. Accordingly, there is only one moral issue involved in a course of action or social policy: Does it achieve the greatest aggregate happiness? This is a criterion by which not only individual and social actions are judged, but one according to which various societies are compared. There is much criticism of utilitarianism, but two points stand out. It permits the sacrifice of innocent individuals and their interests if it means increasing the happiness of the whole, thus serving totalitarian objectives; and it assigns equal weights to the happiness of all individuals.

In principle, in economics, it is assumed that a free market that operates on the basis of the self-interest of its participants promotes the general interest of all. Based on a utilitarian concept, welfare economics developed the analytic position that in such a system, in which prices were determined by the free interplay of supply and demand, all factors of production would receive rewards commensurate with their marginal contribution to the production of goods and services. It is important to note that here, too, initial resource endowments as well as the preferences of individuals are taken as a given. Unhappy with utilitarianism, Rawls searched for an alternative principle of distribution by relying on the concept of the social contract.¹⁴ Equating justice with fairness, Rawls attempted to find principles of just distribution with which members of society, with different concepts of good and just, all agree.

To Rawls, distributive justice is a matter of public rather than private choice, although he assumes that citizens are just. Therefore, his principle of justice applies only to social institutions he refers to as the “basic structure.” He uses the device of “a veil of ignorance” to ensure fair results. Assuming that people in society are ignorant of all of their particularities, including race, color, creed, or social status, they would come together to choose a rule of distribution that would then govern all members of society. Rawls concludes that people would choose a rule according to which all “social values—liberty and opportunity, income, wealth, and the basis of self-respect—are to be distributed equally unless an unequal distribution of any, or all, of these values is to everyone's advantage.”¹⁵ From this principle, referred to as “the difference principle,” two other principles are deduced. First, each individual in society has “equal right to political liberty; freedom of speech and assembly; liberty of conscience and freedom of thought; freedom of the person along with the right to hold (personal) property; and freedom from arbitrary arrest and seizure, as defined by the concept of the rule of law. These liberties are all required to be equal by the first principle, since citizens of a just society are to have the same basic rights.” The second principle requires that if there are to be inequalities, they are to everyone's advantage and “attached to positions and offices open to all.” These principles are to apply sequentially to the “basic structure” of society. Sequential order is necessary for Rawls to rule out the possibility that a departure from the first principle of equal liberty could or would be compensated by greater economic advantages. Under the veil of ignorance, a fair allocation of primary goods would be the one that members would agree on before they know where they would land in the outcome.

These ideas on distributive justice afford a perspective on Islamic notions of just distribution. An important central difference between Islam's position and those discussed earlier is the role of the market. All these ideas apply to market economies. Markets also play a crucial role in Islam, but with one major difference. Epistemologically, the difference is one of the concept of the market as an ideology and the concept of the market as an instrument. This difference is profound. In societies known widely as market economies, market norms are central to social relations. In turn, market norms are determined by self-interest, which dictate “rational” behavior as maximizing what interests the self, narrowly labeled as satisfaction (utility or profit). Market norms, in turn, determine the pattern of preferences of individuals. As Gomberg argues, market norms and preference patterns are individualist, not communal. They have self-seeking orientations.¹⁶

In Islam, by contrast, the market is an instrument. It is not an organism that determines the rules and norms of behavior, not even those of its own operation. Rules that shape the pattern of preferences of participants are determined outside the market. Participants internalize them before entering the market. The behavior of consumers, producers, and traders, informed by their preferences, are subject to rules determined outside the market. In a market where there is full rule compliance, the price that prevails for goods, services, and factors of production is considered just. The resulting incomes are considered justly earned. Therefore, the resulting distribution is just. However, participants will not be allowed to keep their full earnings simply because their income was justly earned. There are rights and entitlements of others in the resulting postmarket distribution of income and wealth that must be redeemed. This is the function of postmarket redistribution, which is governed by its own set of rules. Any remaining wealth that is accumulated is broken up at the end of the person's life and distributed among a large number of beneficiaries spanning at least four generations, according to rules specified in the Quran to avoid the concentration of income and wealth in the hands of a few.

