E. Conclusion
2. LITERATURE REVIEW 1. Economic Impacts of Zakat
Zakat, the compulsory levy on the income and wealth of Muslims, is the most widely subject in Islamic public finance. It is the religious obligation of a Muslim, in the same way as regular prayer (salah). While prayer functions as the pole of religion (‗imad al-din), zakat serves as the pole of society. This is not astonishing given that after declaration of faith, salah and zakat represent the two most important fundamentals of Islam.
Apart from its religious status for Muslims, zakat has certainly significant roles in the economic world.
There are a lot of studies conducted by a number of Islamic economists discussing the effects of zakat and its several developmental implications on the economy (Nik Hassan, 1987; Sadeq, 1990; Sadeq, 1996; Haq, 1996, Kahf, 1997).
To begin with, zakat increases income level of the worse-off population at the grass root level in society to meet their basic needs and to be promoted to the category of zakat payers. Ahmed (2004) studied the role of zakat and macroeconomic policies aimed at growth of income and providing opportunities to the poor in eliminating poverty. Simulation of various macroregimes and zakat schemes for Bangladesh indicate that while macroeconomic policies play an important role in reducing poverty, poverty cannot be eliminated without using zakat in an effective way.
Hassan (2007) showed that zakat funds can replace government budgetary expenditures in amounts ranging from 21 percent of Annual Development Plan (ADP) in 1983/1984 to 43 percent of ADP in 2004/2005.
Zakat is also closely associated with increasing level of aggregate consumption. The relationship between zakat and aggregate consumption is considered by some researchers such as Metwally (1997)
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and Khan (1997). Metwally found that zakat would increase both the marginal and the average propensities to consume. Meanwhile, Khan (1997) indicated that if zakat is injected in an economy without any additional charitable spending, it will slightly increase the marginal propensity to consume. However, if consumers behave in a restrained manner and observe the Islamic pattern of modesty and moderation, this reduces the marginal propensity to consume to a level lower than that of a secular economy. He further suggested that the policy to impose zakat system in a country should be accompanied with the policies to reduce israf in consumption both in public and private sector.
Zakat plays a vital role to redistribution income and wealth within society so that each and every individual is assured of minimum means of livelihood. Part of the zakat transfers could be assigned for the recipients to participate directly and actively in productive activities, relevant to their capacities.
This in turn builds self-employment and independence. Ahmad (1984) observed that the institution of zakat was incorporated in the Kaldor-Pasinetti framework showing that an Islamic economy possesses a strong redistributive instrument in the scheme of distribution.
Meanwhile, zakat would increase effective demand for basic needs and thus helps production of socially desirable goods and services through market forces. The institution of zakat furthers aggregate demand in a macro-economic sense which should lead to higher investment and economic growth (Sadeq, 1990).
It is evident that zakat could motivate savers for investment, since they have to pay zakat on their hoarded and saved resources. If not invested, successive payments of zakat will eat up their saved resources at some point in time. Nik Hassan (1987) and Metwally (1997) asserted that zakat encourages investment as it penalizes idle resources. By imposing a penalty for keeping resources idle, zakat helps push resources into productive sector that generate income for individuals and community.
Similarly, Faridi (1976) conveyed that a certain amount of zakat funds, invested according to the overall production priorities of an economy, would benefit the poor, in particular, and the economy, in general, through its multiplier effect on employment and incomes.
Al-Suhaibani (1997) found that the first effect of zakat on investment can be negative since it increases consumption. This is true in a static analysis, but in the latter passage of time, the positive effect of zakat on aggregate demand and its discouragement of leaving funds idle would enhance investment.
In addition, the satisfaction of basic needs of the zakat receivers will upgrade their health care, education, food intake and so on which in turn will increase their productivity. Sadeq (1990) argued that zakat will increase the standard of living of the poor, improve their health and skill and hence boost the productivity of the workforce. Yusoff (2011) showed that zakat spending and school enrollment are important determinants of economic growth in Malaysia. The zakat spending and student enrollment could significantly explain the variation in the growth of real output represented by the growth in real GDP.
The zakat system which is endowed with an incentive structure provides a positive stimulus to economic growth. Rashed and Abdelhafid (1992) who developed an optimal economic growth model by explicitly incorporating zakat into the utility index found that under reasonable assumptions, the optimal growth path at the stationary state corresponds to the golden rule of capital accumulation. This implies that zakat can create a dynamic equilibrium system yielding a level of economic growth that is also attributed to the maximum national well-being.
