Beyond Riba: Reconstruction of Just Financial Order—III  Separating deposits from investments

The preceding part of this series examined a question ordinarily left outside discussions on riba: who should create money? It argued that commercial-bank money creation is not, by itself, riba, but that the power to create purchasing power through credit is a matter of public importance requiring transparency, restraint and accountability. One possible reform is to separate transaction money, fully backed by sovereign money, from funds deliberately committed for investment. That proposition leads to an even more fundamental question. What exactly is a bank deposit?

The answer appears obvious only because modern banking has merged several economically different relationships into the same institution. A person places salary in a current account because it must be available tomorrow morning. Another person places accumulated savings with a bank hoping to earn a return over five years.

A business maintains money for payroll and suppliers. An investor deliberately commits capital to a project knowing that commercial gain is accompanied by the possibility of loss. Calling all these balances “deposits” conceals distinctions that become crucial in a financial order seeking to eliminate riba.

There is a basic difference between money and investment. Money held for payment performs the functions of medium of exchange and store of nominal value. Its owner expects Rs.100 deposited today to remain Rs.100 tomorrow and to be transferable on demand. Investment capital performs another function. It is consciously placed in productive activity in expectation of gain and consequently bears the possibility of commercial loss.

One cannot logically demand both absolute safety and entrepreneurial return from the same contractual relationship unless somebody else is made to carry the risk.

Islamic jurisprudence recognised these distinctions long before modern banking. Funds entrusted purely for safekeeping can constitute amanah. A trustee does not own them and is not ordinarily liable for loss occurring without negligence or misconduct. Where fungible money is transferred to another person with authority to use it and an obligation to return its equivalent, the relationship acquires the character of qard, or loan.

State Bank of Pakistan’s own glossary reflects precisely this reasoning. It describes an amanah as property held in trust and states that current accounts may initially be regarded as trust deposits.

Once a bank obtains authority to use current-account funds in its business, however, the relationship becomes a loan because the bank must repay the full amount. This point deserves much greater attention.

If a bank accepts Rs.100,000 from a customer, is free to use that money for its own financing operations and remains legally bound to repay Rs.100,000 whenever demanded, the customer is not bearing an investment risk. Whatever terminology appears on the account-opening form, economically the bank has received financing from the customer.

No difficulty necessarily arises if the customer receives nothing beyond repayment of the amount advanced. The difficulty arises when banking system treats this repayable-at-par money simultaneously as the raw material from which additional financing and monetary claims can be generated.

Part II suggested one possible solution: transaction accounts should be treated entirely differently. A current account used for wages, household expenditure, business payments and ordinary transfers should represent protected transaction money. If such balances are fully backed by sovereign money or central-bank reserves, they need not be exposed to the bank’s commercial financing decisions. The account holder would possess money, not an investment claim upon the success of a bank.

The bank would provide custody, payments, transfers, cards, digital access and settlement services. It could legitimately charge transparent fees for those services. What it would not receive is free investment capital merely because citizens require access to a payment system.

The consequences are significant. Fully backed transaction accounts would remain available on demand and at par. They would not earn an investment return because their owners have assumed no investment risk. Nor would their repayment depend upon the quality of the bank’s commercial portfolio.

This is not merely a theological distinction. Modern central banking itself recognises the peculiar character of bank deposits. The Bank of England recently described commercial-bank deposits as liabilities used as money, expected to be redeemable at par on demand and relied upon as a safe store of value. It contrasted them with investment products whose values fluctuate and whose losses are borne by investors.

A riba-free financial system should take that distinction seriously. The second category would consist of genuine investment accounts. Here the relationship is entirely different. A customer does not merely park money awaiting payment instructions. He consciously makes capital available for investment and accepts that lawful profit cannot be separated completely from commercial risk.

Mudarabah provides one classical framework. One party supplies capital and the other enterprise and expertise. Profit is divided according to an agreed ratio; financial loss, in the absence of negligence or breach by the manager, falls upon the provider of capital.

SBP itself explains Islamic investment deposits on this basis: the depositor acts as rabb-ul-maal and the bank as mudarib. Restricted mudarabah allows the investor to specify where the funds may be deployed; unrestricted mudarabah gives the bank wider investment authority.

The principle is straightforward. If the depositor wants profit because capital is being employed commercially, the depositor must understand what capital is doing and what risk attaches to it. This is where present banking practice requires closer examination.

Islamic banks commonly pool deposits, calculate weighted-average yields and distribute profits under elaborate regulatory rules. SBP presently prescribes profit-distribution arrangements for savings depositors, including minimum distribution requirements linked to the weighted-average gross yield of the institution. It also permits additional hiba in specified circumstances.

These measures protect customers against inequitable allocation of profits by banks. Their consumer-protection purpose is understandable. At the same time, an increasingly managed and smoothed return can create in the depositor’s mind an expectation remarkably similar to a conventional savings rate.

