Is Making Money From LP in Cryptocurrency Halal or Haram?
When it comes to cryptocurrency and financial innovation, one of the most common questions we face is about liquidity providing (LP): Is it halal to earn profits as a liquidity provider in cryptocurrency? This question arises because, as Muslims, we strive to ensure our earnings align with the principles of Islam. Let’s dive deep into this topic to understand its nuances and determine whether LP income is permissible or not.
What Is LP in Cryptocurrency?
A Liquidity Provider (LP) pool enables seamless trading between two assets in decentralized finance (DeFi). Imagine a market stall: instead of a person exchanging apples for oranges, the LP acts as a pool of both fruits, facilitating trades for the buyers and sellers. For their contribution, LPs earn fees proportional to the trades they enable.
Like a currency exchanger in the real world, LPs facilitate the exchange of one currency for another, earning a service fee. If the underlying assets are halal (e.g., stablecoins or cryptocurrencies with clear use cases and backing), LP participation is more likely halal.
Does a money changer convert any currency in a traditional exchange? No, money changers do the exchange work according to the currency that is guaranteed. So, to participate in LP, use halal currency pairs and currencies that are known. Currencies that do not have precise specifications or have high risk are not suitable for LP.
Here’s an important distinction: LPs don’t directly conduct the transactions. Instead, they provide the liquidity that keeps the decentralized exchanges (DEXs) functioning smoothly. This fee earned by LPs is what sparks the debate—is it halal or haram?
Does Earning From LP Resemble Riba (Interest)?
In Islam, any income derived from interest (riba) is strictly prohibited. To assess whether LP earnings fall under this category, let’s break it down step by step:
1. The Nature of the Fee
The fees earned in an LP setup are not based on interest but rather on providing a service. It’s similar to how a currency exchange (money changer) earns a fee when facilitating a transaction between two currencies. They offer a service, not a loan.
2. No Transactions, No Income
In an LP, fees are generated only when trades happen. If no one uses the liquidity pool, the LP earns nothing. This aligns with the principles of Islamic trade, where income is tied to effort or service. There’s no guaranteed return, removing the element of fixed interest.
3. Avoiding Risk and Gharar (Uncertainty)
Islamic finance emphasizes avoiding excessive risk or ambiguity (gharar). The currencies you provide to an LP pool should be halal, transparent, and stable. Risky or speculative currencies, often involved in pump-and-dump schemes, bring gharar into the equation and may render the activity impermissible.
Three Essential Rules for Halal LP Earnings
To ensure your earnings as an LP are halal, adhere to the following principles:
Transparency in Currency Pairs
Always provide liquidity using known and established currencies. For example, pairs like ETH-USDT or USDT-USDC are widely recognized and less speculative.
Avoid Currencies with High Risk
Do not participate in LP pools involving currencies with vague specifications or volatile behaviors. Such currencies could lead to unpredictable outcomes, which Islam discourages.
No Fixed Returns
Avoid any LP pools or DeFi platforms that promise fixed returns. This could potentially resemble riba and must be avoided. Instead, rely on the service-based income generated by transaction fees. In all LPs, the profit percentage is known, but this number is not fixed and changes on a daily basis or due to the increase in demand and crowding of the blockchain. Basically, receiving guaranteed fixed interest is wrong and Haram(forbidden).
LP Earnings: Halal or Haram?
In conclusion, participating in an LP pool where the principles of Islamic finance are upheld—such as transparency, no fixed returns, and low gharar—can be considered halal. However, any engagement with currencies or platforms that lack clarity, involve speculation, or guarantee returns should be avoided. If you still have doubts about LPs, you can ask us. We have access to many Islamic scholars and can ask them your questions.
If you’re unsure about a specific pool or currency, it’s better to take a step back and conduct thorough research. Aligning your actions with Islamic principles not only ensures halal income but also brings barakah (blessings) into your wealth.
By following these guidelines, we can navigate the world of cryptocurrency with confidence and ensure our earnings remain pure and permissible. Together, we can embrace modern financial opportunities while staying rooted in our faith.
