the role of taxation_ expenditure and debt

8/3/2019 The Role of Taxation_ Expenditure and Debt

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The Role of Taxation,

Expenditure and Debtin an Islamic Economy.

Dr. Abdel-Rahman YousriProfessor of Islamic Economics

University of AlexandriaEgypt


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Lecturer Abdel-Rahman Yousri Ahmad Egyptian, Borne 1940

B.A Economics, Cairo University, Egypt, 1960 PhD Economics, St. Andrews University, U.K,1968 Professor of Economics and Islamic Economics,

Alexandria University, Egypt (1968- now)

Author of three books and many articles in IslamicEconomics. Winner of the Islamic Development Bank Prize in

Islamic Economics (1997) Formerly: Head of the Economics Department, University of

Alexandria, Egypt. Director General of the International Institute of

Islamic Economics, International Islamic

University, Islamabad, Pakistan


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Introduction

It is quite essential to recognize

major Characteristics of theIslamic Fiscal System before

dealing with Taxation ,Expenditure and Public Debt inan Islamic Economy


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Non-ZakatRevenuesand

Expenditure

ZakatCollection

AndDistribution

1.Collection and distribution ofthe Islamic fiscal Duty: Zakat

2.Collection and employment ofNon-Zakat revenues: Taxes and other

State revenues.

3.Control and Management of

Public Property and Resources.

4. Provision and developmentof Public services and utilities.

5.Employment of Fiscal tools when

necessary for purposesof public interest.

6. Estimating need forPublic Borrowing

If necessary andManagement of Public Debt.

THE ISLAMICFISCAL SYSTEM

CORE

FUNCTIONS


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ZakatRevenuesCollection

according toSunnah Rules

ZakatDistributionAccording to

Quranic Rules

PublicExpenditure

PublicRevenues

Non-Zakat

Revenues(Taxes and other)

Collectionaccording toShariah and

Ijtehad

Expenditureaccording toShariah and

Ijtehad

Budget


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S

Targetsof the Islamic fiscal system

Islamic Ideology

Shariah and its intents

Socio-economicjusticePublic Interest


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Public Interest and Socio-Economic Justice

Public Interest is inseparable from the Islamicconception of socio-economic justice . Public interest should be guided by Ijtehad within

boundaries of Islamic Shariah and its intents.Socio-Economic Justice Requires: Fair collection of Zakat, and other duties that may

be levied, in accordance to Sunnah and Ijtehad. Fair allocation of Zakat revenue among the

categories which the Quran specifies.

Observing and giving priority, within Shariah, tothe interests of the majority of population throughpublic expenditure policies.

Management of public ownership resources in amanner which maintains a just pattern of incomeand wealth distribution in society.


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The Role ofTAXATION


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History: Jizyah and Kharaj Jizyah was a poll tax imposed on non-

Muslim people living in the Islamic state,because these were neither paying Zakatnor serving in the army like Muslim citizens.

Kharaj was a tax levied on arable landowned by non-Muslims in provincesconquered and ruled by the Islamic State.

Kharaj was firstly introduced by the CaliphUmar ibn Al-Khatab after conquering richagricultural countries such as Iraq, andEgypt.


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Caliph Umars view was that distributingconquered arable land among Muslims whoachieved the conquest was bound toconcentrate wealth in their hands, whereasKharaj revenues paid by the indigenousowners of the conquered land, would in the

long run be much beneficial to ordinarycitizens living in the Islamic State . It should be noticed that Muslims

landowners, who lived in countries, that by

virtue of their conquest joined the IslamicState, paid only Zakat (5%-10% in case ofAgricultural products) which carried amuch lower rate of taxation than Kharaj.


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During the Umayyad period, a question wasraised with respect to treatment of Kharaj

land when leased to Muslims? Should it payKharaj or Zakat?

Umar II (Umar ibn abdel-Aziz) ruled out thatland from which kharaj was paid could notbe transferred to Muslims, who could leasesuch land, but in that case, they would berequired to pay kharaj.

Under the Abbasids and thereafter the massconversion of Christians and other non-Muslims to Islam eroded the Kharaj (tax)

base of the Islamic State.


