Description
Microfinance is usually understood to entail the provision of financial services to micro-entrepreneurs and small businesses that lack access to banking and related services due to the high transaction costs associated with serving these client categories.
FINANCIAL STUDY ON ISLAMIC MICROFINANCE SYSTEM AND POVERTY ALLEVIATION IN SOMALILAND
TABLE OF CONTENTS
DECLARATION ............................................................................................................................ i STATEMENT OF APPROVAL .................................................................................................. ii DEDICATION .............................................................................................................................. iii ACKNOWLEDGEMENTS ......................................................................................................... iv TABLE OF CONTENTS .............................................................................................................. v LIST OF ABBREVIATIONS.................................................................................................... viii ABSTRACT .................................................................................................................................. ix CHAPTER ONE............................................................................................................................ 1 INTRODUCTION ...................................................................................................................... 1 1.1 Background of the Study ....................................................................................................... 1 1.2 Problem Statement ................................................................................................................ 2 1.3 Purpose of the study .............................................................................................................. 3 1.4 Objectives of the Study ......................................................................................................... 3 1.4.1 General Objectives ......................................................................................................... 3 1.4.2 Specific Objectives......................................................................................................... 4 1.5 Significance of the Study....................................................................................................... 4 1.6 Scope of the Study................................................................................................................. 5 1.6.1 Content Scope................................................................................................................. 5 1.6.2 Geographical Scope........................................................................................................ 5 1.6.3 Time Scope..................................................................................................................... 5 1.7 Organization of the Paper...................................................................................................... 5 CHAPTER TWO........................................................................................................................... 6 LITERATURE REVIEW .......................................................................................................... 6 2.1 Poverty................................................................................................................................... 6 2.1.1 Introduction .................................................................................................................... 6 2.1.2 The meaning of poverty and its measurement................................................................ 6 2.1.2.1 Defining Poverty ..................................................................................................... 6 2.1.2.2 Major Factors Intensifying the Poverty Problem..................................................... 7 2.1.2.3 Measuring Poverty................................................................................................... 9 2.1.2.4 Regional Poverty Conditions................................................................................... 9 2.1.3 The Islamic Perspective of Poverty Alleviation ........................................................... 10 2.1.4. National and International Involvements in Poverty Alleviation ................................ 14 2.1.4.1 National Participation in Poverty Alleviation........................................................ 14 2.1.4.2 International Participation in Poverty Alleviation................................................. 15 2.1.4.3 NGOs' Participation in Poverty Alleviation.......................................................... 15 2.1.5 The Role of Islamic Financial Institutions in Alleviating Poverty ............................... 16 2.1.5.1 Islamic Financial Institutions................................................................................. 16
2.1.5.2 Policy Options for Enhancing the Role of IFIs in Alleviating Poverty ................. 17 2.1.5.2.1 Expanding Pro-poor Financial Services and Products.................................... 18 2.1.5.2.2 Networking with Other Financial Institutions ................................................ 18 2.1.5.3 Financial Services Required to Assist the Poor..................................................... 19 2.1.5.4 Equitable distribution of credit .............................................................................. 20
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2.2 Microfinance ....................................................................................................................... 21 2.2.1 Introduction .................................................................................................................. 21 2.2.2 Islamic Microfinance.................................................................................................... 22 2.2.2.1 Islamic Finance...................................................................................................... 23 2.2.3 Islamic Microfinance in practice .................................................................................. 25 2.2.4 Instruments ................................................................................................................... 26 2.2.5 MDGs, Poverty Alleviation and Microfinance............................................................. 28 CHAPTER THREE .................................................................................................................... 29 RESEARCH DESIGN AND METHODOLOGY.................................................................. 29 3.1 Research Design .................................................................................................................. 29 3.2 Population and Sampling..................................................................................................... 29 3.2.1 Target Population ......................................................................................................... 29 3.2.2 Sample .......................................................................................................................... 29 3.2.3 Sampling Technique..................................................................................................... 29 3.3 Data Collection.................................................................................................................... 30 3.3.1 Instrumentation............................................................................................................. 30 3.3.2 Research Procedure ...................................................................................................... 30 3.4 Data Analysis ...................................................................................................................... 30 3.5 Ethical Considerations......................................................................................................... 30 3.6 Limitations of the Study ...................................................................................................... 31 CHAPTER FOUR ....................................................................................................................... 32 DATA PRESENTATION AND ANALYSIS ......................................................................... 32 4.1 A Survey Study on Salaam Financial Services ................................................................... 32 4.1.1 Background of the Organization................................................................................... 32 4.1.2 Target Beneficiaries...................................................................................................... 33 4.1.3 Financial and Nonfinancial Services ............................................................................ 34 4.1.4 Fund Mobilization and Financing................................................................................. 35 4.1.5 Major Challenges.......................................................................................................... 39 4.2 A Survey Study on Kaaba Microfinance Institution ........................................................... 40 4.2.1 Background of the Organization................................................................................... 40 4.2.2 Target Beneficiaries...................................................................................................... 41 4.2.3 Financial and Nonfinancial Services ............................................................................ 43 4.2.4 Fund Mobilization and Financing................................................................................. 44 4.2.5 Major Challenges.......................................................................................................... 47 CHAPTER FIVE......................................................................................................................... 48 CONCLUSION AND RECOMMENDATIONS.................................................................... 48 5.1 Discussion of Major Findings ............................................................................................. 48 5.2 Conclusion........................................................................................................................... 49 5.3 Recommendations ............................................................................................................... 50 BIBLIOGRAPHY ....................................................................................................................... 53 QUESTIONNAIRE ..................................................................................................................... 56
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LIST OF FIGURES Figure 2.1: New directions for IFIs Involvement in Poverty Alleviation Activities??.???.17 Figure 4.1: Salaam Target Beneficiaries??????????????????????.34 Figure 4.2: Salaam Mode of Islamic Financing???????????????????..35 Figure 4.3: Salaam Lending Methodology Schemes?????...???????????...36 Figure 4.4: Salaam Loan Repayment Mode?????????..???????????.38 Figure 4.5: K-MFI Lending Methodology??????????..???????????42 Figure 4.6: K-MFI Target Beneficiaries??????????.????????????42 Figure 4.7: K-MFI Entrepreneurial Clients????????????.????????...43 Figure 4.8: K-MFI Financial Services???????????????????????44
LIST OF TABLES Table 4.1: Salaam Outreach to the Poor???????????????????33 Table 4.2: Salaams' Average, Minimum & Maximum Loans???..???????.37 Table 4.3: K-MFIs' Average & Minimum Loan sizes???????.??????.45
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LIST OF ABBREVIATIONS CGAP: IDB: IFI: IFSID: IMF: INGOs: IRTI: K-MFI: LDCs: MDGs: MFI: NGOs: pbuh: PLS: PPP: PRS: RA: SSB: SWT: UNDP: Consultative Group to Assist the Poor Islamic Development Bank Islamic Financial Institution Islamic Financial Services Industry Development Islamic Microfinance International Non-Governmental Organizations Islamic Research and Training Institute Kaaba Microfinance Institution Less Developed Countries Millennium Development Goals Microfinance Institution Non-Governmental Organizations Peace of Allah be upon him Profit and Loss Sharing Purchasing Power Parity Poverty Reduction Strategy Radiyallahu Anhu Shari'ah Supervisory Board Subhanahu Wa Ta'ala United Nations Development Programme
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ABSTRACT Poverty prevalence dates back to the existence of human being and today it has occupied foremost place on human development agendas of virtually all countries of the world. In the Republic of Somaliland it has been a main challenge since the restoration of independence in 1991 and its alleviation is in the first pillar of the National Development Plan (NDP) and National Vision 2030, and also one of the country's strategic goals to achieve MDGs by 2015 to fight poverty and improve the standard of living of underprivileged population. Nonetheless, actual achievements are still limited. Islamic Microfinance which involves Shari'ah-compliant way of financing and providing credit without collateral or any property for guarantee to the marginally poor (too poor to have access to banks) for their business, is one of the most popular tools employed as part of a poverty reduction strategy, empowering and increasing the productivity of poor, giving social benefits to them in a sustainable way, and aiding economic development. However, in Somaliland it still remains fairly the same effect over the years due to misconceptions in Shari'ah-compliance, the institutions lagging behind and the like. This study determined the role of the Islamic microfinance in poverty alleviation efforts in Somaliland and how this role can be enhanced. It was intended to establish and recommend Islamic microfinance and its principles that could raise poverty reduction and economic development in the country. This was in view of the fact that conventional microfinance that charges the prohibited interest cannot be used by and for the Somaliland population which are 100% Muslims. The study was conducted through descriptive survey research design; data was collected in April 2012 to June 2012, using questionnaire, interview and document review techniques from two Islamic Financial Institutions of Kaaba Microfinance Institution and Salaam Financial Services, data was analyzed using descriptive quantitative methods and presented in tables and figures. The paper finds that the two institutions have envisaged, as their prime objectives, to serve to the vulnerable poor and to have positive impact on their incomes. However, it concludes that the institutions partially address in practice the issue of financial exclusion of the poor. They do not tap the wide variety of financial products and services which comply with Islamic law for the benefit of their clients particularly the hardcore poor and limited attention is paid to targeting the poor with their needs of financial services and products. This research recommends that the government should establish an enabling framework for the institutions providing Islamic microfinance, and K-MFI and Salaam Financial Services should intensify their contribution to poverty alleviation by incorporating new pro-poor financial development policies and by expanding their financial activities into rural areas. Donor agencies including UN and other INGOs to make their incomegenerating activities in line with Shari'ah and comply with national policies in improving the standard of living of the poor people. ix
Chapter One
Introduction
CHAPTER ONE INTRODUCTION 1.1 Background of the Study Allah (SWT) is the sole creator of this vast universe and whatever it contains. He created man as a master piece of His creation and elevated him to be His Khalifa on earth. He made all physical systems and other creations to cater human needs from the time immemorial. It is an Islamic value that every citizen in the Muslim countries is required not only to take into account the enhancement of Ummah's wellbeing but also to make necessary arrangements for the satisfaction of his material needs through efficient utilisation of resources and equitable distribution of goods and services and also to fully protect them from all kinds of fear besides the fear of poverty and starvation. Fighting poverty is the responsibility of individuals, governments, and related organizations. Islamic economic system lays the principles of poverty elimination and there is plenty evidence in Quran, Sunnah, and practice of Khalifs to provide food, social security as well as access to finance to each and every individual in an Islamic economy. Pointing to this fact, an Ayah of Quran enjoying upon Quraish to worship Allah because He has protected them both from starvation and fear by granting them food and peace1. Similarly a Hadith says that a society where a Muslim has to starve is forsaken by Allah2. The first four Khalifs were fully conscious of their obligation towards meeting the needs of poor. Umar Ibn Khadab (RA) declared, "if a camel dies at the bank of Euphrates, I am afraid Allah would make me accountable for it".3 The overwhelming stress on satisfaction of basic needs and social security both of current and future generations leaves no justification for the prevalence of widespread poverty in Islamic framework. As a matter of fact, Islam and absolute poverty cannot persist together because Islam is a viable system that can respond and consequently eliminate poverty through its socioeconomic, cultural and political mechanisms and principles. A really shameful situation emerges when abovementioned Islamic commitment is put next to along with pervasive poverty in Muslim world comprising of over a billion people and with impressive energy reserves like oil supplies but still faces crippling levels of poverty and increasing inequalities between haves and have-nots. Since it is estimated that over 1/3 of the world's poor are Muslims (CIA World Factbook 2010 and Economist 2008), and also that about 35% of the world's 1.2 billion Muslims are poor.