As we have said numerous times, justice is at the heart of an Islamic society. Who is ultimately responsible for establishing a just society? The state's role is one of administrator, supervisor, and protector of society. It is the members of society who ensure that justice prevails. It can be argued that there is no topic more emphasized in Islam than poverty and the responsibility of individuals and society to eradicate it. The Prophet (sawa) said that poverty is near disbelief and that poverty is worse than murder.¹⁷ Thus in any society in which there is poverty, this is sufficient evidence that Islamic rules are not being observed. It means that the rich and wealthy have not redeemed the rights of others in their income and wealth and that the state has failed to take corrective action.

Risk Sharing and Wealth Redistribution

Islam emphasizes financial inclusion more explicitly, but two distinct features of Islamic finance—the notions of risk sharing and redistribution of wealth—differentiate its path of development significantly from the conventional financial model.

Individuals in a society face two types of risks. The first is the result of the exposure of the economy to uncertainty and risk due to external and internal economic circumstances of the society and its vulnerabilities to shocks. How well the economy will absorb shocks depends on its resilience, which in turn depends on the society's institutional and policy infrastructure. How flexibly these respond to shocks will determine how much these risks impact individual lives when they materialize. The second type of risk individuals face relates to the circumstances of their personal lives. These include risks of injuries, illness, accidents, bankruptcies, or even changes of tastes and preferences. This kind of risk is referred to as idiosyncratic; when such risks materialize, they play havoc with people's livelihoods. This is because often the level of consumption that sustains them is directly dependent on people's income. If their income becomes volatile, so will their livelihood and consumption. Engaging in risk sharing can mitigate idiosyncratic risk and allow consumption smoothing by weakening the correlation between income and consumption such that should these risks materialize, and should the shock reduce income, the individual's consumption and livelihood do not suffer correspondingly.

In a society, risks can be shared among members and/or between members and the state. Both in industrial and developing economies, people find ways and means of sharing risks to their livelihoods. In particular, they use coping mechanisms to increase the variability of their income relative to their consumption. In more developed financial systems, the coping mechanism is investing in financial assets or acquiring insurance to mitigate personal risks. In developing countries, with weak financial markets, people rely on informal insurance, borrowing, or saving to cope with idiosyncratic risks. In such societies, theory suggests that perfect informal insurance is possible if communities fully pool their incomes to share risks.

According to the Islamic perspective, risks are mitigated in various ways. First, the Islamic economic system is a rule-based system, which has provided rules of behavior and taxonomy of decisions—actions and their commensurate payoffs based on injunctions in the Quran. Complying with these rules reduces uncertainty. Clearly, individuals exercise their freedom in choosing to comply or not with these rules. That rules of behavior and compliance with them reduce uncertainty is an important insight of the new institutional economics. Rules reduce the burden on human cognitive capacity, particularly in the process of decision making under uncertainty. Rules also promote cooperation and coordination.²² Second, Islam has provided ways and means by which those who are able to mitigate uncertainty by sharing the risks they face by engaging in economic activities with fellow human beings through exchange. Sharing allows risk to be spread and thus lowered for individual participants. However, if a person is unable to use any of the market means of risk sharing because of poverty, Allah (swt) has ordered a solution here as well: The rich are commanded to share the risks that the poor face in their lives by redeeming the rights of the poor derived from the Islamic principles of property rights and sharing their income with them.²³ Islam's laws of inheritance provide further mechanisms for risk sharing.

Islam ordains risk sharing through three main venues:

1. Contracts of exchange and risk-sharing instruments in the financial sector.
2. Redistributive risk-sharing instruments that the economically more able segment of the society utilizes in order to share the risks facing the less able segment of the population.
3. Inheritance rules specified in the Quran through which the wealth of a person at the time of passing is distributed among present and future generations of inheritors.