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History: Ushr A Tax initiated by Caliph Umar ibn al Khatab and

was, levied on merchandise brought from outside,

once its value reaches Nisab. To Muslims, rate of this Tax was equal to Zakat on

trade, i.e. 2.5% on value. Ushr (Zakat) had to bepaid to the Asher (Collector of Ushr) on the instant

of coming with merchandize from outside. To Christians and the Jews (People of the Holy

Book) Ushrwas 5% (i.e. double that of Zakat) To Other Merchants coming from countries that

were hostile to the Islamic State , Ushr was10% or equal to rate (s) imposed by thesecountries on Muslims entering their land withmerchandise.


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Taxation: Defence and Other Purposes During the Crusades military campaigns against

Middle Eastern Muslim countries in the 11th

- 13th

AD Centuries, Muslim Fuqaha issued fatwapronouncing Shariah permissibility of collectingtaxes from Muslims for purposes of Defence.

This fatwa was justifiable by shortage of PublicRevenues that were available for defence. The Rulers in the late period of the Abbasside

State as well as during the Ottoman State imposedother Taxes on their subjects( Muslims and non-Muslims) to strengthen the armies as well as tocover expenses of their lavish style of living.

Taxation became quite burdensome in someperiods to the extent of hindering development.

(Quote Ibn Khaldun)


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TAXATION IN A CONTEMPORARYISLAMIC ECONOMY

Taxation, in Principle, is acceptable within anIslamic economy.

The Role of Zakat as an Islamic tax is fundamental.

Zakat should be the heart of any proposed modernIslamic Tax System.

Yet, philosophy, targets, and Characters of Zakat

as an Islamic Tax should be clearly distinguished. Rules forTaxes that could be imposed besides

Zakat within an Islamic Tax System should be highlightened.


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Principle of Taxation Taxation is accepted in all civilized (or democratic)

societies as a fundamental element in the socialcontractbetween Ruler and citizens.

The Quran reports a version of a social contractin Sura 18:94 : People living under the continuousthreat of some foreign invaders (Yajuj and Majuj),expressed to the new ruler (Dhul Qarnain) theirreadiness to pay for him Kharaj (tax) if he erects abarrier (Wall) which would protect them againstthose enemies.

The ruler (Dhul Qarnain) concluded this socialcontract with people on condition that they wouldhelp him in all efforts needed for building thebarrier.


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Zakat is the Heart ofthe Islamic Tax System Nothing can be said about Taxation in an

Islamic system without firstly knowing thenature and role of the Zakat system. We have to recognize similarities and

differences between Taxes and Zakat. This is important particularly to those who

have objections at calling Zakat an IslamicTax

It is also important because any tax thatmay be imposed besides Zakat should beguided by the basic principles of the ZakatSystem and should not contradict or

duplicate Zakat.


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i. Just like taxes, Zakat strictly speaking is neithervoluntary payment nor a donation and should becollected and distributed by the State (though itcould be given directly to its recipients withoutgovernment intermediation). In Shariah a centraltreasury ( Beitu-almal) is trusted to collect itannually. In recent times, Pakistan, Sudan, andSaudi Arabia have enacted legislation to enforcethe Zakat.

ii. Zakatunlike taxes which are imposed andenforced through man-made legislations. Zakatis a duty commanded by Allah as part and parcel

of religion and, in principle, is a personalexercise intended to purify human soul.iii. The religious aspect ofZakat establishes

differences with Secular Taxes in three majorareas, namely Tax burden, Tax avoidance and

Tax evasion: >>


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(a) Tax burden; Tax imposed on producers andsellers is considered part of their costs and a burden whichcould possibly be transferred to consumers throughmarket mechanism ( depending on elasticity of demandand supply). This is quite different from Zakat, whose payerconsider it a religious duty and never a burden andtherefore should not be transferred on other people.

(b) Tax avoidance; which is utilization of the taxregime by means that are still within the law (or byexploitation of lope holes in the law,) to one's ownadvantage in order to minimize the amount of payable tax.A Muslim who knows that he is paying Zakat by order ofAllah SW will never do this. On the contrary A believer isnormally pleased when his income and wealth areincreasing and hence would be paying more Zakat.

(c) Tax evasion; is the general term for efforts byindividuals and other entities to evade taxes by illegalmeans, and this can never be done by any believer.


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iv. Based on the Islamic conception ofjustice OnlyMuslims having Nisab (a set level of income orwealth; money and real assets) are obliged to

pay Zakat. On the other hand Zakat revenues aredistributed among several categories, withspecial preference or priority given to thesocietys poor and the needy groups.

v. In most contemporary democratic anddeveloped societies Taxation would, to onedegree or another, have socio-economic justiceamongst its targets.Yet, no special right orpriority in Tax revenues is necessarily given tolow income groups as in Zakat.

vi. On the other hand, historically as well as in non-democratic and developing societies socio-economic justice is often missing.


