Islamic economic principles may sound like just what the Middle East needs. In practice, things are more complicated.

The New York Times, "Economic Scene" , August 12, 2004

The 9/11 Commission report pointedly criticizes the idea of a generic threat from terrorism. "The catastrophic threat at this moment in history is more specific," the commission writes. "It is the threat posed by Islamist terrorism."

Islamists, who favor political rule based on Islamic principles, see liberal Western societies, particularly the United States, as godless and barbarous. They argue that the Muslim world has fallen behind the West economically and militarily because Muslims have strayed from the pure religious practice of Muhammad's time.

As the commission report suggests, Americans know this theocratic ideology primarily as a spur to terrorism, not as a set of ideas and policies worthy of critical examination.

But Islamists do offer economic and social prescriptions that can be subjected to the same analytical and empirical scrutiny as any other policies. That scrutiny is particularly important for Muslim countries where Islamists play a significant role in politics.

In a new book, "Islam and Mammon: The Economic Predicaments of Islamism" (Princeton University Press), Timur Kuran, professor of economics and law and the King Faisal professor of Islamic thought and culture at the University of Southern California, looks at the cluster of ideas known as Islamic economics.

This concept, he notes, is a 20th-century one, developed in India before independence, when many Muslims worried that they would become an oppressed minority in a Hindu-ruled state. Some feared that Muslims might be so marginalized that they would lose their identity.

One response was Muslim nationalism, which led to the creation of Pakistan. Another was cultural separatism, which was promoted by Sayyid Abul-Ala Mawdudi, the founder of Pakistani Islamism.

Islamic economics was one of many terms -- including Islamic sociology, Islamic democracy and Islamic constitutionalism -- that Mawdudi used to give Western concepts a Muslim identity.

The goal, Professor Kuran said in an interview, was "to prove to Indians, but also to the world at large, that Muslims had a completely different lifestyle: to be a Muslim is to live differently."

In the 1940's, he said, nobody really knew what Islamic economics was. Historically, Muslims did not have distinctive economic practices.

In recent decades, Islamic economics has come to mean three things, all supposedly rooted in the "golden age" of seventh-century Arabia: a ban on interest, a wealth tax known as zakat, and honesty and altruism in commercial dealings.

In his book, Professor Kuran compares the ideal versions of these practices with the reality. Not surprisingly, he finds that in economic life even the most promising ideas tend to be modified, if not corrupted entirely. That is especially true in countries with weak civil societies and legal systems.

Take Islamic banking, which spread with the booming oil wealth of the 1970's. Instead of charging interest, Islamic banks are supposed to share profits and losses with the enterprises they finance.

If you read an Islamic bank's charter, Professor Kuran said, "you will say, 'What a magnificent institution this is -- exactly what the Middle East needs."' Islamic banks are supposed to act like venture capital funds, investing in good ideas from people who do not have the connections or collateral to get loans from conventional banks.

But Islamic banks learned the hard way that risk sharing does not work in countries where businesses keep false accounting records. "Many people came to borrow money with wonderful ideas, and they just walked away with the money," Professor Kuran said. The banks could not reliably audit the books, and if they took a client to court, the business would just claim a loss.

Consequently, the banks all started charging what amounted to interest for loans.

The most common way around the interest ban is known as murabaha. The bank buys a capital good, a computer, say, for a client, who agrees to buy it back, with a markup, at a particular time in the future. In effect, the markup represents interest.

Islamic banks also invest in debt securities and pay depositors returns that fluctuate with prevailing interest rates. They act like money market funds.

"A minuscule portion -- generally well under 5 percent -- of the assets of Islamic banks consist of loans based on genuine profit and loss sharing," writes Professor Kuran. He argues that the Koran's famous ban on "riba" is not, in fact, a ban on ordinary interest, which moneylenders have charged throughout Islamic history. Riba, he writes, was a pre-Islamic practice in which a "borrower saw his debt double following a default and redouble if he defaulted again."

Riba often left borrowers enslaved until they paid off their debts. As with modern bankruptcy law, banning riba limited the penalties for default.

Islamic banks and businesses have their merits. In rapidly growing cities, they often provide valuable social services and give newcomers a trustworthy network of commercial contacts. In theory, an "Islamic subeconomy" could serve specific religious needs, just as halal butchers (or kosher ones, in Jewish communities) do.

But the positive effects of these organizations are undercut by their broader agenda. Islamic economists not only want their own banks, Professor Kuran writes. They "desire new regulations that would force all banks to limit themselves to variable earnings and commitments."

"And they want interest-based banking outlawed."

Islamic economics, he writes, "has promoted the spread of antimodern, and in some respects deliberately anti-Western, currents of thought all across the Islamic world."

Strangely, the Islamist version of history eliminates everything from the mid-seventh century to the colonial period. Islamists ignore the many examples of advanced Muslim societies.

"One need only think about the high periods of the Abbasid Caliphate, Muslim Spain, Safavid Iran, the Ottoman Empire, and Mughal India," Professor Kuran writes. He began researching Islamic economic history after realizing that Islamist accounts omit so much of it.

"I felt that they did not understand the immense strengths of that civilization," he says, "and they were in no position to understand what went wrong."