Riba vs. Rate of Return 59
Old Testament (Leviticus 25:37). Whereas the Old Testament prohibits
quantitative increases, riba al - fadl prohibits qualitative increases as well.
Considering that in today’s markets exchange takes place through the
medium of money, the relevance of riba al - fadl has diminished, but
the essence of the concept remains applicable to similar situations.DEFINITION OF RIBA
Focusing on riba in fi nancial transactions, it is now possible to construct a
more formal defi nition of the term. According to the Shari’ah, riba techni-
cally refers to the “premium” that must be paid by the borrower to the
lender along with the principal amount as a condition for the loan or for
an extension in the duration of loan. At least four characteristics defi ne the
prohibited interest rate: (1) it is positive and fi xed ex ante; (2) it is tied to
the time period and the amount of the loan; (3) its payment is guaranteed
regardless of the outcome or the purposes for which the principal was bor-
rowed; and (4) the state apparatus sanctions and enforces its collection.
This defi nition is generally accepted by all and is clear, straightforward,
and unambiguous. However, it is the interpretation and scope of the prohi-
bition and its applicability to practical life which raise several questions for
Shari’ah scholars as new situations arise. The four most commonly asked
questions relate to whether the prohibition is limited to consumer loans
only, whether only excessive interest or compounding of interest is prohib-
ited, whether adjustment for infl ation or any indexation in any form falls
within the defi nition, and whether the prohibition of interest denies the time
value of money.
These questions need further exploration and are discussed below.
Commercial vs. Productive Loans
It has been argued that the prohibition of riba in Islam was intended to apply
only to consumer loans, since the institution of riba was used by moneylend-
ers to exploit poor people in a time of need. The logic of the argument is that
there were no organized markets for commercial and production fi nancing
and the bulk of the lending by individuals was for personal consumption.
Charging riba on loans for consumption was deemed unfair, unjust, and
exploitative, and was thus, as in other traditions, prohibited. It was felt,
though, that borrowing money for productive purposes should not fall into
the same category.
However, this weak argument is based on a lack of knowledge of the
history of the early Islamic period. There is considerable evidence to show
that lending for commercial and business ventures existed and the practice of
charging interest on such loans was prevalent at the time of the prohibition.
First, the practice of lending on the basis of riba for agricultural purposes is