Local Law Info : Debt in Islam

Mere debt creation does not increase the net wealth of society as every addition to social wealth through it is cancelled by deduction of a similar amount of wealth owed. Meanwhile the cash acquired through a debt can be put to uses that may or may not result in actual wealth creation. If wealth is in fact created, it may be equal to, larger than or less than the cash input. The economic consequences will be different in each case. If the additional wealth so created is larger than the cash invested, then society stands to gain in view of the net increase in social wealth after the debt is repaid. If the additional wealth is equal to the cash invested and, therefore, to the resources used, there is no net gain, as the social wealth remains what it was, after the debt is repaid. In case the cash invested results in wealth creation but by an amount less than the cash invested and the resources used, society is poorer to the extent of the loss, as the borrower must repay the debt by compensating for the loss out of existing wealth owned or acquired by him/her. The same applies to cases in which invested cash is totally lost, no wealth creation having taken place. In both cases a redistribution of wealth in favor of the creditors is involved. 

I am grateful for the insightful inputs from Professor Mohammad Anas Zarqa and Dr. Abbas Mirakhor. 1 As a method of creating additional or new wealth, debt creation (or debt finance) is inefficient as well as inequitable. It is inefficient as the finance so provided goes not for the most promising projects for wealth production but to the most credit-worthy borrower. It is inequitable as it redistributes wealth in favor of suppliers of finance, irrespective of actual productivity of the finance supplied. Since both these points are well argued in Islamic economic literature, I will not repeat them in this paper. One important point to note, to exchange money now for more money later is fundamentally unfair due to the uncertainty that accompanies the passage of time. Money needs to be converted into goods and services before it can enter into the process of production, the source of possible additional value creation. The results of such process of production have to be reconverted into money before money can be paid back to the one who gave it in the first instance.