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Quran: (106:3-4). Al.-Hakim, al.-Mustadrak ala as Sahihayan,Vol. 2. p.12. 3 Muhammad Ibn S'ad al.-Tabqat al.-kubra, Beriut. Vol. 3. p.305. Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter One
Introduction
In recent years microfinance has emerged as an important instrument to relieve poverty in the developing countries. Today there are more than 7000 micro lending institutions providing loans to more than 25 million poor individuals across the world.4 Professor Mohammad Yunus, the founder of Grameen Bank in Bangladesh and the originator of the concept of microfinance, believes that 5% of Grameen Bank's clients exit poverty each year. So the success of microfinance institutions (MFIs) in Asia such as the Grameen bank, has led to the rapid expansion of similar programs in all over the world. The role of Islamic values and principles were well documented theoretically but not empirically. Today many researchers have shifted their focuses on understanding the complex dynamic of poverty alleviation towards Islamic point of view. Since their inception in the mid 1975s, Islamic Financial Institutions (IFIs) have considered poverty alleviation as one of their major areas of interest. However these successes lead to the new and emerging approach which is introducing interest-free microfinance (Islamic Microfinance). Since the fact is Microfinance can only success in every Muslim country if it is Shari'ah-compliant. As in Islam, charging interest (Riba) is prohibited because by Islamic teachings, money is not an asset for earning profit and thus interest cannot be used by and for the Muslims. In Somaliland, Kaaba Microfinance Institution (K-MFI) and Salaam Financial Services have actually been able to reach the economically active poor with their financial services in both urban and rural areas, therefore, the researcher wished to shed some light on the important concept of Islamic Microfinance (IMF) that substantially could enhance people's wellbeing and alleviate their vulnerability to poverty. 1.2 Problem Statement People living in poverty need permanent access to the same type of financial services we all need: a safe way to save for life cycle events and to reduce vulnerability to shocks; access to appropriately designed credit for business opportunities; ways to transfer money, etc. For the poor these financial services often make the difference between continued poverty and moving out of poverty. These results are what the United Nations Millennium Development Goals (MDGs)5 is all about - reducing poverty, increasing education, and nutrition. It will require financial systems that do not exclude the poor, who have not access to the formal financial services. This means building financial systems that are inclusive, and this is the new vision for microfinance that is attractive to donors and financial institutions that interest to help the poor alike.
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Estimate by the World Bank. Targets to be achieved in 2015 for development in the world as a whole with special emphasis on poorer countries, and are viewed as a key indicator of and reference for socio-economic development.
Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter One
Introduction
However, Conventional microfinance services do not meet the needs of majority of Muslim population in developing countries like Somaliland. The reason is that conventional microfinance institutions charge interest on their loans provided to small and medium enterprises as well as women entrepreneurs. In addition a vast majority of Muslim population refrains from availing conventional microfinance services due to the element of interest that is considered repugnant or Haram according to Shari'ah. Over 1100 million of the Muslim population is living below poverty line (less than $2 per day).6 Thus in this scenario, it is extremely important to note that Islamic microfinance has tremendous potential in a country like Somaliland where 100% of the population are Muslims and could be used as a powerful weapon to fight against poverty. It can develop a valuable human capital base by satisfying the financial needs of the society and positively contribute towards their economic growth. Therefore, Combining the Islamic social principle of caring for the less fortunate with microfinance's power to provide financial access to the poor has the potential to reach out to millions more people, many of whom say they would prefer Islamic products over the Haram conventional microfinance products 1.3 Purpose of the study The purpose of this paper is to investigate the impact of the Shari'ah-compliant Microfinance (or simply Islamic Microfinance) on poverty and how it contributes to the wider efforts to alleviate and consequently eliminate poverty in low income individuals and households in Somaliland. More emphasis is placed on the relationship between microfinance activities and poverty alleviation in selected IFIs of K-MFI and Salaam Financial Services in Hargeisa. 1.4 Objectives of the Study 1.4.1 General Objectives Poverty is a complex phenomenon, a consequence of lack of growth and inequality. Effective policies require technical and empirical understanding of poverty that is combined with efficient institutions and a supportive system of social values. This research is focused on methods used by both K-MFI and Salaam Financial Services through which socioeconomic policies and programmes dealing with poverty elimination are assessed. Hence, the researcher is interested to identify what Microfinance services offered by these IFIs done to help the poor and its influence on beneficiaries and how they can be more active in this regard.
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Estimate in the report of the 2011 International Conference on Islamic Microfinance held in Islamabad
Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter One
Introduction
1.4.2 Specific Objectives The overall aim of this paper is to investigate how the Islamic Microfinance System and its products contribute to the provision of financial services to the poor, alleviating poverty, empowering the poor and consequently to the efforts of sustainable development. The specific objectives of this paper are: -MFI and Salaam Financial Services, their mission and their main target groups. -financial services the institutions provide and to ensure their Shari'ah-compliance. satisfaction level, screening of fund usage and repayment schedules. empowerment of their client members. 1.5 Significance of the Study The study is expected to improve the practice of Islamic Microfinance because it highlights and provide a better understanding to IMF programs and how IFIs can contribute to the alleviation of poverty. It is hoped also that this study will be useful to the UN agencies involved in the efforts related to the implementation of MDGs to identify proper ways to alleviate poverty and to use the only applicable Shari'ahcompliant microfinance services to the poor in Somaliland where the total population are Muslims. The policy makers such as Somaliland Government will also find this study useful because it highlights on the areas and roles that the government can play in the fighting against poverty. This study should contribute valuable knowledge to the existing information or literature in the field of Islamic finance in general. It is the only study that has focused on interestfree Shari'ah-compliant microfinance in Somaliland. As such, it is expected to produce up till now unavailable knowledge on this subject. The findings should therefore form a useful material for reference that may be used by academicians, researchers who may wish to carry out further studies on a related subject and other readers in general. This study is also expected to suggest significant policy statements through its recommendations. The study will make recommendations on the modes of financing in Islamic microfinance, Shari'ah supervisory board and importance of Shari'ah audits. Such recommendations could inform policy formulations in the Islamic financial institutions, and other institutions in general. 4
Islamic Microfinance System and Poverty Alleviation in Somaliland
Chapter One
Introduction
This study should also influence the practice of poverty reduction strategies in Somaliland. In an attempt to deal with poverty, and its related problems, the stakeholders will focus on specific issues of Poverty Reduction Strategies (PRSs) generated through research. Therefore, the use of such specific knowledge will improve the efforts aimed at poverty alleviation. At last but not least, this paper is also important for the researcher to fulfill a partial requirement for the award of BBA degree in Accounting by the University of Hargeisa. 1.6 Scope of the Study 1.6.1 Content Scope This study on Poverty alleviation through Islamic microfinance system was drawn from the field of Islamic finance and it concerns and concentrated specifically on examining and seeking to establish the extent to which IMF programs of selected IFIs have contributed to the local efforts to alleviate poverty and will lead to the achievement of global MDGs agenda in Somaliland. 1.6.2 Geographical Scope This study is confined to microfinance activities of Kaaba Microfinance Institution and Salaam Financial Services, where the sample data will be collected. Specifically, the study was conducted in Hargeisa city the capital of Somaliland, the area was selected because the IFIs in Somaliland are headquartered in Hargeisa and the small and medium sized enterprises in this area use IMF services. 1.6.3 Time Scope As the research paper guideline of the faculty indicates, in terms of time the study was limited to three months from April 2012 to June 2012. 1.7 Organization of the Paper This paper has been organized in such a logical manner that the first chapter examines background of the study, problem statement, objective of the study etc,. The second chapter is the up- to- date information in great detail which is the literature review. The third chapter is about the research methodology and procedures used. The fourth chapter is discussion and analysis part which is the result of the questionnaires. In the fifth chapter and the final is the conclusion and recommendations based on the findings obtained. The paper is finalized with bibliography and appendices.
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Chapter Two
Literature Review
CHAPTER TWO LITERATURE REVIEW 2.1 Poverty 2.1.1 Introduction Poverty prevalence dates back to the existence of human being. Poverty has occupied foremost place on human development agendas of virtually all countries of the world. However, none of nation other than that of Khalif omar Bin Abdel Aziz7, given history, succeeded in eradicating poverty effectively. It was evident in the time of Abdel Aziz that Islamic economic system and its concerned ideals was an effective instrument for poverty eradication, but the yielding of better outcomes can be possible only in a conducive environment. That is why, in modern times Muslim world does struggle to resume what Omar Bin Abdel Aziz did then. It is a matter of offering an appropriate environment that will promote the implementation of Islamic-based economic principles leading to poverty alleviation (Abdelhak, 2011). Today widespread poverty is one of the major problems of mankind and its alleviation one of her major agendas. In 2005, according to the World Bank, 16.1 percent of the world's population lived on less than 1 US dollar a day (which corresponds to absolute or monetary poverty) and 57.6 percent lived on less than 2.5 US dollar a day. In recent years the Islamic world which is enormous with over 1.2 billion people, stretching from Senegal to the Philippines have poverty rate which is quite high in all Muslim countries except a few countries in Southeast Asia and the Middle East. Poverty levels have also been associated with high inequality alongside low productivity. Half of the Indonesia population (about 129 million) is living below the poverty line of US$2 a day. While in South Asia two largest Muslim states - Bangladesh and Pakistan - alone account for 122 million each living below the poverty line where as 100 million Muslims of India are also living below the poverty line (IRTI, 2007, p.18). 2.1.2 The meaning of poverty and its measurement 2.1.2.1 Defining Poverty Poverty is one of the vital concerns in most countries whether developed, developing or less developed. Some of the basic issues that need to be identified before discussing poverty alleviation in general or according to the Islamic faith are: what is meant by poverty, why there are poor people, and how they can be identified.
