Determination of Mark-Up Rate under Zero-Interest Financial System : A Microeconomic Approach

Abstract

Misunderstood and maligned, the determinants of mark-up (MU) rate under Murābaḥah financing deserve scrutiny of its structural formulation. Some suggest that MU rate is really interest rate. Is MU transaction pure trade? We analyze by considering the underlying market structure, central bank imposed minimum reserve requirement, deposit sum, a bank’s fixed and variable costs, etc. Perhaps for the first time, the capacity to charge ribā is traced to market imperfection. Banks with no Islamic credential are entering the market suggesting presence of positive economic profit. By promoting proper costing, accountability, efficiency and standardization of MU rate across industry become possible. Prediction and hypothesis testing become possible. Associated with this, we also explore how the deposit rate is determined. The transparency thus afforded should mitigate the contentious debate about MU financing as opposed to interest-based lending.