Inflation and Islamic economy.

Inflation and Islamic economy

Introduction

Inflation is persistent increase in the general prices of commodities and services in the economy over a specific period of time. Some economists defined inflation as an ongoing increase in the general prices level in the economy. Inflation increase in the unemployment, overall purchasing power and according to some researchers due to inflation the social unrest also increases. The magnitude or the inflation rate is defined as the annual percentage change in the prices. There are two types of inflations listed below:

First is cost push inflation which rises due to the increase in the overall cost of production of goods and services. Due to this the wages of labor increases and results in the cost push inflation. Second is demand pull inflation which rises due to the income of people, rather due to the increase in the disposable income of people. The increase in the disposable income generates more demand for goods due to it the prices of goods increase. The inflation hence decrease the value of money and is harmful for any economy.

Furthermore, inflation can be seen as a results of the following: inflation can happen due to the speculation and interest, inflation can rise due to increase in supply of goods, and inflation may happen due to consumption of luxurious goods by a specific group of people. More prevailingly, there is more inflation in the countries which are bases on either capitalist system or socialist system from this I concluded one thing that the inflation rises due to Fiat Money. Fiat money is a money which is not backed by any real commodity like silver and gold and fiat money has no intrinsic value all the paper monies are fiat money which are not backed by real commodity in the banking systems. Fiat money can be easily printed and if supply of this money increases, everyone will have a lot of money in his hand and obviously the prices of commodities and goods in the economy goes up. On the other hand, if we use real commodities in place of fiat money, we cannot increase their supply as easily as we printed the fiat money. This commodity money will become stable and inflation will not exist in the economy.

If we consider the conventional banking, there is a lot of financial debt it is due to the loans and the flow of Fiat money from the person who has more fiat money to banks and from banks to the people who actually need no money rather they need commodities of their daily life. The banks lend them and in return, expect interest from them and they (all borrowers) if couldn’t pay back the whole financial system will crush.

What causes inflation in conventional system?

As inflation is upward trend in general prices and according to many economic school of thought increase in money supply is a cause of inflation and in monetarist’s school of thought paper money is a major cause of inflation. Hence it is obvious from literature that money supply is an active agent in causing inflation because if money supply increases people have more money to buy goods and in contrary, that money is not backed by the real good or commodities and hence the money is called fiat money and the supply of goods is limited so inflation happens.

To regulate the money supply or to control the money supply in conventional economics interest rate is used as a tool but due to interest rate the markets become imperfect and due to imperfection of market, the whole economy becomes weak or simply the trade don’t work effectively which is a drawback in the conventional economic systems.

Another major cause of inflation in the conventional economic system by a Muslim scholar Mufti Muhammad Taqi Usmani in his well-known book” introduction to Islamic finance” is that the conventional economic system does not work on the basis of market forces. He further argue that the gambling, speculative transaction and demand and future contracts are the evils which cause the inflation and market imperfection.

Solution of inflation in Islamic economy

If we study the Islamic system in depth there is no evidence of inflation. The only reason is, in Islamic system, workers collect money through participation directly (giving real services as a labor) or indirectly in business cycle of the country. Therefore, in Islamic financial system supply of money is backed by some production of real goods and commodities that leads to no inflation. But there are exceptions in every financial system.

If we control the banking system from implementing the interest rates and make them Riba-free banking, if the demand pull inflation in the economy is tackled, cost push inflation is minimized and money is used for just the purpose of transaction or money is used as a medium of transaction rather than good or source of illegitimate earning than the Islamic system is the extraordinary and the best of the best system among all.

The problem of inflation is not discussed very extensively in literature but there are few arguments that why inflation cannot be a serious problem in the Islamic economy than in capitalism. Listed below are some heavy reasons that why an inflation cannot be a serious issue for the Islamic economy, or how a system can based on Islamic norms can defend the inflation to prevail: 

1.      Riba-free banking: Riba-free banking can dampen the overexpansion of credits which is a very serious issue and challenge for the conventional banking. That the money and credit change hands thousands times without any real trade or it simply has no intrinsic value. Due to this changing of hands by the single money, the fake and bubble of trade happens instead of real and actual trade which leads to inflation and the whole financial market stumble due to this.

2.      Demand inflation: as I have mentioned in the introduction of my article than the demand pull inflation rises due to increase in the disposable income of people which leads to overall increase in prices. But in the Islamic economy the supply-demand chain works and the trade of real and intrinsic goods happen which will not let the supply of money to over increase, so there will be less inflation. Since no one will try to live far beyond his means or limits and the evil of inflation will die.