The crucial question is not whether the return happens to fluctuate by a few basis points. It is whether the depositor actually bears the economic character of an investor.

An investment account should identify the pool in which funds participate, the assets financed, the mudarib’s share, expected—not guaranteed—returns, expenses attributable to the pool, actual realised profit and the circumstances in which capital can suffer loss.

Losses resulting from negligence, misconduct or breach by the bank should remain the bank’s responsibility. Genuine commercial losses should not automatically be shifted away from investors after profits have been privately distributed to them. Otherwise profit sharing becomes a one-way arrangement: return is private when business succeeds while risk is transferred to the State, deposit-protection scheme or taxpayer when it fails.

Pakistan’s deposit-protection framework illustrates the complexity. Deposit Protection Corporation presently protects eligible deposits up to Rs. one million per depositor per bank. The protection encompasses eligible conventional and Islamic deposits held by the same depositor in a member bank.

Protection of small depositors is an entirely legitimate public-policy objective. It prevents a bank failure from destroying household savings and reduces the danger of destabilising bank runs. It should not, however, cause us to abandon the distinction between money and investment.

A third-party protection mechanism can insure citizens against institutional failure without converting every commercial investment into guaranteed capital. The law must distinguish losses caused by failure of a regulated intermediary from losses arising normally from an investment whose risks the investor knowingly accepted. That distinction presently remains blurred.

Pakistan has little time to leave such issues unresolved. Islamic banking is no longer a specialised corner of the financial sector. At end-March 2026, Islamic Banking Institutions held assets of Rs.14.659 trillion and deposits of Rs.11.299 trillion.

Islamic deposits represented 28.5 percent of all banking deposits. Seven full-fledged Islamic banks and 16 conventional banks were already providing Islamic banking services through a rapidly expanding network.

The State Bank is simultaneously accelerating conversion. Its June 2026 instructions reduced the period for informing customers about branch conversion and shortened the interval between notices through which current accounts may be converted on a deemed-acceptance basis. This makes contractual clarity more important, not less.

A citizen whose conventional current account is converted into an Islamic current account should know what has legally changed. Is his money an amanah, a qard, or something else? Can the bank use it? Is every rupee available on demand? Who bears loss if the bank fails? What consideration does the bank receive for operating the payment account?

The same transparency is necessary for savings customers. They should know whether they are depositors, lenders or investors rather than discovering the answer only after a loss occurs.

An alternative framework could therefore establish two clearly separated banking windows—or preferably two legally ring-fenced balance sheets.

The first would contain payment accounts. Their purpose would be safekeeping, transfer and settlement. Principal would remain fully available, their balances would be backed by sovereign money, and no investment return would accrue merely from maintaining them.

The second would contain investment accounts. Their funds could finance productive enterprises through mudarabah, musharakah, genuine leasing, trade finance and other permissible structures. Different pools could offer different combinations of maturity, sectoral exposure and risk. Returns would arise from the underlying economic activity and not from a guaranteed price placed upon time.

Banks would continue to earn. They would charge for payment services, receive mudarib remuneration or an agreed share of realised investment profits, earn genuine trading margins and lease income where they assume the corresponding ownership responsibilities, and provide professional financial services. Banking would therefore not disappear. Its economic purpose would become clearer.

The separation would also improve market discipline. Institutions would have to persuade investors that they possess the competence to identify productive opportunities rather than relying disproportionately upon guaranteed deposits and sovereign securities. Savers would acquire genuine choices between liquidity, safety and investment return instead of being offered products in which these characteristics are artificially blended.

Such reform cannot be introduced overnight. Pakistan’s existing banking balance sheets contain trillions of rupees of deposits, financing and government securities. Existing contractual rights must be respected. Liquidity arrangements, payment infrastructure, deposit protection and central-bank facilities would have to be redesigned gradually. The conceptual starting point, however, should be unambiguous.

Money kept safe is not capital placed at risk. Safekeeping is not investment. A depositor seeking immediate access to nominally secure money is not the same economic actor as an investor seeking profit from productive enterprise.

Modern banking has merged these relationships for convenience and profitability. A reconstructed financial order should separate them again.

Once money and investment are distinguished, another question immediately arises. Where should investment capital actually go, and how can an economy finance homes, agriculture, industry, infrastructure, technology and trade without merely reproducing an interest-bearing loan through Islamic terminology?

That will be the subject of Part IV: Financing production without guaranteed returns on money.

[To be continued]

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Dr. Ikramul Haq, Advocate Supreme Court, Adjunct Faculty at Lahore University of Management Sciences (LUMS), member Advisory Board and Visiting Senior Fellow of Pakistan Institute of Development Economics (PIDE), holds an LLD in tax laws. He was full-time journalist from 1979 to 1984 with Viewpoint and Dawn. He also served Civil Services of Pakistan from 1984 to 1996.