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a. Historically in non-Islamic societies,e.g. in medieval feudal Europe taxes

were collected from ordinary folks infavour of the Nobility and richlandlords.

b. In non-democratic and developingsocieties taxation is a source ofinjustice. Taxation imposes moreburden on low and middle income

groups , e.g. through taxes ofregressive rates and through ability ofthe politicians and rich people toevade taxes by means of corruption.


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vii. The Islamic system of Zakat enjoys apermanent and stable character. This isunlike secularTaxation where a Tax maybe removed or added and its rate issubject to adjustment by Legislators .

viii.Whereas Tax rates may be excessively

progressive to the extent that theydiscourage individuals or firms to producemore and earn more income, or may beregressive to the disadvantages of low

income groups, Zakat rates areproportional and can be generallydescribed as low or relatively quitemoderate when compared with tax rates.


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The Economic Role of Zakat

Zakat which is the core of the IslamicTaxation System has three major

Economic Effects : (a) Distribution Effect,

(b) Income Effect, and

(c) Growth Effect.


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(a) Distribution Effect

Zakat is collected annually from richpeoples income and wealth and isdistributed amongst the poor and

needy and other groups which normallyneed financial support (wayfarer andheavily indebted people). Zakat,therefore, plays a regular and activerole in re-distribution ofNationalincome and wealth in favour of lowerincome groups.


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Private spending of Zakat by recipientswhose marginal propensity ofconsumption is normally high has adirect effect on aggregate demand andNational income in the short run.Besides, regular public spending of

Zakat on some major items, e.g.National defence has also its directaffect on National income.

(b) Income Effect


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(c) Growth Effect

Zakat spending on poor and needyshould partially be assigned forinvestment. This kind of investment isnecessary for poverty elimination andhuman resource development in thelong run. The larger is Zakat spending

that is devoted to investment everyyear the greater will be the effect ofZakat on growth.


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Islamic Taxation The need for imposing Taxes besides Zakatcould arise for several reasons. Public Interest within boundaries of Shariah

and its intents may render

Taxation necessary for fiscal, economic ornon- economic purposes.

Laying Rules for Islamic Taxation is

therefore an essential and important task. The Role of Taxes in an Islamic Economywould naturally be linked and influenced byethical and Shariah constraints imposed on

taxation.


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Principles and Rules for Islamic Taxation1. A Tax should not be levied, for any reason,

by an Islamic government except afterintensive consultation with eminentFuqaha and Muslim experts in fiscal andeconomic matters.

2. Any proposed Taxation should notduplicate Zakat of any type. For example aTax imposed to provide sustenance to thepoor people or to subsidize theirnecessities would duplicate Zakat : >>


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Zakat should specifically fulfil this

target. In Hadith; Allah SW hasimposed on rich people a duty(Zakat) to be paid from their amwal

(i.e. wealth and income), and thiswould suffice poor people. If thepoor in society should ever face

hunger or clothing insufficiency, itwould only be due to rich peoplenot fulfilling their duties.


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3. Any proposed Taxation should

not contradict the basic principlesof the Zakat System. For exampleno tax should be imposed on low

income people or on orphanswealth, or levied at a rate thatinvolves injustice because of its

regressive or progressive nature.Taxes should thereforecomplement and not contradict

the Zakat System.


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4. A Tax, should never carry or assumethe same obligatory and permanent

nature ofZakat. A Tax which would beoriginated for purpose of achieving agiven fiscal or economic target (thatcould not be done by Zakat) has to be

removed once this target is done.

Otherwise taxation would entail a sinful

bedaa (origination of idea or actionthat changes religion) and injustice..


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5.Taxation with respect to Non-Muslims All previous principles of taxation are applicable

to Muslims. The case of Taxation with respect to

Non-Muslims requires different treatment. Non-Muslims will necessarily be subject totaxation because Zakat is not collected from them.

Islamic Shariah provides for treatment ofNon-Muslims within framework ofJustice and SocietysPublic Interest.

Taxes imposed on Non-Muslims in our time haveto take into consideration their role in the Islamiceconomy, benefits they draw from public utilities,

their ability to pay and their socio-politicalobligations. Full citizenship of Christians in some

contemporary Muslim societies may call for equalfiscal treatment with Muslims.