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When the authorities collected Zakah and there was no poor to be given this Zakah. Therefore Omar Bin Abdel Aziz asked to distribute this money of Zakah to those people who have debt, people who are going to marry, and to free slaves in Africa and so on. Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Two
Literature Review
A wealth of literature focuses on discussing the meaning of poverty, and identifying the most appropriate indicators which can be used to measure its magnitude on the national and international levels. However, it is indicated that there is no optimal definition to describe poverty, or a measurement technique to compare poverty across countries or among different parts of a country (Sirageldin, 2000). Development studies specialized in poverty related issues indicate that at the beginning of the 20th century, poverty standard was based on estimates of the minimum level of nutritional and food requirements. In the 1960s, it was based on the level of income, reflected in macro-economic indicators like Gross National Product per head. At the beginning of the 1970s, poverty was defined not just as a failure to meet minimum nutrition or subsistence levels of income, but also as a failure to reach the living standards prevalent in a given society. By mid-1970s, poverty was identified as the lack of access to health, education and other services. The 1980s witnessed major development in defining poverty. Non-monetary aspects (e.g. powerlessness, isolation, vulnerability, and lack of participation; security and social relations) were incorporated into the meaning of poverty since that time. This led to further broadening the concept of poverty to include sustainable livelihood, the environment, and the empowerment of women. During the 1990s, the meaning of poverty was augmented to include new human development dimensions such as: the availability of opportunities and choices needed to enable the person to lead a long; healthy; and creative life, and to enjoy a decent standard of living; freedom; dignity; self-esteem; and the respect of others (Maxwell 1999). Poverty has been identified at various levels. The most popular types of which are: extreme, overall, and human poverty. Extreme poverty (or absolute poverty) refers to lack of income necessary to satisfy basic food needs- usually defined on the basis of minimum calorie requirements. Overall poverty (or relative poverty) is defined as the lack of income necessary to satisfy essential food and non-food needs such as: clothing, energy, and shelter. Human Poverty refers to the lack of basic requirements to sustain basic human capabilities such as: illiteracy, malnutrition, abbreviated life span, poor maternal health, illness from preventable diseases, and lack of access to goods; services; and infrastructure (e.g. energy, sanitation, communication, and drinking water) necessary to sustain basic human capabilities (UNDP 2000: ch.1). 2.1.2.2 Major Factors Intensifying the Poverty Problem Dealing with the poverty problem in Less Developed Countries (LDC) requires first of all identifying the main circumstances leading to such condition. Development experts argue that the main reasons of the growth of poverty on the national level include: longIslamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Two
Literature Review
standing inequalities in the distribution of initial asset endowments, social; cultural; and political constrains, and governance and institutional failures. It has been also indicated that the roots of poverty are not in the community at the local level. Poverty is essentially a socio-political product of the systems imposed from the top at the national and international levels (Jan, 2002). One of the main factors which intensify the problem of poverty is the lack of job opportunities. Meanwhile, many working people are also poor such as: self-employed, unpaid family workers, disabled, and people engaged in very low paid jobs. The existence of full; decent; and productive employment depends to a great extent on the nature of national policies adopted to reduce poverty, and the size of investments in education; training; technological progress; and micro-credit programs. Generally, the gap between the haves and have-nots on the national and international levels is widening. Recent studies show that 74% of total income of world is shared by 20% of the world population. Among the major factors contributing to this situation are: lack of organized system capable of handling poverty alleviation efforts, insufficient awareness of the needs and rights of the poor, and lack the moral responsibility of the rich towards them. With the growing numbers of population especially in developing countries, reducing poverty requires not only the good will and resources, but also the right institutions and systems capable of handling this responsibility. International development researchers and practitioners used to think that rapid economic growth would lead to poverty reduction. Yet, it has been realized that this is not usually the case. It is becoming clear to many of them that poverty reduction can be achieved not through economic growth only, but governance as well. Meanwhile, growth generates more income, but the poor are unlikely to receive a fair share of this increased income if they are not economically, socially and politically empowered. National development policies generally intend to insure that the poor are treated equitably. However, funds assigned for poverty eradication programs do not usually reach the poor. Lack of appropriate poverty alleviation national policies, lack of accountability, and poor management of available resources are among the main reasons for this situation. It has been argued that dealing with it may require external support to assist those countries -firmly committed to reducing poverty- formulate the systems needed to meet their objectives. Such systems should confirm with the economic conditions of the countries where these systems are applied (UNDP 2000: ch.3).
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Literature Review
2.1.2.3 Measuring Poverty Measuring poverty is considered a problematic issue. For example, identifying the basis used for measurement is not usually clear-cut. A lot of alternative basis do exist such as: individual or household measures, private consumption only or private consumption plus publicly provided goods, monetary or monetary plus non-monetary components of poverty, snapshot or timeline, actual or potential poverty, stock or flow measures of poverty, input or output measures, absolute or relative poverty, and objective or subjective understanding of poverty. Another problem is related to measuring poverty on the international level. Comparing poverty levels among countries is affected by the difference of the cost of living (e.g. food and housing) in these countries. Serious efforts have been directed towards developing reasonable estimates for most of the countries in the world. The World Bank produced its first global poverty estimates for World Development Report 1990 for developing countries using household survey data for 22 countries. These estimates were based on an international poverty line of $1 a day standard, measured in 1985 international prices and adjusted to local currency using purchasing power parities (PPP). But PPP rates were designed for comparing aggregates from national accounts, not for making international poverty comparisons. In a new development, the World Bank Development Research Group published "World Development Indicators" which includes calculation of the number of people living below various international poverty lines, as well as other poverty and inequality measures. It is estimated that out of the 6.1 billion population of the world, more than %16 of them live on less than $1 per day, and almost %50 on less than $2 per day (World Bank 2005). 2.1.2.4 Regional Poverty Conditions The World Bank estimates of poverty levels in the different regions provide important indications of poverty conditions around the world. This shows that since the early 1980s, the share of people living below the international poverty line has been decreasing all over the world except in the Sub-Saharan Africa region and Europe & Central Asia. Civil wars, tensions among neighboring countries, and droughts are among of the main reasons for the increasing poverty in the first region. Political unrest and migration from LDC are major contributing factors to the increased poverty in the Europe & Central Asia region. The East Asian & Pacific region has witnessed an impressive decline in poverty level since the 1980s. The main reason for this improvement is related to national commitment
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Literature Review
to economic and social development and equity. The Latin America & Caribbean region maintained the same level of poverty. The Middle East and North Africa region had the second lowest level of poverty in 1981 and continued to have a decreasing share of people living under the poverty line. Oil production, industrialization and the growth of service sector in these economies have played an important role in helping the poor through different approaches such as: governments' provision of social services; subsidized food and low cost housing, and the public and private sectors provision of job opportunities for this segment of society. The estimated shares of people living on less than $2 a day show that the majority of the world population is in this category. This indicates that in the early 1980s, nearly 90% of people in China and South Asia, and 85% of people in East Asia & Pacific countries lived on less than $2 a day. A considerable decline occurred since then. Yet, the share of people in this category still high. About three fourths of the Sub-Saharan region suffer from lack of sufficient resources to satisfy their basic needs. As for the European &Central Asian countries, they have the lowest share of people living on less than $2 a day. However, this rate increased more than four folds during two decades. 2.1.3 The Islamic Perspective of Poverty Alleviation Although Poverty, and also poor, in Islam is not merely a matter of material concerns. Islamic definition of poverty entails more spiritual aspect than that of material. The Prophet (pbuh), as narrated by Abu Huarairah is reported to have said: "Indeed, the real richness is that of the heart (spiritual) itself." The mafhum mukhalafah (or inverse meaning) of the above statement is that the real poverty is the spiritual poverty. Though spiritual aspect of poverty is more important in Islam than that of material, the existence of both is interrelated and thus undeniable. Therefore, deprivation of either one of these aspects may give rise to poverty. The Prophet also says that either poverty or hunger may lead to infidelity. Thus, redefinition of these terms is merely reconsideration of the Islamic spiritual values. This is a first step, as it has significant consequences, in changing human perceptions about all these things related to poverty, especially measurements. Redefinition also applies to those of earlier Muslim scholars. It may be worth noting in this case one definition given by al-Ghazali that poverty is a state of not being able to fulfill one's needs (al-faqr 'ibarah 'an faqd ma huwa muhtaj ilaih). This al-Ghazali's definition is quite general, and may fall under either absolute or relative modern definitions. Nevertheless, his absolute poverty in terms of spiritual aspect referring to the Quranic verse (al-Fatir/35: 15): "Allah is rich and you all are poor," that everyone is poor and thus needs the help and blessing from Allah SWT, requires redefinition to satisfy modern approaches.
