Interest is permissible under the doctrine of necessity (dharurah). This doctrine states that under exceptional circumstances, the non-permissible (haram) activity may temporarily be permissible.
At the individual level, there is need to answer two fundamental questions with utmost sincerity. First, can’t that necessity (dharurah) be met with any permissible means? This means that all permissible alternatives need to be exhausted before attending to a non-permissible alternative.
Secondly, is the necessity real or embellished by imaginary apprehensions? This means the purpose of riba-based loan needs to be protecting a necessity that, for instance, threatens a life.
At the business and institutional level, Shari’ah encourages loan to be viewed as a contract of charity which should not attract any increment on the principal money lent out. Therefore, to encourage more commitment from the entrepreneur, Shari’ah encourages arrangements of financial intermediation which are in form of partnership, sale-based and lease-based contracts that would raise extra money for business purposes.
The fundamental cause of the prohibition of interest is injustice (dhulm) inflicted on the poor borrower.

Thus, lending to the rich and entrepreneur at interest is legitimate as it inflicts no harm.
Addressing this misconception, the validity of an interest-based contract is not collapsed on the ground of financial status of either of the contracting parties. Its validity is rather based on basic features of the contract. Alternatively, injustice itself is ambiguous as what would be unjust to one individual would not necessarily be injustice to another.
The reason for prohibition of interest is the basic underlying features (illat) of its contract but not the rationale (hikmat) of its prohibition.

This is because unlike the former which is uniform throughout all its circumstances, the latter changes from one individual to another depending on changes of circumstances.
Basing on inflation, if the currency undergoes economic depression that devalues it, the amount repaid should be equivalent in value to the amount borrowed, thus, justifying interest charge.
Addressing this misconception, the Fiqh (Islamic jurisprudence) Academy of the Organisation of Islamic Cooperation distinguished between two scenarios; if inflation was anticipated, then the reduced purchasing power of the lent money was indeed given to the borrower in charity. So, the lender does not have to demand for compensation of the lost value.
But if inflation was not anticipated, the Academy recommended arbitration.

If arbitration fails, the Academy provided rules of compensation depending on whether the loss caused by inflation was major (more than 33 per cent) or minor (less than 33 per cent), depending on the terms of the loan. However, the academy absolutely ruled out as strictly prohibited the commonly-suggested solution of indexation of a lent amount to; cost of living, interest rates and GNP growth rates.
Dr Lujja Sulaiman,
Tropical Bank Limited

Article is sponsored by Tropical Bank to help understand Islamic Banking.