Efficiency vs Stability

Efficiency: one of the main functions of a financial system is allocating financial resources (society’s savings, past and present) to productive uses. Bank loans go to the most creditworthy people; creditworthiness being measured in terms of money and marketable assets owned by the loan-seeking person or firm that can serve as collateral. Those with the best collateral are not necessarily the people with the most productive projects, productivity being measured in terms of expected profits. Debt finance fails to allocate financial resources efficiently; efficiency defined in terms of expected value-productivity. Stability: in circumstances where possible changes in tastes, technologies and international relations make a firm’s revenue receipts uncertain both in amounts and time of accrual, it is obliged to commit to payments of given amounts at given dates. The result is frequent bankruptcies, destruction of social capital and redistribution of assets in favour of financiers. The resulting instability has a contagion effect in the global economy as plants are closed and workers are thrown out of work. For further details see: ISRA, Islamic Financial System; Principles and Operations.

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