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Whatever the definition can be, poverty is among social illnesses that Islam suggests to minimize, if not to eliminate. Macro-perspective of this suggestion demand for the better progress of two interrelated policy issues: development and fiscal policy under which Islamic microfinance and Zakah8 administration are of importance. The Quran talks of two types among the poor, the needy and the beggar — miskin and fakir. The needy are generally not known to the others because they do not ask, but they may be in more straightened circumstances than the beggar. This is one area where an organized charity may be of great relevance on account of the (donor and receiver) anonymity it can provide. Social and religious workers along with like-minded professionals should give some thought to this. According to Islamic faith, poverty alleviation is the responsibility of both individuals and the state, whether separately or jointly. Individuals are expected to be sensitive to the needs of those who are near and close to them, physically or in terms of kinship. While managing the allocation of its resources; redistribution of its income; and achieving higher levels of development, the state is expected to take into consideration the needs of the poorest segment of society. Abdul Karim (2004) indicates that Islam, in contrast to the modern concept of the welfare state, holds the individual as much as the state responsible for the welfare of all members of society, particularly kinship and those who belong to the same community. He argues that this joint responsibility makes the welfare system more effective and comprehensive. Target groups of the deprived or underprivileged members of society are specifically identified in the Holy Quran which also clarifies how those groups can be helped or provided for. Islamic law is clear about the responsibility and the role of both individuals and the state regarding poverty elimination. The Shari'ah also provides guidance to how such role can be undertaken. Islamic ethical system supports poverty alleviation strategies that are based on the principle of promoting economic growth, productive equity, and individual commitment (Sirageldin 2000). The Holy Quran provides guidance for coordinating the role of the State and individuals in instituting and managing the welfare system. Detailed mechanics of the combination of both roles is left to the current conditions of society.
8
Zakah is the third of the five basic pillars of Islamic faith. Zakah is a levy normally at the rate of 2.5% charged on certain types of wealth such as business wealth, personal income etc. Only the Muslims who own the wealth beyond the minimum limit are charged Zakah. In a way, it is a compulsory levy imposed on the Muslims so as to take surplus money or wealth from the comparatively well-to do members of the Muslim society and give it to the destitute and needy. In Islam, all resources belong to Allah and the wealth is held by human beings only in trust. Zakah is also a part of a social system of Islam as the poor has certain rights in the wealth of the rich. Thus, Zakah acts as a mechanism for the distribution of wealth, which helps closing the gap between the poor and the rich. Islamic Microfinance System and Poverty Alleviation in Somaliland
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In order to form an Islamic welfare society, it is essential to apply the basic Islamic values of life. The most important of these are the believe in the existence of Allah-the creator, temporary life on earth, accountability of all actions on the Day of Judgment, and reward by the All-Aware according to the real motive of every human action. Among the principle pillars of an Islamic society are love and fear of Allah, honesty, and justice. It has been recognized more recently that these are essential pre-requisites of a civilized society. The Holy Quran specifies the main financial sources for welfare activities. Zakah, which is compulsory levied in different forms is the main financial resource to support certain target groups. Muslims are also strongly urged to undertake welfare activity on a purely voluntary basis. There are a countless forms of such activities which range from very small and costless deeds to very expensive activities, which are all highly appreciated. The merit of charitable activities is not related to its monetary value, what is important is the spirit behind it. Every Muslim, regardless of his/her means, is expected to participate in this act of virtue. The Holy prophet explained this by saying: "He who has an extra mount should give that to the one who has no mount, and one who has surplus of provision he should give it to the one who is without it." Muslim, the companion (RA) who reported this saying commented, "The Prophet made mention of so many kinds of wealth until we were of the opinion that none of us has any right over surplus" (Abdul Karim, 2004). The Holy Quran indicates that Muslims should do the following deeds: "And be steadfast in prayer and regular in charity and whatever good you send forth for your souls before you, you shall fit it with Allah, for Allah sees well as that you do" (2:110) But it is the righteousness to believe in Allah and the last day and the angels and the book and the messengers, and to spend of your substance out of love for Him, for your kin, for orphans, for the needy, for the wayfarer, for those who ask, and for the ransom of slaves; to be steadfast in prayer, and practice regular charity?" (2:177) "Never shall you attain to righteousness unless you spend out what you love, and whatever you spend Allah surely knows it well." (3:92). "And spend out of that with which We have provided you before death comes upon one of you and he says, 'My Lord! If Thou wouldst grant me respite for a little while then I would give alms and be among the righteous." (63:11) 12
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As people (men and women) are urged to be supportive of each others, great rewards are promised to those who sincerely take positive actions. "As to the men that give alms, and the women that give alms and those who lend to Allah a goodly loan-it will be increased manifold for them and theirs will also be an honorable reward." (57:19 "Those who believe and do deeds of righteousness and establish regular prayers and regular charity will have their rewards with their Lord, on them shall be no fear nor shall they grieve." (2:277) The Holy Prophet also said: "Charity wipes out sins as water extinguishes fire." (Tirmidhi) "Two persons are to be envied ...and he upon whom Allah bestows wealth and he spends in the cause of Allah through the hours of the night and day." (Bukhari) The above citations from the Quran and Hadeeth indicate that the Islamic approach to poverty alleviation should generally be based on the existence of four main conditions: a) The design of fiscal and monetary policies ensures the flow of resources to the poor, b) The design of the legal and institutional systems assures that wealthy people transfer regularly the due Zakah to the poor and the needy, c) Financial sources for poverty alleviation include voluntary transfer as well as compulsory regular transfer from the well-off to the poor, and d) The provision of interest-free loans is necessary to make funds available to the needy. Eradication of poverty, socio-economic justice and equitable distribution of income are among the primary goals of Islam and should be unyielding features of an Islamic economic system. The Islamic financial system should also reflect these objectives of Islam. Many Islamic scholars pointed out the philosophical basis of the Islamic financial system lies in adl (social justice) and ihsan (benevolence). The implication of these concepts is "taking care of those who cannot be taken care of by the market, who cannot play with economic forces or do not have access to economic means to enable them to exploit the economic opportunities around them". As such, it is imperative on Islamic financial sector to include social dimensions in their operations along with the normal commercial financing practices. 13
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2.1.4. National and International Involvements in Poverty Alleviation 2.1.4.1 National Participation in Poverty Alleviation Development specialists argue that in order to achieve positive results in the battle against poverty, public policy in LDCs need to be embodied in a number of anti-poverty strategies including: redistribution of physical assets, provision of human or social development services (e.g. basic education, shelter, health care, water, and electricity), social welfare and insurance, and security and protection against violence. In addition to these strategies, it is very important to have a good government capable of winning the fight against poverty. Such government should be characterized by: sound moral foundation, a philosophy of transparency, effective implementation, strong leadership, and fairness of the election process. Governments in many LDCs adopt different types of programs devoted to poverty alleviation. These programs are in three categories: basic social services (i.e. education, health, housing and utilities), consumer subsidies mainly of food, labor-intensive public works for the unemployed, and cash transfer programs. The main problem which limits the effectiveness of such programs is the difficulty of targeting the poor, and the benefits are too small to lift people out of poverty. In their fight against poverty, LDCs face a number of challenges which limit the achievements of these countries' poverty alleviation goals. These challenges are mainly related to the difficulty of: a) Identifying the most financially-sustainable programs that reach the poor, b) Rationalizing the existing programs and improving their cost-efficiency through better management and targeting, and c) Designing and implementing a monitoring system which ensures the effectiveness of these poverty alleviation programs (World Bank 2005). The experience of many developing countries indicates that the achievements of their efforts in fighting poverty are quite limited. It has been argued that the LDCs' antipoverty plans are usually based on general, vaguely worded objectives with unrealistic; unachievable; and no time-bound goals and targets. Reaching better results in reducing poverty in those countries would be based on a number of factors mainly: maintaining accountability and transparency in the use of poverty alleviation funds, generating more tax revenues to support poverty alleviation programs, applying decentralization to help local governments increase their competence; revenues; and their responsiveness to the needs of the poor, promoting community participation, and developing stronger organizations for the poor.
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2.1.4.2 International Participation in Poverty Alleviation On the international level, the United Nations Development Program (UNDP) is committed to eradicating poverty worldwide. This program focuses on providing countries with what they most need and what the program is best at providing mainly: helping these countries improve their policy-making, and enhance their ability to build institutions as the principal means to eradicate poverty. The UNDP also provides countries with the technical advice resources needed to make their governance structures more participatory, more accountable, and more pro-poor. There are also a large number of other international organizations which are involved in the international battle against poverty. These organizations have different approaches to reach their goals and also have different levels of achievements. On the top of the propoverty international organizations, in addition to the United Nations we can find: the International Monetary Fund, the World Bank, the Asian Development Bank, the African Development Bank, the International Labor Office, the Islamic Development Bank (IDB), and the Food and Agriculture Organization. 2.1.4.3 NGOs' Participation in Poverty Alleviation The Non-governmental Organizations (NGOs) are also considered a major partner in the war against poverty on the local, national and international levels. There are different types of NGOs involved in this war such as: a) Local organizations whose participants are also the direct beneficiaries of their activities, b) External organizations which provide goods and services to the poor but do not directly represent them, c) National NGOs which focus on advocating poverty alleviation policies on behalf of the poor at the national level, as well as providing benefits directly to them, and d) International NGOs which concentrate on providing different types of programs to help the poor especially in LDCs.
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2.1.5 The Role of Islamic Financial Institutions in Alleviating Poverty 2.1.5.1 Islamic Financial Institutions The past three decades have witnessed a considerable progress in applying the Islamic Shari'ah to the field of financial service industry. The evolution of Islamic financial institutions in modern time started in 1975 with the establishment of the Dubai Islamic Bank and the Islamic Development Bank. The first specialized research institution (the Centre for Research in Islamic Economics, in the King Abdul Aziz University in Jeddah) was established by in 1978. The first takaful company was established in 1979. During the 1980s, more Islamic banks and academic institutions emerged in several countries. Countries such as Pakistan, Iran and Sudan announced their intention to transform their financial systems to comply with the Shari'ah rules and principles. Since the early 1990s, the Islamic financial services industry has witnessed a very rapid rate of growth and is a continually growing sector due to its ethical principles and prohibition of riba (interest). Today, the industry's total assets are estimated at US$ 500 billion9. These institutions are working in many fields of finance such as: commercial banking, insurance, investment banking, fund management, and project finance (Obaidullah 200?). Currently, the Islamic financial market includes a wide range of institutions which operate according to the Islamic law such as: Islamic banks (i.e. deposit-taking and financing institutions): they include fullfledged Islamic banks, Islamic subsidiaries and "windows" of conventional banks; Islamic non-bank financial institutions: these include Islamic leasing and factoring companies, finance companies, Islamic housing cooperatives, Islamic microfinance institutions, credit sale subsidiaries of trading companies and other similar institutions, and institutions managing special funds (e.g. haj, awqaf, Zakah, and Sadaqah); Islamic insurance or takaful institutions; Islamic capital markets and their players, such as brokerage houses, investment banks, etc., as well as fund management institutions including Islamic asset management companies (e.g. mutual funds/unit trusts, hedge funds); and Islamic financial architecture and infrastructure organizations which provide various consulting, governance, regulation and supporting services.