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Examples of Taxes and their Role withinan Islamic Economy

First: Taxation against Zakat avoidance Collection of Zakat by a Central orLocal

Governmental authorities in our time is not

expected to run smoothly as in early days ofIslam. A percentage of Muslims, whose Islamic culture or

belief is not profound are bound to avoid Zakatpayment by misusing Shariah rules.

Taxation can play a definite preventive role to stopor minimize Zakat avoidance in contemporaryMuslim Societies. Collection of full Zakat revenuesis quite important particularly for categories which

are classified as poor or ultra poor in the society


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Second: Taxation for Macro-EconomicAdjustment

In a contemporary Islamic economy Taxation canbe used within boundaries of Shariah and itsintents, to affect or modify macro-economicvariables.

For example at times of inflation taxation can beused to reduce Aggregate Expenditure byimposing taxes on luxurious consumption.

Taxation is also needed to modify the structure ofproduction if resources are allocated in a pattern

which is unfavourable to goods and servicesneeded for poor and low middle income groups, orin a pattern that is unfavourable to economicdevelopment. These are, in fact, important issues

for all developing Muslim countries.


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Third: Taxes against harmful consumption Taxes can be levied to discourage any kind of

consumption or activity that may be potentially

harmful to human health or to Islamic ethicalvalues. ) ( Consensus of Muslim Fuqaha is always needed

before issuing fatwa (Shariah pronouncement)that a new kind of consumption X or Z is definitely

harmful and therefore should be prohibited (i.e.Haram). Whereas Consensus is often difficult to reach and

Fatwa is delayed, harm of X or Z has manifestedpractically in some cases, and potentially isexpected to spread and becomes serious.

Examples: heavy taxes that can be imposed ontobacco smoking, or on some types of undesirableentertainment.


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Fourth: Taxes against Pollution Islamic jurisprudence has rules against water and

air pollution since the early centuries of Islam. The problem of water and air pollution has

become so serious in our time and all the world isseeking a cleaner and healthy environment.

Taxation of all activities which cause air or waterpollution is economically better solution thanclosing these activities. Taxation should sooner orlater encourage these activities to take all

necessary technical measures that would stoppollution.


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Fifth:Taxation forNational defence

Taxation is proposed for strengtheningnational defence if Zakat revenues areinsufficient.

Taxation for this purpose may becomequite urgent if the Muslim Nation is,facing foreign aggression or expected

to be attacked by foreign forces.


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The Role of

PUBLICEXPENDITURE


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Traditional Public Expenditure Pattern

Historically, over centuries, Public Expenditure inthe Islamic State was mainly based on ZakatDistribution or emplyment.

Zakat resources according to the Quran should bespent on eight categories; The Poor, Needy, Zakat

collectors, new converts to Islam, the heavilyindebted people, Slaves and Captives that have tobe liberated, Way farers, and for the Cause ofAllah SW.

The Islamic State also spent on public works and

infrastructure such as bridges, irrigation canalsand road construction. This Public Expenditurerelied upon Revenues from Kharaj and Jezyawhich also represented other important regularsources to the treasury particularly in the earlycenturies.


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Public Expenditure :Determinants in anIslamic Economy

The Philosophy, Values and Institutions of theIslamic System determine its Social, andEconomic targets.

The Scope and Nature of the GovernmentEconomic and Fiscal Role is determined within

the System Social, and Economic targets. The Size and Pattern of Public Expenditure in

the long run would basically be shaped by theGovernment Economic and Fiscal Role.

The basic and permanent Role of PublicExpenditure would necessarily depend onprevious determinants: namely the Economicand Fiscal Role of the Government withinpolicies designed to fulfil the System Social, and

Economic targets.

Fi t


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First:The Government within Philosophy, Values, andInstitutions of an Islamic system and upon its

responsibility of Disbursement and Employmentof Zakat resources would always be responsibleto assign Public Expenditure for:(a) Covering needs of all Zakat recipients in the

household sector, and in particularsustaining

Low-income categories (the Poor and Needy)with necessities, and nourishment. (b) Investment that would directly or indirectly

benefit the poor, needy, wayfarers, and (c) Subsidies to help micro or small enterprises

facing particular financial difficulties or heavyindebtedness.


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(d) National Defence, to protect the MuslimNation from actual or existing enemies or fromexpected or potential ones

(e) Provision and maintenance ofDomesticSecurity and the Judicial System,

(f ) Maintenance and running of the Hesba System . This system ensures that markets arenot involved in activities or transactions that areprohibited by Shariah, but by no means intervenesin the private economic activities or in marketmechanism.