Many Islamic economists have advocated zakat as fiscal policy instrument in an Islamic state. Yusoff (2006) pointed out that zakat could be used as a counter-cyclical policy through discretionary and non- discretionary fiscal policy. Discretionary fiscal policy is carried out by varying the disbursement of zakat to the recipients. During the expansion phase of the business cycle, the government reduces zakat expenditure to close the inflationary gap. This action helps increase the zakat surplus, in the Baitul-Mal. Likewise, zakat expenditure could be increased by using the zakat surplus accumulated during the boom periods, when the economy is in the down-swing to spur aggregate spending and
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economic activities. Therefore, zakat could complement taxation and government spending as tools of stablization policy.
Yusoff (2009) opined that the built-in stabilizer mechanism occurs when zakat collection is automatically reduced during recession providing more money for the people to spend which tends to stimulate the economy. However, during the boom period more zakat is collected reducing the ability of the people to spend which tends to dampen economic activities. These reduce macroeconomic fluctuations. He then showed empirical evidence using Malaysian data to support the hypothesis that zakat spending is a potent fiscal instrument to improve the economic performance. The results of panel data regression analysis indicate that zakat expenditure could significantly explain the variation in the real output. This suggests that Muslim countries should make serious effort to improve the efficiency of zakat collection and spending to generate growth and the development of ummah.
2.2. The Contribution of Zakat in Malaysian Economy
Malaysia at the moment, practices a mixed economic system which is consistent with nation‘s philosophy of Rukun Negara (National Ideology). Nevertheless, in line with the Malaysian Constitution which places Islam as the official religion, the country provides certain provisions for a number of Islamic practices, including zakat (Nik Hassan, 1987).
However, it seems that zakat institution still has not played a significant role in the country‘s economy. As an illustration, zakat only accumulated a few amount about RM 408 Million in 2003 compared to the revenue of the government which was about RM 89.2 billion from tax and other revenues. Zakat is such a small portion while the economic, educational and social needs of the community are financed almost wholly from government revenue (Halal Journal Team, 2009).
Even though zakat is a religiously economic institution, it is regarded as a pure religious institution which does not have a strong relationship with nation‘s economic and fiscal policies. One of the reasons is apparently because the administration of zakat in Malaysia is a state religious affair (through its respective State Islamic Religious Councils). Under its current system and management, zakat becomes just as a voluntary payment system, unlike taxation that is a highly regulated system enforced by the Federal government (Bakar and Rahman, 2007). The law enforcement is of the significant issues behind ineffectiveness of zakat management. This is certainly not only the special case for Malaysia, but also for the rest of the Islamic world. Nonetheless, Malaysia is so far considered among the best countries around the world in managing zakat system. The country‘s experience on this particular system is often made a referral by other Muslim countries.
2.3. Financial Sector Development and Economic Growth
Since the seminal work by Schumpeter (1911) that stress the positive effects of finance on growth and its mechanism underlying the long run relations between finance and growth. The other fact has substantiated, for instance, King and Levine (1993a) using data from 80 countries, document strong and positive correlation between measures of financial development and per capita output growth. Xu (2000) further illustrates that there is strong evidence that financial development is important to economic growth both in the short-run and in the long-term. Moreover, in the context of Islamic banks which tie to closely associate with financial intermediaries, particularly into real economy. However, the severe aspect in financial system may have desperately impacted into real economy too. Several evidences had taken place through incidences of economic crises such as Mexican crisis, Indonesian crisis, and current global financial crisis in USA, which describe a potential disequilibrium to real economy. Therefore, the role of financial sector cannot be excluded in developing an economic growth of a nation. This is because financial sector has a function as financial intermediaries that accumulate capital from household sector or savers to business sector, in which the capital will be used to generating sector real which will absorb available labor in a market, and also realize profit.
To deliberate deeply on such relationship between financial sector development and economic growth, the causality directional approach is equipped to finally fall into three categories, namely (1) the
―finance led growth‖ (the supply-leading), (2) the ―growth led finance‖ (the demand-lending), and (3) the ―feedback‖. The former argues that the existence of financial sector, as well-functioning financial intermediation in channeling the limited resources from surplus unit to deficit, would provide efficient
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allocation resources to fuel the other economic sector in their growth process. Schumpeter (1912) and Levine (1997) have argued that this approach is considered as the significant method in promoting economic development. The latter hypothesizes that a high economic growth may create demand for certain financial instrument and arrangements. Robinson (1952) and Romer (1990) have documented that this approach impacted economic growth. Finally, the feedback is departed from an argument that a country with a well-developed financial system could promote high economic expansion through technological changes, product and services innovation, and in turn it will attract higher demand on the financial instrument. Since financial system is actively responsive on such development, a higher economic performance could be attained. In brief, both financial sector development and economic growth are heavily interdependent and feedback relationship. Luintel and Khan (1999) have proved above condition empirically.
3. METHODOLOGY