9
Estimate in the report of the 2011 International Conference on Islamic Microfinance held in Islamabad
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2.1.5.2 Policy Options for Enhancing the Role of IFIs in Alleviating Poverty Figure 2.1: New Directions for IFIs Involvement in Poverty Alleviation Activities.
New Directions for IFIs Activities to Alleviate Poverty
Zakah& Charity Fund Management Mobilize Financial Resources
Waqf Fund Management
Applying New Transaction Technologies
Expanding Propoor Financial Service &products
Invest Resources in Profit Generating Avtivities Finance Economic Increase Propoor Activities Networking
Facilitate Service Delivery Methods for the Poor Increase Financial Service Accessibility
Reach the Poor Wherever they are Located
Improve Socioecono. Conditions of the Poor
Improve Poor Involvement in the Production Process
Poverty Alleviation
(Source: Asmaa, 2007) Islamic financial institutions have been expanding rapidly in Muslim and non-Muslim countries all over the world. These institutions have paid most of their attention to provide financial services which comply with the principals of Islamic law. Financial services directed towards helping the poor still limited and do not have significant contribution to poverty alleviation. Islamic financial institutions can benefit from the academic contributions of scholars and practical experiences of other financial institutions working in this field to improve their contribution to poverty alleviation.
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2.1.5.2.1 Expanding Pro-poor Financial Services and Products The social role of Islamic financial sector can be best exemplified by providing finance to the poor so as to increase their income and wealth. Specialized poverty focused MFIs provide much-needed finance to micro entrepreneurs resulting in the increase of their income levels and wealth. As most microfinance schemes have an integrated social development program, adopting the approach of microfinancing can imply a much broader program of wealth creation for the poor and bring about development. One of the main approaches to benefit the poor is to facilitate their accessibility to appropriate financial services and products. Islamic financial institutions need to consider the following measures: Establishing new branches in areas lacking financial services; Hiring and training local male as well as females staff in order to better reach and serve poor clients in their communities; Applying group guarantees or group lending which has been found to be an effective method in reaching the poor, reducing the risk of default, and lowering transactions costs; Designing special lending program based on repeated loans of increasing size and duration. Such program encourages business expansion, provides an incentive for timely and complete repayment and, develops continuing relation with the financial institution; Providing complete financial services including savings or deposit mobilization not just lending; Reducing transactions costs in terms of money and time through simplifying credit application and approval procedures, and increasing the decision authority of field offices; and Providing standardized financial services and products which meet the various needs of borrowers with fees and no "riba"10 or interest. 2.1.5.2.2 Networking with Other Financial Institutions Islamic financial institutions can improve their contribution to poverty alleviation activities through establishing active networks with other specialized financial and nonfinancial institutions especially those located in the rural areas and poor urban areas. Such collaboration would increase financial service accessibility and pro-poor activities which
10
The revelation on the prohibition of riba in the Quran can be classified into 4 stages; the first stage was on the moral denunciation of riba in al-Rum verse 39, the second stage was on comparing riba with the Jews in al-Nisa verse 61, the third stage was on the legal prohibition in al-Imran verse 130-132 and finally, the fourth stage was on al-bay' (trading) as the alternative to riba in al-Baqarah verse 275-281. Islamic Microfinance System and Poverty Alleviation in Somaliland
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all in turn would improve the socio-economic conditions of the poor and increase their involvement in the production process. 2.1.5.3 Financial Services Required to Assist the Poor The study of the structure and functions of financial institutions indicates that they cannot cause economic growth, but they can play a major role in facilitating it. The effectiveness of financial institutions in helping the poor can be improved through increasing the coverage of their specific financial needs, and expanding access for disadvantaged groups including women and the landless. Financial institutions are expected to play an important role in enabling the poor to participate in the economic development process, and to benefit from its outcome. The availability of appropriate financial services is expected to improve the productivity of poor people, increase their abilities of poor people to satisfy their own needs, and reduce their reliance on public assistance. The ability of financial institutions to benefit the poor depends to some extend on the mix of services offered. The main financial services those clients need include the following (Nelson 1999): Transferring funds through different payment mechanisms (e.g. checks, money orders, or cash) to the poor. This service is usually delivered by postal networks, and sometimes commercial banks which have branches in small towns and rural areas. Managing liquid assets for the poor. Sometimes they can have enough cash while other times they are in desperate need of it. Financial institutions can provide liquidity management service which would benefit the community poor whether personally or collectively. Providing important intermediation of funds services such as: deposit and savings mobilization, credit, and managing financial risk. Providing subsidized micro-credit programs. Subsidization of interest rates in credit programs is considered the key to sustainability. Offering "social intermediation". These services can help the poor by improving their access to sustained financial sources, develop their self-confidence, and improve their management skills. Reaching poor women, especially the head of households and providing them with their needs of different financial services.
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Generally, access to appropriate financial services enhances the ability of the poor to help themselves in establishing work opportunities which provide them with sources of income. Financial institutions can also facilitate the provision and maintenance of shelter, which poor people cannot obtain without help. The effectiveness of financial institutions in delivering services that meet these needs can be improved through: facilitating intermediation between informal and formal financial institutions, increasing coverage of the poor, expanding access for disadvantaged groups, and enhancing the outreach and sustainability of financial institutions. 2.1.5.4 Equitable Distribution of Credit Finance has always been a powerful political, social and economic weapon in the world. It plays a prominent role, not only in the allocation and distribution of scarce resources, but also in the stability and growth of an economy. It also determines the power base, social status and economic condition of an individual in the economy. Hence no socioeconomic reform in Muslim societies can be meaningful unless the financial system is also restructured in conformity with the socioeconomic goals of Islam in which justice occupies a prominent place. Since the resources of financial institutions come from deposits placed by a wide cross section of the population, it is only rational to regard them as a national resource in the same way as water supply coming out of a public reservoir. They must be utilized for the well-being of all sectors of the population and not for the further enrichment of the wealthy and the powerful. However, it has been observed that, 'the distribution of capital is even more unequal than that of land' and 'the banking system tends to reinforce the unequal distribution of capital'. This bodes ominously for society because it leads to the recruitment of entrepreneurs from only one social class and to the failure to utilize its entire resource of entrepreneurial talent (Leadbearer, 1986, p. 5). Hence it is necessary to correct the tendency of the financial system to contribute to concentration of wealth by promoting an equitable distribution of credit in the economy. Micro enterprises have generally proved to be not only viable institutions with respectable rates of return and low default rates but also a successful tool in the fight against poverty and unemployment. The experience of the International Fund for Agricultural Development (IFAD) is that credit provided to the most enterprising of the poor is quickly repaid by them from their higher earnings. Testimony from the Grameen Bank in Bangladesh indicates a constant repayment rate of 99 per cent since the Bank's inception (Yunus, 1984, p. 12). The Select Committee on Hunger established by the US House of Representatives concluded in its Report that 'the provision of small amounts of credit to microenterprises
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in the informal sector of developing countries can significantly raise the living standards of the poor, increase food security and bring about sustainable improvements in local economies' (1986, p.v). Dr Muhammad Yunus, founder of the Grameen Bank, has aptly emphasized that financing for self-employment should be recognized as a right that plays a critical role in attaining all other rights. No wonder a number of countries have established special institutions to grant credit to the poor and lower-middle-class entrepreneurs. Even though these have been extremely useful, they have proved not to be adequate and, therefore, unable to make significant headway in realizing the goal of equitable distribution of credit. This goal may be difficult to realize unless the microfinance sector is scaled up by integrating it with the commercial banks to enable the use of a significant proportion of their vast financial resources on a commercial basis for actualizing a crucial socioeconomic goal. 2.2 Microfinance 2.2.1 Introduction The microfinance revolution, begun with independent initiatives in Latin America and South Asia starting in the 1970s, has so far allowed 65 million poor people around the world to receive small loans without collateral, build up assets, and buy insurance. Idea of microfinance programs has come from Dr. Yunus who began a microfinance program among women in Bangladesh in 1976 through the University of Chittagong, however the concept is relatively simple and enjoys a long tradition in many developing countries. The basic idea of micro-finance is to provide credit to working poor who otherwise would not have access to credit services. This service has been provided in variety in different countries by moneylenders in poor communities for a long time (Zeller &Meyer, 2002). According to (Bucciferro, 2007) Microfinance programs have rapidly spread worldwide on the premise that they help to eradicate poverty and create economic growth, however, the impact of microcredit on poverty reduction and other outcomes is still unclear. There is no single definition of the microfinance. Generally microfinance is small financial services to poor people who don't have access to traditional bank services. "Relying on their traditional skills and entrepreneurial instincts, poor people use financial services from organizations called microfinance institutions (MFIs) to start, establish, or expand self-supporting businesses". Unlike from other credit institutions vast majority of MFI were created for poverty alleviation and empowerment for the poor. In spite of social orientation MFI can also make a profit. So, MFI may have financial sustainability when many other services that aim to improve the life of poor (hospital clinics for the poor, public schools, health and agricultural programs) are dependent on
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subsidy from either the government or private donors. The set of MFI further developed in developing counties where shadow economy is big. In developed countries microloans are provided by usual banks. MFIs differ in size and reach: some serve a few thousand clients in their immediate area, while others serve hundreds of thousands of very poor people through hundreds of branches covering large regions (Bucciferro, 2007). Grameen Bank of Bangladesh, which was founded by 2006 Nobel Peace Laureate Dr. Muhammad Yunus, is the world's largest and most successful MFI. It serves more than seven million clients; according to (Oscar, Garavelo, Mario& Mastin, 2003).The definition of microfinance is the provision of financial services to small economic units such as individuals and microenterprises for productive purpose as opposed to consumption. Micro finance is considered as the provision of financial services to the low-income clients including the self-employed which has evolved as economic development approach intended to benefit the marginally poor especially the women (Lan, 2004). James (2005) defined Microfinance institutions as entities in the business of providing financial to low income people. The original focus of microfinance was on the provision microcredit (small loans usually for short periods) to finance working capital for microenterprises usually run by low-income people. However, The field of microfinance has broaden greatly beyond credit only, to include micro-savings, micro insurance, remittances and other payments all of which have a great impact on the lives of the poor. The basic idea of microfinance is to provide credit to working poor who otherwise would not have access to credit services. This service has been provided in variety in different countries by moneylenders in poor communities for a long time. However the micro finance programs include lack of substantial amounts of collateral group lending, small amounts of capital paid back within a short time frame (Zeller & Meyer 2002). 2.2.2 Islamic Microfinance Given the dominance of western culture and values as well as plight and vulnerability of today's Islamic world, there has always been an incessant conflict between the two civilizations. Muslims have always been struggling for decades at almost every walk of real life to retain their values and culture. The philosophy behind such struggle is underpinned in powerful expression of collective identity that is multiple and highly diversified following the contours of each culture and historical formation of each identity. The feeling of this collective identity has urged Muslim scholars to find solutions of current economic problems to make their lives compatible with Shari'ah and to safeguard the Muslim Ummah against the perils of the western culture. (Yusuf, 2006; pp.56-63)