All previous items of Public Expenditure would befinanced from Zakat revenues.

yet in case of insufficiency of Zakat revenues PublicExpenditure will depend on non-Zakat resources (taxesand/or loans).

S d P bli E dit b d T t


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Second: Public Expenditure based on Targetsbehind additional Taxes.Within the spirit of the Islamic Taxation System,Government is responsible of Employment ofTax revenues in accordance to purposes forwhich a tax was imposed.

Examples: Government would be responsibleto assign Public Expenditure for:

(a) Medical treatment of people who suffer illnessbecause of tobacco smoking, when a Tax isimposed to for this purpose.

(b) Educational Programs designed to makepeople aware of the harmful effect of types ofentertainments that implicitly carries non-ethicalvalues, when a Tax is imposed to for thispurpose. Oralternatively for the same purposeproviding or subsidizing types of entertainmentsthat are Shariah permissible.


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(c) Financing Medical Centers that offer free

treatment to people suffering from pollutionas well as Research Centers which target thedevelopment of cleaner and environmentalfriendly methods of production. This when

Taxes are imposed for purposes of fightingPollution and improving the environment.

(d) Financing Research Centers for purposesof modernizing and improving the defence

system when a Tax is imposed for suchtarget.


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Third: Public Expenditure for Public Utilities.

Within the Islamic Conception of Welfare the State is

responsible for establishing, maintaining and runningnecessary Public Utilities.

(a) The State during the period of the Prophet Pbuhshowed concern with provision of clean water forhousehold use.

(b) Later on, in the early Hijri centuries , with the greatexpansion of the Islamic State, the governmentconstructed and maintained roads, bridges and canals forirrigation.

The government during the Abbasside State assignedPublic expenditure for purposes like: building houses forpoor people, homeless widows, helping young men gettingmarried, giving financial support to scholars and students ,translation works, and founding public libraries.


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HISTORICAL EXPERIENCE SHOWS : With the great expansion of the Islamic

State, Income and Wealth were growingfast as well as Zakat and non-Zakatrevenues.

Within the Islamic Conception ofHuman, Social and Economic Welfare theSize and Pattern ofPublic Expenditure waspositively influenced by income and wealth

conditions.

H F P bli E dit At P t C


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How Far Public Expenditure At Present CanBe Extended For Public Utilities?

Within an Islamic System Three Main Factorsdetermine the answer of this question:

(1) The Islamic conception of social and economicwelfare, which is never in opposition withbetterment of human, social life as long as this isdoes not mean targeting excessive Affluence orExtravagance.

(2) The Nature of Public Utilities, For examplePublic Necessities that cannot be provided by

individual or private efforts or through Marketwould be the responsibility of the Government.

(3) Fiscal Policy and availability of PublicRevenues that can be assigned for extra Public

Expenditure.


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The criterion of Dharorat al-

Khums (the FiveNecessities) of Imams Ghazali andChatbi, when considered at the

macro level can be very useful inhigh lightening some of theNecessary Public Utilities that theGovernment within an Islamiceconomy would be responsible for.


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For example Basic Education is related toNecessity of teaching Religion and IntellectMaintenance. Provision of Sanitations, andMedical Care are related to Necessity ofMaintenance of Human Life, Family and

Progeny. Argument asserting that the Governmentwithin an Islamic System is responsible forprovision of Utilities such as Basic

Education and Public Health, Sanitationsand Medical Care , means that PublicExpenditure has to be expandedcontinuously with growth of population.

H


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However, because of the Shepherd-likeNature of the Islamic government, andLiberal Nature of the Economic System,Extension of the Government Role inprovision of Public Utilities should besubject to careful economic argument

within Shariah and its intents. We have to know: Where from financial resources would be

obtained to cover Public Expenditure? OrHow far income and wealth conditionswould allow the Government to providenecessary resources for an expanding

Public Expenditure?


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financial resources: Where from? A Surplus in Zakat Revenues would help in

extending Public Expenditure to cover some typesof Public Necessities or Conveniences ashappened in the past.

Taxation is one solution to provide the needed

financial resources. However, Alternatives to Taxation have to be

explored:

Examples; (a) Public borrowing , (b) B.O.Tcontracts allowing the Private sector to establishand run these utilities on commercial bases, or (c)Voluntary Private Efforts on non-commercialbases, or (d) Revival of the Waqf System >>


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Revival of the Waqf System andEffect on Public Expenditure,

Whether or not Public Utilities can be providedthrough non-governmental Organizations on non-Commercial Basis a matter that Should beExplored.

