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(MENAFN - Arab News) Islamic microfinance is a nascent industry. It has spurred very few studies and fewer experiments so far. However, it has demonstrated huge potential both in terms of fighting poverty and drawing more clients mainly in developing countries.
The interest-free Islamic microfinance can be defined as provision of financial services to those people who are denied access to the financial market. It empowers people who can carry out projects with their own resources but lack adequate funds. Besides, it provides financial services to those, who are traditionally non bankable, mainly because they lack guarantees against risk.
Inspired by the spirit of Islam, this new financial system aims at maximizing social benefits as opposed to profit maximization. This can be achieved through creation of healthier financial institutions that can provide effective financial services.
Authors like Al Harran argue that Islamic finance, if inserted in a new paradigm, could be a viable alternative to the socio-economic crises caused by interest-based economic systems.
Microfinance is a very flexible tool, whose models can be replicated but requires to be tailored to the local socio-economic and cultural characteristics. The potential demand for tailored microfinance services is still largely unmet. Some surveys proved that there is a high demand for Islamic microfinance, especially among low and middle-income groups in predominantly Muslim societies.
At a very basic level, the disbursement of collateral free loans in some cases constitutes an example of how Islamic banking and microfinance share common objectives. Thus, the Islamic banking and micro credit programs may complement each other in both ideological and practical terms. Even if they both constitute fairly new trends in the financial environment, the inclusion of Islamic finance and microfinance in the activities of the traditional banking system evolved in a quite similar way.
Three main instruments of Islamic finance - mudaraba, musharaka and murabaha - are tools generally used to design successful microfinance programs.
The Banker magazine estimated the total assets of Islamic financial products at $500.5 billion in 2007. The Islamic finance industry's 100 largest banks have posted an annual asset growth rate of 26.7 percent, outpacing the 19.3 percent growth rate of their conventional counterparts.
The global Islamic finance industry is rapidly growing. In the past 30 years, the industry has witnessed the development of over 500 Shariah-compliant institutions, whose reach now spans 75 countries. These institutions include 292 banks (fully Islamic institutions and those institutions with Islamic subsidiaries), 115 Islamic investment banks and finance companies, and 118 insurance companies.
Despite its origins in the Middle East, the Shariah-compliant banking has proved popular with Muslims in other countries as well, leading to the development of new Islamic banks across North Africa and Asia. Of the total global Islamic finance market, the GCC countries of Saudi Arabia, Bahrain, Kuwait, Oman, Qatar, and UAE account for 36 percent of the total business. The rest are in non-GCC Southwest Asia and North Africa (35 percent) and in Asia (23 percent, primarily Malaysia, Brunei, and Pakistan).
Over the years, Islamic financial services have expanded well beyond the Muslim world and are offered not only by Islamic banks, but also by Islamic subsidiaries of international financial institutions. Islamic financial services are currently provided in countries such as India, China, Japan, Germany, Switzerland, Luxembourg, the United Kingdom, the United States, and Canada.
The United Kingdom, which currently ranks 10th in The Banker's listing of "Top 15 Countries with Shariah-compliant Assets" (2007), has recently announced its aim to make London a global center for financial markets in the Muslim world.
In the case of larger Islamic banking industry, government regulations can play a significant role in the expansion of the Shariah-compliant microfinance. Indonesia today provides a supportive regulatory framework and licensed 35 new Islamic rural banks in the past five years. The State Bank of Pakistan, which already has a legal and regulatory framework in place for conventional MFIs, also developed guidelines in 2007 for the rapid expansion of Islamic microfinance.
There is ample evidence of growing demand for Islamic microfinance products. However, it requires that clients should feel comfortable with the products offered are authentically Islamic.
Critics of Islamic finance products suggest that the pricing of some products offered as Shariah-compliant too closely parallels the pricing of conventional products. For example, some institutions offer murabaha where interest appears to be disguised as a cost markup or administration fee. Islamic finance sometimes suffers from the perception that it is simply a "rebranding" of conventional finance and not truly reflective of Islamic principles.
Consequently, low-income populations, who often rely on local religious leaders to address questions of religion, must be convinced of the authenticity of Islamic financial products if Islamic microfinance is to reach its full potential.
Greater efforts should be explored to (i) increase collaboration between financial and Shariah experts on product authenticity, (ii) encourage exchange of experiences among religious leaders (particularly those serving poor populations at the local level) relating to Shariah-compliance of microfinance products, and (iii) educate low-income populations, in collaboration with local religious leaders, on how financial products comply with Islamic law.
Throughout the Muslim world, microfinance (Islamic or otherwise) is still seen as a philanthropic activity rather than a business enterprise. Consequently, in the context of Islamic microfinance, there is a growing tendency to view Zakat as a source of funding. Indeed, given the underlying principle of Islamic finance to promote the welfare of the community, Zakat funds appear ideally suitable to support Islamic microfinance. However, a heavy reliance on charity is not necessarily the best model for the development of a large and sustainable sector, and more reliable, commercially-motivated streams of funding should be explored.
By Abdul Aziz V. K. - Director of Al-Hayat International School, Jeddah
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