FINANCIAL INCLUSION THROUGH ISLAMIC MICROFINANCE: AN EMERGING MARKET NICHE

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Islamic microfinance business is carried out through interest free models. It targets the financially deprived (poor people) and it helps them to engage in various income generating activities. Ultimately, such activities enable them to break the chains of poverty, besides contributing to the socio-economic development of their respective countries.
An estimated 72 percent of people living in Muslim-majority countries do not use formal financial services. Even when financial services are available, some people view conventional products as incompatible with the financial principles set forth in the Islamic law. In recent years, some microfinance institutions (MFIs) have stepped in to service low-income Muslim clients who demand products consistent with Islamic financial principles. This has led to the emergence of Islamic microfinance as a new market niche.
Islamic microfinance represents the confluence of two rapidly growing industries: microfinance and Islamic finance. It has the potential to not only respond to unmet demand but also to combine the Islamic social principle of caring for the less fortunate with microfinance’s power to provide financial access to the poor. Unlocking this potential could be the key to providing financial access to millions of Muslim poor who currently reject microfinance products that do not comply with Islamic law. Islamic microfinance is still in its infancy, and business models are just emerging.
The supply of Islamic microfinance is very concentrated in a few countries, with the top three (Indonesia, Bangladesh, and Afghanistan) accounting for 80 percent of global outreach.
Nevertheless, demand for Islamic microfinance products is strong. Surveys in Jordan, Algeria, and Syria, for example, revealed that 20–40 percent of respondents cite religious reasons for not accessing conventional microloans.
Principles of Islamic finance
Islamic finance refers to a system of finance based on Islamic law (commonly referred to as Sharia 4). Islamic financial principles are premised on the general principle of providing for the welfare of the population by prohibiting practices considered unfair or exploitative. The most widely known characteristic of the Islamic financial system is the strict prohibition on giving or receiving any fixed or predetermined rate of return on financial transactions. This ban on interest, agreed upon by a majority of Islamic scholars, is derived from two fundamental Sharia precepts:
1) Money has no intrinsic worth-Money is not an asset by itself and can increase in value only if it joins other resources to undertake productive activity. For this reason, money cannot be bought and sold as a commodity, and if it is not backed by assets, it cannot increase in value over time.
2) Fund providers must share the business risk-Providers of funds are not considered creditors (who are typically guaranteed a predetermined rate of return), but rather investors (who share the rewards as well as risks associated with their investment).
Islamic finance, however, extends beyond the ban of interest-based transactions.

Additional key financial principles include the following:
1) Material finality-All financial transactions must be linked, either directly or indirectly, to a real economic activity. In other words, transactions must be backed by assets, and investments may be made only in real and durable assets. This precludes the permissibility of financial speculation, and therefore, activities such as short term selling are considered violations of Sharia.
2) Investment activity- Activities deemed inconsistent with Sharia, such as those relating to the consumption of alcohol or pork, gambling and the development of weapons of mass destruction, cannot be financed. In broader terms, Sharia prohibits the financing of any activity that is considered harmful to society as a whole.
3) No contractual exploitation- Contracts are required to be by mutual agreement and must stipulate exact terms and conditions. Additionally, all the parties involved must have precise knowledge of the product or service that is being bought or sold. Scholars must complete several years of training before becoming certified to issue financial rulings.
The industry’s most prominent Islamic finance scholars are in general agreement on the basic set of financial precepts listed above.
However, there is no centralized Sharia finance authority, and consequently, there can be conflicting views on the implementation of these principles in designing and extending Islamic financial products.
Islamic Microfinance Education – The critical need, opportunity and way forward
As per the expert view, and the principles mentioned above, it is stated that Islamic microfinance education is the ultimate way to make Islamic microfinance practical and awareness creation of the Islamic microfinance on global canvas for its acceptability. The main hindrance of Islamic microfinance’s successful execution is instant acceptability caused by lack of awareness.
The concept of Islamic microfinance has recently developed a dimension for micro financing to operate on Islamic models that started in early 1960’s from Latin America and South East Asia. For example, Bangladesh has a significant contribution to the origination and approach through the Grameen model concept of Islamic micro financing. Other models that have been adapted are through credit unions and self help groups. However, the microfinance sector is looking forward to training that shall equip its members with the knowledge to practise Islamic microfinance using these models cautiously.
It has been observed that there are no specialized institutions for the education of Islamic microfinance in particular. The absence of a specialized education in Islamic microfinance is one of the hurdles for the promotion of the industry.
There is an immediate need to initiate comprehensive programmes on Islamic microfinance in Kenya and globally because the main challenges of Islamic microfinance are lack of awareness and education and of course religious consciousness. The industry therefore faces criticism in different aspects.
The expensive education of Islamic microfinance is also a discouraging factor for the Islamic microfinance learners which should be subsidized and funded by donor agencies.
The 46% of whole world poverty exists in Muslim world while Muslim population in the world is 26%, so Islamic microfinance can potentially be used for poverty alleviation by social awareness programmes through proper channels and educationists of Islamic microfinance realizing its importance and optimal results.

