Optimal consumption asset financing: an Islamic perspective

Abstract

The social impact of bankruptcies and loan defaults results in structural impairment of the economy. This paper studies the optimal design of consumption financing facilities while reducing the risk of default. Although the framework of tJ1e study is that of an Islamic banking system, it can be employed by conventional intermediaries also. Both credit as well as hybrid (quasi-equity) facilities in the form of Bai ' Bithman Ajil (BBA) Ijara wal Iqtina and Decreasing Mudharabah (DM) instruments are discussed using computer simulation. These are applied to the cases of automobile financing and home mortgages. Placing additional assets as Rehn (security) has the capacity to improve the financing ratio and/ or the term to maturity of both kinds of vehicles.