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The choice of applicable law for Islamic finance

Summary

25 November 2011

I was recently approached by Global Islamic Finance Magazine for an interview on this subject. The interview comprised them sending me some written questions and my sending a written response. I have reproduced the questions and answers below.

The interview allowed me to explain concisely why English law is the commonly preferred law for cross-border Islamic finance transactions.

Shariah as a choice of law for common law courts and arbitrators is not peculiar to the current era of Islamic finance. What are your thoughts on this statement?

A key goal for both parties to a contract is that, if a dispute arises, it should be capable of being litigated quickly, with minimal cost, and with predictability of outcome. The more predictable the outcome of litigation, the greater the likelihood that the parties will honour the contract since the defaulting party can be almost certain that the courts will enforce the contract against him. Given this goal, Shariah as a choice of law gives rise to two main difficulties:

The lack of certainty when the contract is being made regarding the precise details of Shariah and the poor availability of high quality courts are the key reasons in my view why few contracting parties specify Shariah as their choice of law.

Do you believe English law is the most popular when dealing with agreements adhering to Islamic principles?

In my opinion English law is the most common choice when agreements are made to govern Islamic finance transactions. English law is well established, so parties about to make a contract can have a high level of confidence regarding what the law says. Furthermore if a dispute arises, the courts of England have a high reputation for integrity, reasonable speed and acceptable costs, and English judges are skilled in understanding commercial law. There is also a well-established system of appeal under English law.

I consider that there is no inconsistency between the desire of the parties to comply with their religious requirements as they understand them and the use of English law to make their contract. It is for each party to satisfy himself that the contract complies with his religious principles, and it is quite possible that the detailed religious views of the parties may differ even when both are Muslims. For example, one may follow Hanbali fiqh and another Shafi fiqh. When making the contract, each party needs to be happy that the contract contains no terms that are inappropriate for his religious views; the choice of governing law is not a religious question, it is a pragmatic question as explained above.

What are your thoughts on the future of Shariah or Islamic law?

Before considering the future, one needs to look at the history of Shariah as a system of law (fiqh, often translated as Islamic law.)

In the first 500 or so years after the Hegirah, Islamic law developed rapidly to accommodate the legal needs of an Islamic empire that had grown rapidly and was engaging in increasingly complex commercial transactions. Unfortunately, with the passage of time increasing emphasis was given to complying with the decisions of earlier jurists, with less and less scope for original legal thinking based on direct reference to the Quran and Sunnah. This is often referred to as the “closure of the gate of ijtihad” although some argue that ijtihad never ceased entirely. The result was stagnation of legal thinking, associated with the wider intellectual stagnation of Muslims.

As a result, Islamic law today has insufficient legal content for modern commercial life. For example I am not aware of any development of limited liability companies within Islamic law, despite their overwhelming utility. Furthermore Islamic law lacks clear mechanisms for developing new law. For example, it is easy to see how the principles of Islamic law would allow one to develop the concept of an intellectual property patent, but I do not see a mechanism within Islamic law for deciding how long the life of a patent should be; in English law the number of years patents should last is set arbitrarily by Parliament.

For Islamic law to be developed to the level where it can be used as the law of a modern state for all commercial purposes in my view requires the state concerned to set up a legislature for Islamic law. The new legislation created needs to avoid conflicting with clear the clear provisions of the Quran and Sunnah, but otherwise will be original innovative legislation rather than trying to find all new Islamic law by derivation from existing rulings.

In Indonesia, Islamic banking disputes are decided through a mix of Shariah and civil law. Do you believe a mix or Shariah and civil law works effectively?

In my view mixing Shariah and civil law is not a good idea. It is likely to lead to greater uncertainty regarding what the law is when the contract is being made. It is also likely to lead to greater inconsistency in how the contract will be enforced by the courts if a dispute arises.

As explained above, I believe that the religious compliance of a contract is something that each party needs to satisfy himself about before signing the contract. The role of the courts should simply be to enforce the contract that the parties have chosen to execute. Although English law will treat certain types of contract as void on public policy grounds, the public policy areas concerned are very limited and do not cause difficulty for normal commercial contracts. The uncertainty created by courts being able to decide whether a contract is Shariah compliant is much greater.

 

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