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Microfinance

Islamic microfinance is a powerful tool in preventing poverty.

Microfinance, which is the provision of small loans without collateral to poor people who cannot access banks, is deemed a powerful tool. Due to barriers in accessing development and poverty reduction finance, many consider microfinance programmes as a key strategy for alleviating poverty in low-income countries and helping to achieve the Millennium Development Goals (MDGs). Indeed, the United Nations designated 2005 as the ‘Year of Microcredit’.

Evidence has shown that microfinance programmes can be financially and operationally sustainable and in most cases are reported to have had a significant positive impact on poor people’s social and economic empowerment, with women being the majority of borrowers worldwide.

Similarly, Islamic microfinance, although still in its infancy, seeks to provide an economic empowerment tool for poor or disadvantaged people. Based on Islamic financing methods that avoid interest, which is deemed as exploitive according to the Shari’a, there is a focus on trade and investment in productive activities as underlined by the ethical teachings of the Qur’an and Sunnah.

Why Islamic finance?

Over 70% of people living in Muslim majority countries do not use formal financial services, whilst at the same time Islamic microfinance accounts for only 0.5% of global microfinance despite a global Muslim population of about 1.2 billion (Source:  CGAP survey, 2008). This raises a number of questions, but given the huge demand for Islamic finance evident in the tremendous growth of the industry to $1.5trillion in 2012, it has been argued that poor observant Muslims by whom dealing with interest is seen as unethical are not just financially excluded by the lack of inclusive financing opportunities but also by the absence of lending that is in accordance with their faith principles.

 
However, despite the proliferation of institutions providing credit and loan services to poor or disadvantaged populations, very few microfinance initiatives adhere to Islamic financing principles even when their work is undertaken in largely Muslim countries. Islamic finance therefore offers an alternative to conventional microfinance that is based on asset-based or participatory techniques

Islamic financing techniques and Shariah compliance

Islamic microfinance, although still in its infancy, seeks to provide an economic empowerment tool for poor or disadvantaged people based on Islamic financing methods that avoid interest, which is regarded as exploitative, and therefore focus on trade (murabaha) or investing in poor people’s micro-business through profit and loss sharing (mudarabah, musharakah), based on the ethical framework of Quran and Sunnah.

In this sense Islamic financing is unique and essentially different from conventional microfinance, which is based on micro-debt, typically charged at interest rates ranging from 25 to 150% p.a. This has led to increasing criticism about microfinance with providers seeking sustainability at the cost of the poor clients. Islamic microfinance, due to its focus on either the sale of productive assets or profit and loss sharing arrangements, therefore is not part of what has now been cynically called the micro ‘debt’ industry.

IR Islamic microfinance programmes

Islamic Relief’s microfinance programme is highly diverse, spanning from West Africa to China. Most Islamic microfinance is delivered on a project basis often in village-banking format where we provide capital and expertise to local civil society groups who in turn lend to their members, but for example in Bosnia and Kosova Islamic Relief also runs two social financial institutions in keeping with the well-developed financial service industry in Eastern Europe.

IR microfinance at a glance (data from IR microfinance survey, March 2013):
Start year: 1994 (Bangladesh)
Total clients since inception: 45,813
Total beneficiaries: 162,065
Current clients: 13,771
Active loan portfolio: £3,737,587
Avg .recovery rate: >94%
Geography: Bangladesh, Bosnia, Chad, China, Ethiopia, Indonesia, Kenya, Kosova, Mali, Malawi, Niger, Pakistan, Palestine, Russia, Sudan and Yemen

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