3.      Cost push inflation: this type of inflation rises due to the overall increase in the cost of production of goods and services, which also leads to increases in the labor wages also. Now in the Islamic economy, producer will not increase his/her profit by increasing the prices of goods and commodities and neither will the workers demand higher wages above the fair level because both know that the inflation will not happen as the interest-free loans from gov’t are in their favor.

4.      Money as a good: In the conventional economic systems( capitalism and socialism) money is now used as a good, the money is transacted in the banks for the purpose of getting extra money from it and without addition to the money, they gain tens of thousands time on its real value. Now according to Islamic system money should not be used as a good for transaction purpose rather it should be used as a medium of exchange. The interest gained from the money without trading and without a real phenomenon at the back of this money creates a fake economy and supply of money increases abruptly which creates inflation. If we just limit the paper money or the fiat money for the transaction purpose, than we can stop the inflation. Otherwise if we use money for the purpose of generating money, than there will exist inflation and hyperinflation as well.

Price control in traditional Fiqh

In the pre-Islamic times the prices of goods and prices of factors have been determined through the automatic working of market. No one has authoritatively forced any buyer or seller to buy and sell at lower or higher prices than that of the market determined price, and neither the workers or labor were forced to accept the lower prices than market.

Islam also accepts this system and brought some changes to come up with the best results and bring the social stability. These changes were brought by the holy teachings of prophet Muhammad (PBUH). It is hadith reported by Anas that “someone came to prophet and appealed to fix prices in the market but prophet declined the request”. Another person came with the same proposal and prophet rejected him as well by saying that I can’t do injustice with people it is in the hands of God to fix price.

It is also quoted in the literature that Imam Malik report on Umar bin khattab intervention in the market. Umar bin khattab passed by a man who was selling dried grapes in the market and Umar went near to him and told him either to sell the dried grapes at higher prices or leave the market.

While imam Shaffi has presented a contrary version of the same incident by saying that Umar bin khattab went to the person who was selling the dried grapes at lower prices and told him that “whatever I told you in the market was neither a verdict nor an expert opinion, so you can sell the dried grapes at whatever prices you like.

All the four schools of fiqh comprising of: Shaffi, hanbali, maliki and hanafi presented their perspective about the prices control in the market. From the above examples we came up with the point that, the followers of Imam Shafi and Imam ibn Hanbal were against the price control or intervention in the market. They were of the view that no one or no authority has a right to fix prices in the market due to two main reasons: the prices of the goods depends on their abundance and their scarcity. They put forward their argument that if we interfere in the prices, than there will be increase in the prices so we must avoid the price fixation.

This school of thought give us the message that price control constraint the freedom of business and it also leads to the black marketing.

When there is a shortage of any good in the market, and if we control prices than it will create black marketing. It is justified that for example there is shortage of wheat and people demand more wheat, if we don’t fix prices that the seller will sell at a bit higher prices but if we fix prices than the fixed prices if not suits the seller than he will start to sell as a black marketing. Meanwhile, this black marketing will result in the inflation in the economy. This school of thought presents some relevant hadiths which were against the price fixing. Moreover, when we fix prices by increasing or decreasing prices, than the consumers are not satisfied neither the producer gets their needs satisfied which is injustice. While on the other hand, the second school of thought argue that there should be price control to regulate the fair level of prices and to run the economy smoothly. This school of thought also give some references of hadiths to defend their narrative.

So in the fiqh there is a way to control the inflation through the price control and if this is implemented by the systems prevailing now than there can be less inflation and the direct involvement of labor will be used in the production and hence the money created will be thus proved by some commodity or real good which cannot create inflation.

Conclusion

My objective is to provide information about the inflation factor in the conventional economic system and its comparison with the Islamic system and examples from Islamic perspective about how to control the inflation. In fact, the Islamic system encourages the individuals to earn money through the direct involvement in the business cycle of the country and it also force and implement the system which is in the favor of the societal well being and discourages the inequality of the citizens through the over accumulation of wealth by illegal means. Due to inflation the major part of wealth goes go the people who are involved in gambling, speculative transaction and other contracts which is completely discouraged in the Islamic economy, because due to speculation and gambling the factor of greediness emerge in the individual which is illegitimate in Islamic system.