The second set of instruments meant for redistribution are used to redeem the rights of the less able in the income and wealth of the more able. Contrary to common belief, these are not instruments of charity, altruism, or beneficence; these are instruments of redemption of rights and repayment of obligations.

To avoid opulence alongside poverty, Islam prohibits wealth concentration, imposes limits on consumption through its rules prohibiting overspending, waste, and ostentatious and opulent spending. It then ordains that the net surplus, after moderate spending necessary to maintain a modest living standard, must be returned to the members of the society who, for a variety of reasons, are unable to work; hence, the resources they could have used to produce income and wealth were utilized by the more able.

The Quran considers the more able as trustee-agents in using these resources on behalf of the less able. In this view, property is not a means of exclusion but of inclusion in which the rights of those less able in the income and wealth of the more able are redeemed. The result would be a balanced economy without extremes of wealth and poverty. The operational mechanism for redeeming the rights of the less able in the income and wealth of the more able are the network of mandatory and voluntary payments such as zakat (2.5% on wealth), khums (20% of income), and payments referred to as sadaqat (payments to redeem the rights of others).

The most important economic institution that operationalizes the objective of achieving social justice in Islam is that of the distribution-redistribution rule of the Islamic economic paradigm. Distribution takes place postproduction and sale when all factors of production are given what is due to them commensurate with their contribution to production, exchange, and sale of goods and services. Redistribution refers to the postdistribution phase when the charges due to the less able are levied. These expenditures are essentially repatriation and redemption of the rights of others in one's income and wealth. Redeeming these rights is a manifestation of belief in the Oneness of the Creator and its corollary, the unity of the creation in general and of humankind in particular. It is the recognition and affirmation that Allah (swt) has created the resources for all of humankind, who must have unhindered access to them. Even the abilities that make access to resources possible are due to the Creator. This would mean that those who are less able or unable to use these resources are partners of the more able.

Sadaqat are a very important redistributive institution in Islam for two reasons: first, they operationalize the truthfulness of one's belief in Allah (swt) in voluntarily giving of one's income and wealth. Second, the importance of this institution derives from the fact that the receiver is not the person to whom sadaqat is given but Allah (swt). Two verses (103 and 104) of the Chapter of Repentance note:

of their goods (wealth) take sadaqah, so that you might purify and sanctify them; and pray on their behalf. Indeed, your prayers are a source of security for them: and Allah (swt) is One Who Hears and Knows. (103)

Do they not know that Allah (swt) accepts repentance from His servants and Receives their Sadaqat, and that Allah (swt) is indeed He, the Oft-Returning, Most Merciful. (104)

Zakat is considered a component of sadaqat, but it has been given a special status in the Quran because it is ordained with obligatory prayer in at least 20 verses (see, e.g., 2:110). Moreover, its collection was enforced by the governments in early Muslim history following the passing of the Messenger.

Qardh hassan is a loan mentioned in the Quran as “beautiful” (hassan) probably because in all the verses in which this loan is mentioned, it is stipulated that it is made directly to Allah (swt) and not to the recipient (see, e.g., 64:17). It is a voluntary loan without a creditor's expectation of any return on the principal.

Very early in the history of Muslim societies, the institution of waqf appeared through which a person could contribute the third of his or her wealth over which he or she is allowed by Shariah to exercise control at the time of his/her death. A waqf is a trust established when the contributor endows the stream of income accrued to a property for a charitable purpose in perpetuity. This institution has already been partially instrumentalized—although not in the sense used here—since the legality of cash waqf (i.e., endowing the future income stream of a cash trust instead of a physical property) has been recognized in most Muslim countries. Here, too, the potential of mobilizing a large amount of financial resources through instrumentalization of this institution by a globally credible Islamic financial institution is substantial.