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While conventional microfinance products have been successful in Muslim majority countries, these products do not fulfil the needs of all Muslim clients. Combining the Islamic social principle of caring for the less fortunate with microfinance's power to provide financial access to the poor has the potential to reach out to millions more people, many of whom say they would prefer Islamic products over conventional microfinance products. From affordable loans and insurance products to safe places to save, microfinance services have been powerful weapons in the fight against poverty, especially in Latin America and South Asia (CGAP News, 2008). Microfinance refers to making small loans available to poor people (especially those traditionally excluded from financial services) through programmes designed specifically to meet their particular needs and circumstances (Khan, 2008; p.6). The needs of the poor in Islamic countries are no different from the poor in other societies except that these are conditioned and influenced by their faith and culture in a significant way. They need financial services because they are often faced with events that call for spending more money than might be available around the house or in the pocket (IRTI, 2007, p.20). The application of Islamic finance to microfinance was first discussed in depth by Rahul and Sapcanin (1998). They demonstrate that Islamic banking, with its emphasis on risk sharing and, for certain products and collateral-free loans, is compatible with the needs of some micro-entrepreneurs. Viable projects that are rejected by conventional lending institutions because of insufficient collateral might prove to be acceptable to Islamic banks on a profit-sharing basis However, they concluded that from a microfinance standpoint the mudaraba model (profit-sharing) has more drawbacks than the murabaha model (cost plus markup). The murabaha model is overall more cost effective, has a lower margin of error, and provides immediate collateral for a MFI because the MFI owns the goods until the last installment is paid. Dusuki (2006) has presented the idea of Islamic microfinance initiative in the perspective of Ibn Khaldun's concept of 'Asabiyah or social Solidarity that emphasizes group efforts and loyalty over self-interests of individuals. He argues that Islamic microfinance can be promoted through group lending to the poor who are normally denied access to mainstream banking services. 2.2.2.1 Islamic Finance Islam is a religion that unites both spiritual and temporal aspects of life. It regulates not only an individual's relationship with Allah, but also human relationships in social and financial settings. Thus the Shari'ah, or the Islamic Law, is part of every Muslim's cultural, social and behavioural identity. The application of Shari'ah to investment choices and management is not a new phenomenon. Earlier Muslims were able to establish an interest-free financial system for mobilizing resources to finance productive activities and consumer needs, which had worked effectively for centuries. As Muslim
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societies became more sophisticated, and their financing needs more complex, coupled with stagnating Islamic thought evolution, the Islamic-based financial system was gradually replaced by the interest-based system in recent times. The current increasing desire of Muslims to bring their modern economic and financial activity to conform again with their cherished religious values and beliefs, has led to a growing interest in Islamicapproved investments. To understand Islamic microfinance, we need a minimal understanding of the principles on which Islamic finance is based. Four principles which are derived from the Shari'ah laws (Islamic jurisprudence) and are seen by most scholars to form the core of modern Islamic finance are important also for the Islamic microfinance. The first principle, which is the most famous and perhaps the most controversial from a financial point of view, is the prohibition of interest. The accuracy of the term "interest" is questionable in this context, since the Arabic term "riba" is usually translated as usury, not interest. However, riba does not refer to usury as in modern economics, charging excessive interest rates. The prohibition of riba allows for administrative expenses accrued by financial intermediaries and also for compensation for inflation. It does not allow for profits from the sole activity of lending money (a piece of money cannot beget another piece, according to Aristotle) (Iqbal and Mirakhor 2007). Because the prohibition of riba does allow for some interest payments (inflation and administrative expenses), prohibition of riba (despite of the foreignness of the word) is a more accurate description than prohibition of interest. The prohibition of riba is related to other principles of Islamic finance. The second principle is risk-sharing, which means that lenders share in the profits and the losses of the business they fund. This requires determining profits for these businesses ex post, which is not necessary in an interest-based loan. Prohibiting riba and promoting risk-sharing makes the suppliers of funds investors instead of creditors. Sharing of profits is justified because each party takes some responsibility for the economic transaction. The lender is entitled to the profits only because they bear the risk of loss (Iqbal and Mirakhor 2007). The third principle involves calculations of the time-value of money and sheds light on the wisdom behind banning riba. Money, according to Shari'ah rules, is only a medium of exchange, as long as it is not invested in productive activities. According to this view, money has no time-value unless it is used in a productive activity. This principle draws a clear distinction between using money for investment and using it for mere lending/consumption (Iqbal &Mirakhor 2007). When money is used for investment it acquires time-value because its usage yields a financial reward. In this situation, the 24
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person who provides money for investments has the right to share this reward, whether it is positive (profits) or negative (losses), consistent with the principle of risk-sharing. On the other hand, when money is used to finance consumption or other activities that yield no financial reward, it has no time-value and should be considered as an act of charity. Thus, Shari'ah recognizes the time-value of money only when it acts as real capital, but not when it is potential capital (Iqbal 1997). With regards to investments, the prohibition of riba follows the principle of the time value of money. The ban of riba is based on the fact that interest is fixed and earned whether the productive purpose to which it is put is successful or not. This makes it a certain profit while the financial outcome (profit or loss) from investing the money is uncertain. Earning a certain reward as a compensation for the uncertain is unjustifiable both morally and economically. The forth principle is the prohibition of Gharar. Gharar is, as riba, an Arabic term that has no exact English translation. It simply means taking excessive risks and speculative behaviour such as gambling. Literally, gharar means uncertainty or ambiguity created by the lack of information or control in an economic transaction. A classic example of gharar is selling fish that are not yet caught or an unborn calf in its mother's womb. Gharar includes any uncertainty related to the quantity, quality, recoverability or existence of the content of the exchange contract (El-Gamal 2006). Prohibition of gharar leads to avoiding transactions involving pure speculation. Consequently, trading in gharar-related contracts is prohibited. However, many scholars find that writing certain types of insurance is not characterized by excessive uncertainty (or gharar) because the process itself transforms uncertainty to controlled risk. 2.2.3 Islamic Microfinance in practice Islamic banking is in a phase of growth and change. On one hand, Islamic finance is being celebrated as a promising financial industry. Its assets currently exceed $300 billion (compared to $160 billion in 1997) and the market is estimated to be growing at10-15% per year (The Economist, 2008). Islamic banking is emerging from its history of being primarily politically driven (especially in Iran, Pakistan and Sudan) and is increasingly motivated by market forces. Islamic banks have been established in non-Muslim countries with Islamic minorities (e.g. the Islamic Bank of Britain) and Islamic branches of Western banks have begun offering Islamic-compliant products (for instance, HSBC Amanah, the global Islamic finance services arm of the HSBC Group). However, Islamic banks have not typically been involved in microfinance. In part, we believe this is due to a lack of research and
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innovation in how Islamic microfinance might look, in the absence of subsidies and charitable motivations. Similarly, microfinance has received considerable attention from financial practitioners, researchers and policy makers. Many microfinance products have been designed and offered by political or charitable organizations whose goal is to foster economic development, rather than to realize a profit from the loan. According to de Aghion and Morduch (2005), the norm in microfinance is still subsidization. The UNCDF Bluebook (2005) asserts that more than 95% of microfinance institutions still require subsidies to cover their costs and finance their loans. Islamic finance scholars shyly hint that microfinance should be one of the future and logical fields for the extension of Islamic finance. Zamir Iqbal briefly mentions the importance of applying Islamic finance to microfinance, since Islamic finance promotes entrepreneurship and risk sharing and its expansion to the poor would be an effective development tool (Iqbal, 1997). The Islamic Financial Services Industry Development's (IFSID) Ten-Year Framework and Strategies Report mentions microfinance more elaborately. It argues for expanding Islamic financial institutions to the microfinance field, both for charitable reasons and for legal reasons. In particular, the legal context in most countries means that Islamic financial institutions can more easily offer microfinance products than non-banking institutions. The report envisages that the assets of the Islamic non-banking microfinance institutions will count for almost 8-10% of the total Islamic financial institutions' assets during the next ten years (IFSID 2006). Despite the call for Islamic microfinance, there has been very little academic research on the topic. There have been even fewer attempts at implementing Islamic-compliant microfinance products, however. 2.2.4 Instruments A number of financial instruments have been devised to adapt the principles of Islamic finance to modern banking. Instruments of financing may be broadly divided into (1) participatory profit-loss-sharing (PLS) modes, such as, mudaraba and musharaka; (2) sale-based modes, such as, murabaha; (3) lease based modes or ijara and (4) benevolent loans or qard-hassan with service charge. The following three instruments are perhaps the most relevant to the topic of microfinance. Profit-sharing agreements, "mudarabah" is one of the most common PLS financial arrangements. According to this arrangement, the financier provides funds to the
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entrepreneur to be invested in an economic activity (usually short to medium term projects) for an agreed-upon share of the profit. If the project returns a profit, the profit is shared as agreed. If the project incurs losses, the financier's loses her capital and the entrepreneur loses his effort and time. (El-Gamal 2006). A second popular PLS contract involves equity participation (musharaka). Musharaka is a classic joint venture. This contract is a hybrid of partnership and mudarabah. The entrepreneur and the investor contribute to the capital and managerial expertise in agreed upon amounts and they also agree on the share of the profits and losses. Perhaps the most popular arrangement in Islamic finance is a "murabaha" contract. Murabaha (Arabic ????????, more accurately transliterated as mur?bahah) is a trade with markup "buy-resell" (or cost-plus sale contract) used for purchasing commodities and other products on credit. It is usually used for short-term financing. In this contract, the financier (investor) supplies specific goods to the entrepreneur on the condition of deferred payment for a specific period of time. The entrepreneur produces the final product and sells it. The deferred price includes a markup that compensates the financier for the time-value of money, since money in this case is used for investment in a productive activity. To ensure that the money is used for investment, there are conditions to these types of arrangements. One important condition is that the financier must directly obtain (and own) the goods which are given to the entrepreneur, to ensure that the loan is not used for any alternative purpose.(El-Gamal 2006; and Obaidullah and Khan 2008). murabahah is one of three types of bayu-al-amanah (fiduciary sale). The other two types of bayu-al-amanah are tawliyah (sale at cost) and wadiah (sale at specified loss). It is one of the most popular modes used by banks in Islamic countries to promote riba-free transactions. Different banks use this instrument in varying ratios. Typically, banks use murabahah in asset financing, property, microfinance and commodity import-export. There are other forms of Islamic financial instruments that are also widely used in financial transactions. However, these contracts are analogous to well-known conventional financial contracts. Ijara for instance is a leasing contract, which is widely used for financing vehicles, machinery and equipment. Other contracts are developed to provide money for sales rather than for entrepreneurial activities. One type is deferredpayment sale (bay' mu'ajjal), in which delivery of the product is executed while delivery of an agreed-upon payment is delayed for an agreed period. Deferred-delivery sale (bay' salam) is similar to a forward contract, delivery of the product is in the future in exchange for payment in the spot market. These contracts are rarely relevant for the microfinance market.
