Agriculture constitutes the largest sector of Economy in Pakistan contributing 24% to the GDP, employing half of the labor force, feeding 180 million people, providing a market for industrial goods and constituting one of the largest sources for Foreign Exchange earnings. Pakistan has one of the highest proportions of irrigated cropped area in the world. Pakistan has two principle cropping seasons, namely the "Kharif", the sowing season which begins in April-June and is harvested during October- December; while "Rabi", begins in October- December and is harvested in April-May.
Lending to Agricultural Sector
The government of Pakistan focuses on the agricultural sector and continuously devises policies and strategies to increase its growth. Every effort is made to provide the direly needed credit to the farming community through a well established infrastructure of conventional banks. Currently 20 banks with around 3,700 agriculture designated branches are helping farmers by extending them agricultural credit facilities throughout the country. During the period from July to March, 2010-11), all Pakistani banks disbursed Rs. 168.7 billion ($1.98 billion approximately). However, and despite all these efforts, the agricultural sector lost significant growth momentum slowingd down to 2.7 percent in the decade of 2000s as opposed to 4.4 percent in 1990s and 5.4 percent in the 1980s.
Evils of Interest
There are some factors responsible for the above decline in Agricultural sector growth and among them is interest-based lending. When charged interest, a business tends to diminish and not grow while the harvest does not earn God's Barakat or blessings. Consider the following two verses from the Holy Quran"
"And whatever Riba you give so that it may increase in the wealth of the people, it does not increase with Allah." (Makki; 30: 39).
"O you, who believe, do not consume your property among yourselves wrongfully, but let there be trade by mutual consent..." (Verse 4:29 Chapter An-Nisa)
Acceptance of Interest discourages people from performing upright deeds to one another. The rich become richer and the poor become poorer, resulting in social disorders, conflicts, hatred and other ills. Islam permits the increase in capital through trade and prohibits interest. In Quran, Allah Almighty Says:
"Allah has allowed (profit from) trade and prohibited Riba. So, whoever receives an advice from his Lord and stops (from taking Riba), he is allowed what has passed, and his matter is up to Allah. And the ones who revert back, those are the people of Fire." (Sura Al Baqarah)
Alternative model - SALAM
Because the agricultural sector in Pakistan has lost significant growth momentum largely due to failing interest-based models, this calls for an alternative model that should be interest-free and Shari'ah-compliant. The model should also be cost efficient, increases productivity and encourages value-added products. In this context, the Salam Model can be adopted to regain the agricultural growth currently lost in Pakistan. Under the Salam model, it is recommended that Islamic banks employ agricultural experts to monitor and educate the farmers in order to maximize their revenue and protect the capital they invested. Let us explain the theoretical and practical aspects of the Salam Model.
What is Bay Al Salam
Bay' al-salam, is a sale for an agreed price with immediate payment for a determinate thing, to be delivered in the future on a fixed date (Nawawi). Bay' al-salam was allowed by the Holy Prophet Muhammad s.a.w. subject to certain conditions. Ibn Abbas is reported to have said: The prophet peace be upon him came to Madina and found that people were selling dates for deferred delivery after a duration of one or two years on a salam basis. The Prophet peace be upon him said: whoever pays dates for deferred delivery basis should do so on the basis of a specified scale, weight and date of delivery.
The wisdom of making Salam permissible lies in the fact that it facilitates a type of financing for people in need of it. The basic purpose is to meet the needs of small farmers who need money to grow their crops and to feed their families up to the time of harvest while buyers benefit getting the commodity at below market prices. This also creates a sort of partnership in a mutual beneficial way.
SALAM as Practical Mode
Let us elaborate on the practical mechanism of a Salam transaction. A farmer, who requires finance to grow crop, approaches the Islamic Bank and provides complete details of the crops (name, brand/type, quality etc), selling price, production cost, production yield, date and place of delivery and etcetera. However, the bank shall also collect all the above details through experts in the field. Then the customer signs a Master Salam Agreement with the Islamic Bank in which all the necessary production related details, terms and conditions are mentioned. The Islamic Bank may also appoint the customer as its agent through an Agency Agreement to sell the crop, once it comes into existence, at a specified future date. However, the Agency Agreement shall be independent to the Master Salam contract. At the start of the transaction, the Islamic Bank must pay the full price (please find below how to reach this price) to the farmer, in advance, by crediting the same in the farmer's account. It should be noted that full payment of price in advance is a must and is the necessary requirement of Salam, while partial payment is tantamount to Riba as per Shari'ah Law. Now the farmer has the authority to utilize the funds either completely or in tranches to grow the crop. On the date previously agreed when the crop is ready, the farmer will communicate to the Islamic Bank the availability of the crop and the Islamic Bank shall take the physical or constructive possession of the crop. After this, the Salam Leg shall become silent and the Wakala Leg of the transaction shall be operational allowing the farmer to sell the produce as per Agency Agreement. To further clarify please go through the below example.
Salam/Wakala Example
A Farmer, who holds one acre of land requires $15,000 to procure various agri-products for cultivating the crop. He approaches the Islamic Bank and provides the necessary details like estimated cost of production, estimated yield, sale price, tenor, and etcetera. The Islamic bank shall estimate the total production of the crop and also calculate how much from the total quantity should be purchased under Salam. Normally, the quantity to be purchased should not be more then 50-75% of the total expected crop production. For example, If it is found that one acre of Land may Yield 1,000 Kgs of Crop(wheat) and its market price is $25, 000. As the total quantity of wheat eligible for sale under SALAM output is (50% of expected) i.e. 500 Kgs of wheat, the Salam contract is equivalent to $12,500 USD. However, as we know that price in SALAM is always low as compared to Market Price therefore a discount Rate is to be used to determine the discounted price. For example, if the discount rate is 10 % (KIBOR + X %) then by applying the discount rate a price shall be obtained which is in this case 12,500*10% = $11,250 USD (12,500*10% = 1250, after subtracting 12,500-1,250=11,250).
Significance
It is expected that the implementation of the Salam mode of financing will increase the income of farmers who shall also benefit from a lower price of the commodities as compared to market price. The model will help encourage the spirit of partnership, attract more investors in the farming sector, and provide better opportunities for farmers to market and sell their produce. Agricultural financing based on the SALAM model is a viable investment means for the Islamic Banking Sector, since agriculture serves half the population in Pakistan
About the Author
Amjadullah Jan Bangash is working as a Shari'a Auditor with Dubai Islamic Bank in Pakistan. He has a Masters Degree in Islamic Banking & Finance from the International Islamic University Islamabad. He may be contacted at amjadullah.bangash@dibpak.com
© Business Islamica 2012