The Waqf System which relies on private altruisticmotivation played a serious role in the past inproviding Many Types ofNecessary PublicUtilities.

A Revival of the Waqf System atPresent would reduce the need toextend Public Expenditure in the area

of Public Utilities.

AT PRESENT:


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AT PRESENT: With majority of Muslims in the Islamic World are

living in poverty: What is the Role of Public

expenditure in providing Public Utilities, otherthan those provided through Zakat Expenditure? Within the Islamic Conception of Human, Social

and Economic Welfare, Public Expenditure shouldat least coverSufficiency Level ofPublic Health

and Education for low income groups (the poorand needy). Therefore Public Expenditure would at least cover

provision of clean water for households,sanitations, and health care for common diseases

as well as Primary or Basic Education for childrenof poor families.

The government, most likely would have to rely ontaxation for meeting such Public Expenditure. Yet

other alternatives to Taxation have to be explored

P bli E dit Oth D t i t


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Public Expenditure :Other Determinants

In the short-run

Public Expenditure in the Short-Run isdependent on;

1. The Scope andN

ature of the Role which anIslamic Government is permitted to play inthe economy for solving Macro-economicProblems.

2. Available Public Revenues, and ability aswell as flexibility to change the size ofthese revenues or to re-allocate themaccording to targets and policies.


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Cases for Discussions:

Inflation accompanied by higher national incomeand lower unemployment : Should the governmentintervene by reducing Public Expenditurevolume? Which items could be reduced and towhat extent? ) (

Recession or Depression where income fallsbelow full employment level and unemploymentincreased above its normal level: Should thegovernment intervene by increasing PublicExpenditure volume? Which items could be

increased and to what extent? ) ( Case of Stagflation?


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PUBLIC DEBT


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Framework History. WHY Public Debt?

Public Debt is Optional and could be

Avoidable Islamic Ethics and Rules concerning

Indebtedness in general

Islamic Ethics and Rules concerning PublicDebt

The Economic Scope and Role of Public Debt

Hi t


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History The Prophet Pbuh encouraged Good Loans, in

money or in kind, to finance the Muslims army or

to provide Muslim households with clean Water. Companions of the Prophet Pbuh who granted

Good Loans waived voluntarily their rights inthese loans. Thus Loans had no burden at all onBeit-ul-Mal (Treasury).

During the late Abbasside period many Rulersresorted to taxation ( frequently on unfair basis)and increasing the supply of Fulus (Cheap MetalMoney) rather than Public Borrowing, in order to

cover deficit which resulted from a greater volumeof Public Expenditure above Public Revenues.. The economy of the Islamic State increasingly

suffered from unfair taxation and greater cheapmoney supply. (Ibn-Khaldun and al-Maqrizi).


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In the Late period of Ottoman State, Sultan Abdel-Hamid, and other Muslim Rulers, borrowed on

interest-bases from European Money Lenders. In our time the majority ofMuslim States have

accumulated high Public debt from Domestic aswell as foreign sources on interest-bases which isentirely against Shariah.

While Public Debt is continuously growing in theMuslim World, Majority of Muslim States are not

collecting Zakat, and are imposing direct andindirect taxes on Muslim citizens.

All this is absolutely against Islamic Sharia and itsintents.

Debt


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WHY PublicDebt ? In a situation where Actual or Planned Public Expenditure

exceeds available Public Revenues. First : Should we think that such situation is not coerciveor binding, we have to find out ways to reduce PublicExpenditure in a manner that does not affect public interest.

Second: Should we accept such situation as inescapableor undisputable , we have to find out means to cover theresultant or expected Budget Deficit:

(a) The government resorts to Borrowing from individuals,corporations, financial institutions in or outside the

country, and from other governments. Accordingly PublicDebt results from Borrowing.

(b) The government resorts to Taxation. ( Another option but unfamiliar one is selling some real

Public Assets owned by the State to finance Deficit).

Public Debt therefore could be :


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Public Debt , therefore, could be : Avoidable: Unless emergencies or

urgent circumstances such as war, arecalling for greater public expenditure . Optional : Whenever it is possible to

cover Budget Deficit by Taxation orother means instead of Borrowing. As Public Debt results from Public

Borrowing, its benefit to the economyor its burden depends on selectingBorrowing in place of Taxation or othermeans.