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2.2.5 MDGs, Poverty Alleviation and Microfinance The Millennium Development Goals (MDGs) are eight goals to be achieved by 2015 that respond to the world's main development challenges. The MDGs are drawn from the actions and targets contained in the Millennium Declaration that was adopted by 189 nations-and signed by 147 heads of state and governments during UN Millennium Summit in September 2000. Goal 1: Eradicate extreme poverty and hunger: Halve, between 1990 and 2015, the proportion of people whose income is less than one dollar a day; Halve, between 1990 and 2015, the proportion of people who suffer from hunger Goal 2: Achieve universal primary education Goal 3: Promote gender equality and empower women Goal 4: Reduce child mortality Goal 5: Improve maternal health Goal 6: Combat HIV/AIDS, malaria and other diseases Goal 7: Ensure environmental sustainability Goal 8: Develop a Global Partnership for Development Towards achieving the goals the United Nations General Assembly adopted 2005 as the International Year of Microcredit to "address the constraints that exclude people from full participation in the financial sector." At the World Summit at the United Nations in September 2005, Heads of State and Government recognized "the need for access to financial services, in particular for the poor, including through microfinance and microcredit." The Monterrey Consensus that Heads of State and Government adopted at the International Conference on Financing for Development in 2002 explicitly recognized that "microfinance and credit for micro, small and medium enterprises ?as well as national savings schemes are important for enhancing the social and economic impact of the financial sector." They further recommended that "development banks, commercial banks and other financial institutions, whether independently or in cooperation, can be effective instruments for facilitating access to finance, including equity financing, for such enterprises?." It should be noted here that access to credit, savings, or other financial services is only one of a series of strategies needed to reduce poverty and achieve the MDGs. Financial services need to be complemented by access to education, health care, housing, transportation, markets, and information.
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Research Design and Methodology
CHAPTER THREE RESEARCH DESIGN AND METHODOLOGY 3.1 Research Design This study was conducted through descriptive survey research design. Survey research is an oriented methodology used to investigate populations by selecting samples to analyze and discover situations. Survey research is ideally suitable for studies that are testing accepted explanations. In this study, the previous explanation that Islamic microfinance contributes to poverty alleviation in other countries was considered. The researcher therefore traced through survey on how that fact is applicable to Somaliland. The afterthe-fact studies are the domain of survey research. Survey research enabled the researcher to substitute for a test to predict and explain how the selected Islamic financial institutions can take part in poverty alleviation efforts of Somaliland. 3.2 Population and Sampling 3.2.1 Target Population The target population consisted of all current and prospective microfinance providers in Somaliland. This has been chosen because the overwhelming majority of microfinance in Somaliland are not financially self-sustaining and remain dependent on external funding mainly provided through income-generating projects by the donor agencies subsidies including UN and other INGO's. In view of the fact that the availability of acceptable means (Shari'ah-compliant products) of financing in the financial sector is crucial to the success of the whole economic development efforts in this country, the researcher felt that this study provides an input to the income-generating activities. 3.2.2 Sample The sample consisted of two institutions, one financially self-sustaining and the other is depending on donor agencies subsidies. This has been chosen because these institutions are the only providers of Islamic microfinance products in Somaliland. 3.2.3 Sampling Technique This study employed purposive sampling to select the sample size. The purposive sampling technique refers to the situation that the researcher decides who to include in the sample based on their typicality. It is mainly used to gather focused information and in this study it was used to collect from the individuals who had the requisite information. It is preferred for this study because it selects typical and useful cases only.
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3.3 Data Collection 3.3.1 Instrumentation Questionnaires, unstructured interviews and document analysis were used as the main tools for collecting data. The selection of these tools have been guided by the nature of data to be collected, the time available as well as by the objectives of the study. The overall aim was to investigate how the IMF System and its products contribute to the provision of financial services to the poor, alleviating poverty, empowering the poor and consequently to the efforts of sustainable development, so the researcher was mainly concerned with, criteria for eligibility, microfinance model, loan disbursement schemes, loan repayment and collection methods, etc. such information could best be collected through the use of a questionnaires and unstructured interviews techniques. Document analysis was used to obtain data on some background information and target clients. 3.3.2 Research Procedure The researcher developed a questionnaire over a period of one week under the guidance of the supervisor. When the questionnaire was finalized, the researcher sought permission from the faculty to proceed with the study. Once the permission was granted, the researcher proceeded to collect data. Data was collected from Kaaba Microfinance Institution and Salaam Financial Services in Hargeisa, using the questionnaire so developed along with unstructured interview. Secondary data was obtained from published data by the institutions either on their websites or printed annual reports, and these secondary data was analyzed through document review technique. 3.4 Data Analysis In this study, the collected data was analyzed using descriptive quantitative methods. The data has been presented in tables and figures which have been built from related questions in the sections of the questionnaire. Data have been analyzed instantaneously after each table and figure. The analysis software of SPSS (Statistical Package for Social Sciences) and Microsoft office Excel were of great use to this study. 3.5 Ethical Considerations The major ethical problem in this study was the privacy and confidentiality of the respondents. Obtaining valid information will entail asking profound questions which are themselves an infringement on the privacy and confidentiality of the respondents, although this is the only way to present the facts but respondents had the freedom to ignore items that they did not wish to respond to.
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Questionnaires were administrated, after prior information has been delivered to the respondents to ensure safety, social and psychological wellbeing of the respondents. The researcher provided them with the necessary information regards the main purpose of the research, expected duration and procedures to be followed. 3.6 Limitations of the Study The major limitation of the study was lack of research done on the same subject matter in Somaliland and related literature on the theme. In addition, for the verity that conducting research requires time; money; and other resources, there were some imbalances between these requirements and the actual means available to the researcher. Moreover, one noteworthy limitation was the workload on the researcher as there were courses to study with multiple assignments and exams while at the same time developing this paper. What is more the researcher faced unwelcoming, lack of support and firmness shown by one of the study respondents. Those and other personal factors had some effect on the time taken to organize this paper.
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Chapter Four
Data Presentation and Analysis
CHAPTER FOUR DATA PRESENTATION AND ANALYSIS 4.1 A Survey Study on Salaam Financial Services 4.1.1 Background of the Organization Salaam Financial Services got accreditation and incorporation from the government of Somaliland on April 12, 2010. However, its business operations have not yet full-fledged since the organization is undergoing its early development stages. Therefore, the greatest hurdle facing the organization is establishing their organizational framework, product developments, capturing their share in the microfinance markets of Somaliland etc. Salaam Financial Services aims to develop financial and non-financial services modeled to gradually free its clients from wide-spread poverty and destitution. To realize that vision, the organization has lied down to pursue the following objectives: Positive impact on income of clients Outreach to the poor Financial sustainability of the institution Positive impact on education and social status of clients and their family Outreach to the poorest of the poor Be that as it may, the activities and performance of Salaam Financial Services is influenced and greatly overshadowed by its parent company, Telesom. For example, to be eligible and have access to Salaam Financial Services the individual should bring a Telesom shareholder to stand as a guarantor. On the other hand, Salaam Financial Services currently operates Hargeisa, Burao and Berbera. It has 3 operating branches (including the head office) active in the cities it operates with 4 loan officers and 30 employees. The total clients served by Salaam Financial Services were 40 clients consisting of 36(90%) males and 4(10%) females. 14 clients, which are all males and first-time borrowers, are active clients who have access to the lending facilities of the organization. Since the organizations is in its infancy, Salaam Financial Services have not yet operationalized the management tools to evaluate the repayment rates of its clients, thus, has not available information repayment status at the time of the study.
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4.1.2 Target Beneficiaries Salaam Financial Services has categorized its clients into three pies; clients with existing businesses and successful operations for at least two years, new entrepreneurs with prior business experience, and new entrepreneurs without prior experience. The clients who have both existing businesses and prior experience are the major clients of Salaam Financial Services, followed by those who have only prior business experience. Marginal consideration is allowed to those who have neither existing businesses nor prior experiences. Consequently, these three categories have not access to the same financial services. Clients with existing businesses garner the best and profitable financial services provided by the institution. Those clients with only prior experience have access its financial services but after extensive screening and strong guarantee process. Finally, those who have neither businesses nor prior experience are eligible to have Qard Hassan services and the available charity based funds with deliberate assessment. Considering outreach to the poor (refer to table 4.1 below), Salaam Financial Services target the poor as a major part of the clients. However, the organization has not a defined target group11 and selection criteria (eligibility criteria) to reduce leakage to the nontarget groups. The ways in which the institution makes contact with their clients are through the local TVs12& printed brochures. Table 4.1: Outreach to the Poor Clients Percent Not a specific target less than 30% Targeted as a minor part of the clients between 30 %- 50% Targeted as a major part of the clients between 50% - 90% Exclusive Target 90% and above As figure 4.1 below indicates, small and medium entrepreneurs are the main target beneficiaries (business clients) of Salaam Financial Services. They make 90% of the active clients of Salaam Financial Services. Salaam also provides financial products to small trade and market vendors which constitute 5% of the clients currently served.
