Interest-Free Banking

Interest-Free Banking in the World and in Turkey

Given the historical background of interest-free banking, which is based on participating in profit and loss, it is seen that the need for interest-free banking in modern terms arose from the beginning of industrialization movement in Islamic countries in the 20th century and the sudden increase in oil price in 1970s. Tradesmen used to put personal savings to good use on the base of profit-loss sharing. However, upon industrialization, an interest-free bank was needed in order to bring such personal savings together for financing big investment projects.

Interest-free banking dates back to Hammurabi, who reigned in Babylon between 2123-2081 B.C. Chapters 100 – 107 of the Code of Hammurabi indicated how to set loan operations and emerged as the first example of interest-free investment in the history. Upon the birth and spread of Islam, basic concepts of contemporary interest-free banking such as loan, partnership and leasing developed and had a field of application in a wide geography.

The most significant example of interest-free banking is Islamic Development Bank, of which Turkey is a member. In 1984, Turkey was entitled to have a permanent member in the Board of Directors of Islamic Development Bank and thus reached the position to play a very active role in the largest financial institution of the Islamic world which brings fifty countries together under the same roof.

Today, interest-free banks including classical banks such as Citibank, Barclays Bank, Commerzbank operate in a geography extending from South Africa to Kazakhstan and from USA to Pakistan and in more than 60 countries.

Having pursued import-substitution growth policies until 1980s, Turkey has adopted an export-oriented growth strategy aiming at opening up to the world since then. The said foreign expansion strategy has enabled to bring the financial innovations existing in the world in our country. In Turkey, Capital Markets Law No. 2499 was enacted on 28.7.1981 and Istanbul Stock Exchange was established in 1983. Upon the establishment of the Stock Exchange, all capital market instruments started to be put into practice one by one. In the same manner, a money market was established within the structure of the Central Bank of Turkey and several new institutions such as Interbank market, exchange offices, leasing, factoring companies, capital market intermediary institutions were included in the financial system. Due to the currency crisis, foreign capital need and dysfunctional economic wheel of that time, the government permitted the establishment of foreign banks and 13 foreign banks opened branches in Turkey. During that foreign expansion period, interest-free banking, which had been successfully implemented in the world since 1970s, was put on the agenda of Turkey under the prime ministry of Bülent ULUSU. Decree No. 83/7506 of 16.12.1983 prepared by Prime Minister Turgut ÖZAL and approved by President Kenan EVREN enabled our citizens to put their savings to good use on the base of interest-free principles. Pursuant to the Law on the Amendment of Banking Law No. 4491 published on the Official Gazette dated December 19, 1999, some provisions of the Banking Law No. 4389 were amended and Private Financial Institutions were included in the scope of the Banking Law. The primary objective of the Private Financial Institutions practice was to promote personal savings, which was low in Turkey, and to bring mattress savings that tended towards real estate, foreign currency, gold, etc. especially due to religious beliefs in the economy. According to the Banking Research conducted by PIAR at that time, rate of the people who did not deposit money into classical bank accounts because of their religious beliefs was 15% in Turkey. The secondary objective of the establishment of PFIs was to provide resources to our country from gulf countries such as Saudi Arabia and Kuwait.

6 Private Financial Institutions have been established in Turkey since 1985 following the issue of the Decree on the Establishment of Private Financial Institutions No. 83/7506 and the Communiqués of the Undersecretariat of Treasury and Foreign Trade and of the Central Bank of Turkey. In 2006, private financial institutions gained the status of participation banks. Today, 4 participation banks operate in Turkey.

Participation banks are established pursuant to the Cabinet Decree and operate in accordance with the Banking Law and have assumed important functions in bringing mattress savings in the economy for 24 years. Being venture capital institutions in a sense, participation banks make significant contributions to the national economy by directly using the mattress funds they collect in the supply of investment goods and raw materials, semi-finished and finished products which Turkish industrialists and entrepreneurs need.