Indebtedness Within An Islamic Frame


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Indebtedness Within An Islamic Frame

Islamic Ethics and Shariah Rules are

relevant to debt between individuals, i.e.Indebtedness at the micro level. We have to recognize these Ethics and

Rules and see how far they are applicable

(or should be applied) to Public Debt, i.e. atthe Macro level.

In its essential respect Public Debt is not

different from the debt of individuals. It is avoluntarily transfer of Money or Assets fromone party to another, i.e. from a lender orcreditor to a borrower or a debtor.

Indebtedness: Ethics and Rules


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Indebtedness: Ethics and Rules

Debt Repayment is a Religious Obligation:

1. On Shariah grounds, with exception of a PurelyBenevolent Loan, the Debtor is obliged torepayment of the loan to the Creditor, as mutuallyagreed between them when Debt is made.

2. The Debtors, financial and moral obligationtowards the Creditor is not dropped even by theincidence of his (her) death. The Children or

relatives of the deceased person has to pay hisdebt from any wealth that he left. If the debtor leftnothing and non of his relatives can pay for him(her) the State should pay his (her) debt from

Zakat resources.

Ethically, a loan is given voluntarily on basis of


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Ethically, a loan is given voluntarily on basis ofbenevolence . Thus:

1. Any increment taken above the principal from the debtor

on account of indebtedness, is unjustifiable andconsidered Riba (usury or interest) which is absolutelyprohibited. In Hadith, the Prophet Pbuh says the onlyreward for a loan is thanksgiving and the repayment

2. Ethics of Benevolence urges the debtor to pay back his

(her) debt before its due date if he becomes financiallycapable of doing this. On the other side the Creditor isurged to generously grant an extension to the Debtor ifinsolvent and incapable temporarily of making duerepayment or even to grant a debt remission

(Quran, Sura 2, Verse280).3. A Debt, whether is paid in due time, before or after such

time, should be exactly equivalent in value to the amountwhich the debtor received, no more and no less.

In Principle Indebtedness is undesirable


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In Principle, Indebtedness is undesirable1. Borrowing is undesirable unless circumstances

forces the person to do so. For example,

borrowing is permissible because of inability toget basic necessities of life, or having to settle afinancial obligation which is beyond his (her)own resources.

2. Hence borrowing is absolutely Undesirable forpurposes of getting goods or services that wouldgive the debtor comfort in life or luxury.

As a Rule Borrowing should be

regarded as a last resort, becauseIndebtedness in itself is undesirable.

Islamic Ethics and Rules concerning


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Islamic Ethics and Rules concerningPublic Debt can be reached bydrawing an analogy between Privateand Public Debt.

Two Main Factors are bound to affectsuch an analogy and reflectdifferences:

(a) Differences between Micro andMacro considerations.

(b) Nature of Governmentresponsibilities which are differentfrom that of individual or private

responsibility.

1 O Sh i h d th G t ld b


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1. On Shariah grounds, the Government would beobliged to repayment of Public Debt. It can notfor any reason or under any circumstances

waive the rights of the Creditors whether thesewere individuals, banks, foreign governments, orelse.

2. Repayment of Public Debt should be executed

promptly in due time according to conditionsthat have been declared by the governmentwhen the Debt was made.

3. Since interest (usury) is prohibited, an Islamic

government is not allowed under any conditionsto obtain interest-based loans from banks,institutions or foreign governments, or to borrowfrom the public by issuing treasury bills, bondsor any interest-bearing securities.

4 Public Borrowing from non-Islamic


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4. Public Borrowing from non-Islamicbanking, financial institutions orgovernments, even if interest- free andwithin Shariah boundary should beminimized. Foreign Investment is a bettersubstitute.

Experience in the Islamic World showed thatthe political consequences and influence offoreign indebtedness is quite undesirable,

particularly under conditions of growingPoverty Gap and continuously IncreasingDebt.

5 An Islamic Government should seek a


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5. An Islamic Government should seek aGood Loan before gettinginvolved in Public Indebtedness.

We have to Know what is a Good Loan in Islam.

The government may accept from individuals orinstitutions Purely Benevolent Loan which are not

repayable by definition. The government should encourage the public to

finance voluntarily necessary Public Goods andutilities through interest-free orGood loans.

