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Suggestions for reformingthe global banking system   – what have Islamic    banking, fractional reserve system and theChic...
Suggestions for reforming the global banking system                                             100% reserve banking syste...
$100                      $100                      $100                      $100                      $100              ...
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Banking reform proposals

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Fractional reserve and genuine Islamic banking where the core deposits are based on profit sharing and the core financing operations are for asset financing, the client actually getting ownership o the assets - is actually a more stable and efficient alternative.

Veröffentlicht in: Wirtschaft & Finanzen
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Banking reform proposals

  1. 1. Suggestions for reformingthe global banking system – what have Islamic banking, fractional reserve system and theChicago Plan in common? Tariqullah Khan
  2. 2. Suggestions for reforming the global banking system 100% reserve banking systemThe current banking system, which is based on fractional reserve, allegedly empowers the banks to generatefinancing, far exceeding the needs of the real economy. Scenario-1 of the next slide shows this possibility. 1)conventional banks create credit based on the credit worthiness of clients rather that financing a real economictransaction. 2) In the economy there are users of funds with different credit ratings and with different spreads for risksand 3) hence a $100 initial credit, which in the first place is not linked to the real economy, can create an unlimitednumber of subsequent credits. As a result, the financial sector of the economy far exceeds the real sector and weexperience reoccurring banking instabilities and financial crises. One solution is the replacement of the currentfractional reserve banking system with a system based on 100% reserve, curtailing the banks’ power of credit creation.See, the August 2012 - IMF working Paper (WP/12/202) “The Chicago Plan Revisited” by Jaromir Benes and Michael Kumhof -http://www.imf.org/external/pubs/ft/wp/2012/wp12202.pdf Does Islamic banking make a difference?Islamic banks are creating finance by two different variants of deferred trading, described as Scenario – 2 and Scenario– 3 of the next slide. Scenario -2: This scenario represents a case in which the client is genuinely interested in buyingan asset (e.g., a car) with the financing of the bank in the form of a deferred sale, known as financial Murabahah.Without the asset in question, in fact there is not possibility for the bank to create finance. Hence finance remainswithin the boundaries of the real economy. By consensus, this scenario represents a core legal and genuine Islamicfinancing arrangement , which obviously is driven by the financing needs of the real economy.Scenario-3 , in contrast, represents a situation in which the client is not interested in buying any asset, rather, theclient is interested in obtaining cash from the bank. The asset is merely used to complete a legal trick and hence thesame asset can be used for creating multiple financing transactions exactly, like the first scenario of interest-basedcredit creation. Therefore, Islamic banking can make a difference only if its genuine form is followed. The genuine form also allows for harnessing the benefits of fractional reserve system, while strictly tying finance creation with the needs of the real economy; simultaneously, also achieving the goals of the Chicago Plan in promoting banking stability.
  3. 3. $100 $100 $100 $100 $100 $100 $100 $100 Tawaruq $100 Tawaruq Tawaruq $100 Tawaruq Tawaruq Financing Scenario -3: But if we make non-genuine Murabahah like Tawaruq as the core business, this scenario prevails which is almost similar to Scenario - 1, where financing gets out of the real economy. BANK Murabahah Financing Scenario-2: If we make genuine Murabahah as the core business of banks, this scenario prevails, for asset where financing cannot get out of the real economy. In this scenario, we can benefit from the advantages $100 of the fractional reserve banking system but at the same time also avoiding the excessive and unhealthy credit creation by banks. 5% interest 7% interest 10% interestFinancing Scenario-1: If we make lending as the corecommercial activity of banks, financing gets out of the real 15% interesteconomy and this scenario is the real possibility as lending will 20% interestbe primarily based on ratings and credit risk. $100 $100 $100 $100 $100