The third dimension of distributive justice in the institutional scaffolding of an Islamic society is the institution of inheritance, which is crucial in the intergenerational justice framework envisioned by the Lawgiver. Rules governing production, consumption, and distribution ensure conservation of resources for the next generations. Rules of redistribution ensure that those unable to benefit by participating directly in production and consumption in the market, through combination of their labor and their right of access to resources provided by the Supreme Creator for all humans, can redeem their rights through zakat, khums, sadaqat, waqf, and other redistributive mechanisms. Once these rights have been redeemed out of the income and wealth of the more economically able, the latter's property rights on the remaining income and wealth is held inviolable. These rights, however, end at the point of passing of a person. At the time of passing, people lose the right to allocate their wealth as they please except for a third of their income, which believers can use to make waqf, sadaqat, or other transfer contributions as they wish.

Islam provides a set of redistributive instruments that could play a critical role in reducing poverty. Given Islam's emphasis on social and economic justice and the eradication of poverty, we would expect Islamic instruments that address inequity, such as zakat, khairat, waqf, and qardh hassan, to play an important role in the development of the required institutional structures.²⁴ Therefore, there is a need to formalize or institutionalize Islamic redistributive mechanisms designed to empower the economically weak segments of society.²⁵

By “institutionalization,” we mean building nationwide institutions and surrounding legal infrastructure to maximize the effectiveness of these redistributive mechanisms. This institution-building exercise can take place in three steps.

1. Develop the institutions. An institution is nothing more that the legalization of the rules of behavior. Therefore, it would require crafting rules pertaining to these instruments as envisioned by Shariah.
2. Establish these institutions and integrate them with the rest of the economic and financial system. In this process, either existing channels of distribution (i.e., banks or post offices) can be utilized to interact with the customers, or new means of leveraging new technologies can be introduced.
3. Ensure enforceability of rules through transparent means.

The objective of institutionalization of redistributive instruments is to formalize and standardize their operations. For example, for zakat, khairat, and qardh hassan, a formal network of institutions needs to be developed to collect, distribute, and recycle the funds in the most efficient and the most transparent fashion.²⁶ In some countries, the point of a financial transaction, such as an automatic teller machine or cash dispensing machine, is used to enable customers to choose to make immediate donations or contributions. The financial institution can collect and aggregate funds and then disburse them to the needy through selected channels.

The use of qardh hassan for the microfinance sector should be exploited further. Many characteristics of the qardh hassan–based funds could be shared by microfinance institutions. Therefore, the infrastructure of the latter can be utilized to effectively achieve the objectives of the former. While it is difficult to explain why this very important Islamic redistributive institution is so underutilized in the Islamic world—research efforts by sociologists and economists should investigate the behavioral causes—one can speculate that lack of knowledge, in the first instance, and concerns about safety and security of the contributed principal may be important factors. The latter could be provided by a credible Islamic financial institution through issuance of financial instruments that would provide safety and security to the contributors. The Islamic financial institution can also instrumentalize the asset side of its balance sheet. Furthermore, it can provide qardh hassan resources to existing microfinance institutions to reduce the burden of their interest rate charges on borrowers. But how would such Islamic financial institutions cover their administrative costs? There are two possible sources: (1) through investing a fraction of the mobilized resources and (2) through profit-sharing via qardh hassan resources, through which Islamic financial institutions invest in productive projects of young entrepreneurs who have no access to formal credit markets.

Policy makers need to pay attention to this set of tools to enhance access and should encourage enhancement of such institutions through development of the legal framework to protect the institutions, donors, and stakeholders and to ensure transparent governance. With well-developed redistributive institutions supplemented by formal and semiformal sector financial institutions, a more effective approach to poverty reduction is possible.

Given the rules governing property rights, work, production, exchange, markets, distribution, and redistribution, it is reasonable to conclude that in an Islamic society—a rule-complying and Allah (swt)–conscious society—absolute poverty could not exist. It can be argued that there is no topic more emphasized in Islam than poverty and the responsibility of individuals and society to eradicate it. The Prophet (sawa) said that poverty is near disbelief and that poverty is worse than murder. It is almost axiomatic that in any society in which there is poverty, Islamic rules are not being observed. It means that the rich and wealthy have not redeemed the rights of others to their income and wealth and that the state has failed to take corrective action.