Revival of Islamic Culture (through education) andmoral suasion can play a major role in promotingthe role of Good Loans at the Macro Level as bestalternative to Public Debt.

We have to Know how a Good Loan System


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We have to Know how a Good Loan Systemcan be revived in our time.

(a) Good Loans may be arranged through issues

of Sukuk or any interest-free securities. (b) It would be quite important to avoid any

serious depreciation in the real value of a GoodLoan interest free securities over years. The

nominal value of such securities may be fixed interms of Gold or in terms of a weighed averageof some selected transferable currencies.

(c) Good Loans securities should be redeemable

according to a given time schedule. Furthermore we have to know how Good Loans

played very serious role in providing PublicUtilities in the Past through non-governmental

entities. (System of Waqf)

6. If the government resorted to Taxation as


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6. If the government resorted to Taxation asa means to repay Public Debt, it shouldstrictly maintain Islamic Rules Concerning

Taxation (as previously exposed). 7. A Public Debt should not be employed for

financing luxurious or semi-luxurious Publicgoods or Utilities.

This Rule is established by drawing ananalogy between Public and Private Debt.

The Rule should be confirmed by the

government fundamental responsibility inobserving and promoting Islamic rationalpatterns of consumption and investment atthe macro level.


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Contemporary Experience shows that while

Public Expenditure and Public Debtincreased together in an alarming manner inmany Muslim Developing countries, thepattern of government spending has been

far from being restricted to PublicNecessities.

In an Islamic economy this situation should

be subject to correction.

8. A Public Debt in an Islamic system should


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ynever be initiated or used for businesses oreconomic activities in expectation of Profit.

First of all because borrowing, whether on privatelevel between individuals or on Public level, is nota normal mode of Islamic Finance.

Second, because government within an Islamic

Frame should not be involved in business and,hence, enter into competition with the Privatesector. For centuries eminent Muslim scholarswere against government involvement in trade orbusiness as this thought would inevitably be

leading to State Monopoly and contradict its basicresponsibility in fairly monitoring markets. Government should, within the Islamic conception

ofPublic interest, do its best to provide mostfavourable investment climate to private activities.

I l i t P bli D bt i


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In secular economic systems Public Debt isemployed in financing public projects which areexpected to realize profits or at least whose future

returns would pay off their Debt .

This policy has been familiar in many developingcountries, among them Muslim countries,

particularly during the 1960s, and 1970s .

The policy proved to be mostly unsuccessful asPublic Projects financed in such way could notonly pay their Debt off ,but also faced losses.

Governments, in consequence, had to borrowagain and again or had to issue new money, notonly to repay Public Debt used in financing suchProjects but also to subsidize them.

9. The government within an Islamic system


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g yshould resort to Public Borrowing onlyunder emergency conditions.

Emergency in all cases ,at Micro or Macro level,would permit Indebtedness. In principle we should not resort to Emergency

,which is synonymous to Dharora, unless thegovernment have ruled out all other Shariah

permissible alternative options to PublicIndebtedness as impossible or contrary to PublicInterest .

It is in the Islamic Public Interest that cases ofEmergency Should be Clearly explored andDefined .

These cases should not be confused with othercases that are not really urgent and can be treatedwithout resort to Public borrowing.

Examples of emergencies:


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Examples of emergencies: (a) Warand the need to expand public spending

for defence.

(b) Serious economic depression ( lower level ofreal GNP accompanied by higher level ofunemployment) that would necessarily require

greater public expenditure in order to raise thelevel of Aggregate Demand.

(c) Acute shortage of necessities, e.g. basic foodstuffs, in domestic markets and inability of the

private sector to solve or eliminate the problem.Under which conditions government interventionis required and Public Borrowing would be neededto cover exceptional public spending on imports

of the required necessities.

(d) The private sector in all MuslimD l i t i ld b


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Developing countries would never beattracted to Investment in industries thatneed heavy finance, advanced technology,

and skilled labour while not giving quick orattractive returns before a long period oftime.

In case if these industries are quite strategicto economic development the governmentwould have to intervene in accordance to theconception of Rational Public Interests . Careful feasibility studies should bedone before such intervention.

Public borrowing would be necessary toestablish such industries and repayment ofsuch Debt can be arranged in the long run byselling successful projects to the privatesector and/or by taxation.


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*

Thanksto all who Listenedand Carefully Followed

the Presentation.*

Thanks to Allah SW***

Abdel Rahman Yousri Ahmad

the role of taxation_ expenditure and debt

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