Islamic Microfinance in Kenya
Kenya has been urged to adopt Islamic microfinance business models to help lift many families out of poverty and boost financial inclusion of disadvantaged groups in the country.
At a conference held last year in November, organized by Al Huda Centre for Islamic Banking and Economics based in Dubai, delegates from 28 countries were educated that Islamic microfinance offers greater access to interest-free capital thereby enhancing economic fortunes of disadvantaged individuals and groups. Islamic microfinance, which is yet to gain a strong foothold in Kenya, is part of the larger Islamic finance industry which offers services in banking, insurance (Takaful), and bonds (sukuks).
Islamic microfinance is mainly concentrated in Middle-East and Asian countries but it needs to expand to Kenya and Sub-Saharan Africa to help minimize poverty and financial exclusion.
There is a large population in Kenya and Sub-Saharan Africa which remains underserved by microfinance based on interest-free loans.
Islamic microfinance is not meant for Muslims only but all people regardless of their religious affiliations.
The National Treasury Principal Secretary Dr Kamau Thugge confirmed through his speech at the forum that Kenya is putting in place policies and measures to govern and nurture the budding Islamic finance sector including Islamic microfinance. In his speech read by Treasury’s Director-General for Budget, Fiscal and Economic Affairs Dr Geoffrey Mwau, the PS said a National Sharia Advisory Board will soon be established to create and enforce standards and best practices to grow the sector. Kenya is keen to become a regional hub of the global Islamic Finance industry, which is projected to grow from the current Kshs. 190 trillion shillings to Kshs. 340 trillion by 2018.
Islamic finance promises to foster greater financial inclusion and its emphasis on asset-backed financing and risk-sharing means it could provide support for small and medium-sized enterprises. Kenya does not have a fully-fledged Islamic microfinance institution yet but has two Islamic banks, five Islamic banking windows offered by conventional banks, two credit unions/Saccos, one Islamic insurance firm, one reinsurance institution and one capital markets unit trust.
Since Kenya is the financial hub in the region, it is likely that if adopted in the country, it will also be adopted in other countries in Africa.

Conclusion
From the information above, it is evident that capacity building is needed at all levels to realize the full potential of Islamic microfinance.
At the macro level, the Islamic Development Bank and Islamic financial standard setters should consider developing global financial reporting standards adapted to microfinance to build the infrastructure for transparency in the global Islamic microfinance sector.
This infrastructure would entail comprehensive disclosure guidelines on Islamic microfinance accounting principles, pricing methodologies, financial audits, and eventually, rating services.
At the micro and institutional levels, international donor agencies can play a major role in expanding access to finance in Muslim countries by helping existing institutions reach scale and funding pilot projects testing various business models. In addition, more effort should be made to train Islamic MFI managers and staff through, for example, the development of operational tools and manuals.
The writer is the acting CEO of the Association of Microfinance Institutions (Kenya). Email: ckaranja@amfikenya.com

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