11 12
Target group refers to the poor targeted as a group of similar characteristics and needs Salaam was using the local TVs just for one week at the time of the study
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Figure 4.1: Target Beneficiaries
5%
95% Small & Medium entrepreneurs Small trade & market vendors
At the time of the study survey, the institution could not estimate the potential market/clients they reached through microfinancial services due to many factors. Firstly, there was no available published data, private or public, which estimated the market demand of Somaliland microfinance industry as whole. Secondly, since Salaam Financial Services did not yet reached its targeted operational areas, they could not give an estimate of the total share of clients they could and intended to serve as it is corporate secret. Potential clients in hard to reach (i.e. in remote rural areas) were absolutely beyond the operation areas the institution served at the time of the study. In addition, Salaam Financial Services confirmed that their clients do not currently elect representative that voice the interest of the clients within and/or beyond the organization. Nevertheless, they emphasized they have high hopes that it will be accomplished in the near future as the organization and its member clients grow and develop. Furthermore, the organization underscored their plan to establish active spiritual development program which will contribute to the uplift and perfection of mu'amalat of the clients such as having faith in Allah in all spheres of live, freedom from corruption, mutual help, honoring promises, striving for knowledge, amanah etc. 4.1.3 Financial and Nonfinancial Services It is now an accepted fact that the challenge of poverty alleviation can be addressed by developing microenterprises. This requires a holistic approach involving microfinance or provision of financial services (microcredit, microsavings, microtransfers, and microinsurance) to poor and low-income people whose low economic standing excludes
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them from formal financial systems. Additionally, the micro entrepreneurs need to be provided technical and other forms of assistance. As figure 4.2 below reveals, the Salaam Financial Services use Murabaha, Mudaraba and Qardul Hassan as instruments of financing their clients. Though the institution intends to use various Shari'ah-compliant modes like Ijarah and Musharaka, this has not yet been accomplished due to challenges related to the regulatory framework and lack of enforceable laws in the country. Salaam Financial Services is modeled using Murabaha and Qardul Hassan as instruments of financing mechanisms. Murabaha mode of financing has the highest share of clients (80%) whereas the clients consuming Qardul Hassan mode of financing have relatively small proportion (15%). Figure 4.2: Mode of Islamic Financing
5% 15%
80%
Murabaha
Qardul Hassan
Mudaraba
The institution has not yet provided itself or in close contractual partnership with other institutions, to its clients and/or their communities nonfinancial services with an exception of contribution it offered to a building of the ministry of aviation. However, the department of marketing has envisaged and incorporated to their plan the provision of nonfinancial services aiming at the enhancement of their clients' literacy, business management skills and the awareness of the market information in the country. 4.1.4 Fund Mobilization and Financing Funds coming into Salaam Financial Services mainly originate from the deposits of clients who use the institution as a bank. The institution have permissions from the clients to use their deposits provided that the activities used for funds are disclosed to the deposit
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owner, that the activities are halal and free from any element which are repugnant in Islam such as riba, qarrar, maysar etc. In addition to that, the deposit owner should be prepared to share gains if profits are realized or loss if loss is sustained conditioned by the type of Islamic financial contract between the institution and the deposit owner. A second source of the funds are from the loan repayments by the active clients who already have access to the financial products of the institution which are reused into the institutions' fund deposits with no addition to the principal advanced to the clients. Although the repayments help ensure the sustainability of the available funds, it is vulnerable to dwindle resulting from the inflations and loan defaults of the clients which when combined their effects reduce the rate of future loan disbursements. In flaw of funds at Salaam Financial Services also arise from the administrative fees charged when a first-time borrower or repeated client is applying for financial support. If they are successful in obtaining funding there is management fee .These fees do not represent riba or interest, as they are merely to cover costs, both arrangement costs and the administrative costs. The basic lending methodology that is extensively employed by the Salaam Financial Services is individual lending schemes. As shown in the figure 4.3 below, 95% of the clients currently served borrow their loans individually. There's only one group in the loan disbursement schemes of the institution consisting of two persons. The group has no official meetings and emergency issues are resolved on an ad hoc basis. The institution makes contact to their clients through local radio, TVs, journals and brochures it prints. Figure 4.3: Salaam Lending Methodology Schemes
5%
95% Individual Group
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There is no significant difference in the process of disbursing loans to individuals as well as to groups. Both individual and groups are required to submit the application of their business proposal plans to the institution. After the institution evaluates the applications, the lending money goes only to those whose business plans are credible. The acceptance or rejection of the businesses plans solely rest on the shoulders of the management of the institution. They are responsible for deciding which plans are financed or rejected on basis of the viability, profitability, and a degree of acceptable risks of the business proposal plan. Salaam Financial Services has strict zero tolerance on defaults and delinquencies. Thus, the business plan applicants (both individuals and groups) should produce a guarantor instead of producing physical collateral(s). Only a shareholder of Telesom Company is eligible for standing as guarantor to the borrower and any other guarantor is not acceptable, whatsoever, in Salaam Financial Services. The institution also insists on that clients should pay 30% worth of the loan on spot immediately after the exchange transaction between the institution and the client. As depicted in table 4.2 below, in the last reporting year, the minimum loan size that a client can borrow was $500 irrespective whether the client is first- time or repeated borrower. The average loan sizes for the Murabaha and Qardul Hassan loans were $45,000 and $700 respectively. The maximum loan that clients in Salaam Financial Services borrowed was $300,000. This amount of money was available to both first-time borrowers and repeated clients. In other words, the lending scheme of the institution treats the same for the first-time borrowers and repeated clients, therefore, have access to same lending schemes. Table 4.2: Average, Minimum & Maximum Loans Minimum Maximum Average Loan Loan Loan Murabaha $ 500 $ 300,000 $ 45,000 Qardul Hassan $ 500 $ 700 First-time borrowers $500 $3 00,000
Repayment of the financing is the responsibility of the respective individual who had an access to the products of Salaam Financial Services. In the group context, repayment of the financing is not a shared responsibility of the entire group members; hence, they do not share the risk if one defaults.
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In almost all the cases, the repayment modes of the loans are structured at monthly intervals. As figure 4.4 below depicts, 95% of the loans are repaid on a monthly basis, followed by 3% of quarterly loan repayments and a small fraction of clients (2%) utilize yearly repayment of the loans. Figure 4.4: Loan Repayment Mode
3% 2%
95% Monthly Quarterly Yearly
Deposit of loan payments to institutions' depository bank accounts are the prime method of loan collection in the institution. The process of loan collection is as follows; an account is opened for the borrower at the outset. The client then writes cheques against his accounts in advance. Each cheque is then cleared in installments in due time. Finally, the last cheque is cleared at the maturing date of the loan. If a client pays full borrowed money before the maturity date of the loan, the institution provides a rebate which is not fixed rate but depends upon the amount of loan the client had access to. In addition to that, Salaam Financial Services facilitates to such clients' future financing agreements. To ensure the effective repayment of loans, the institution uses strict guarantee system as already mentioned. The beneficiaries also look forward to tap the repetitive financing in a graduated manner offered to the clean clients and this helps mitigate the risk of default and delinquency. Salaam Financial Services also provides charity-based funds mainly the Zakah that accrue to the institution each year. These funds are given to the vulnerable and the destitute persons in the community in accordance with the Islamic principles. Those persons who are eligible for these funds are required to bring a letter of confirmationfrom Sh. Mohamed Omar Dirir, a famous religious scholar in Somaliland. The context of the letter should affirm that the person holding it has basic necessity needs in the current lunar year to receive Zakah.
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The institution has not yet, however, carried out a monitoring and evaluation reviews of the impacts of their microfinance activities on their clients. But, they confirmed they will conduct those assessments when the institutional framework regulations are developed in due time. Furthermore, the provision of microfinancial services must also comply with Shari'ah so as to enhance financial inclusion. Salaam Financial Services has not its own Shari'ah board that ensures that their activities, contracts and asset portfolios are Shari'ah- compliant. Because hiring professional Shari'ah scholars and maintaining a Shari'ahboard is so costly. Nevertheless, the institution consults issues relating to Shari'ah- compliance with Sh. Mohamed Omar Dirir and Riqaba Shari'a13 to supervise the Shari'ah-compliance of the institution. 4.1.5 Major Challenges Salaam Financial Services faces various challenges emanating from diverse dimensions in the environment of the microfinance industry. The biggest challenge for the institution is due to lack of the regulatory framework that governs the industry as whole. Because of this, the industry is incompetitive, ambiguity is around the processes and activities of the microfinance institutions and there are no enforceable rules at courts at times of disputes. Since the institution is new to the industry, they face a lot of complications arising from the market due to their inexperience, lack of rigid institutional framework and absent of well established roles of the myriad departments of the institution. In addition to that, the institution has difficulty with the current and potential clients. Because there is a wide gap between the prevailing finance system in the community and the Islamic financial system. Many of the clients do not understand the workings and principles of the Islamic finance in general and particularly the financial products offered by the institution. To overcome those challenges, the institution recommended that the government of Somaliland in collaboration with the parliament to enact the laws governing the financial institutions as well as microfinance institutions as this will mitigate the vicious challenges the financial institutions encounter each day.
13
Shari'ah audit office in Hargeisa
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They also argued if the people, particularly clients of each institution, are trained on the principles of the Islamic microfinance and other technical skills in the financial arena that the problems with clients will be satisfactorily resolved. Finally, Salaam Financial Services has high hopes to push through the internal challenges the institution is currently facing as time passes. The management of the institution adamantly believes that the institution can instate itself as the leading company in the microfinance industry in the near future and any challenge they face is a learning process which the institution is stocking for the achievement of their strategic vision.
4.2 A Survey Study on Kaaba Microfinance Institution 4.2.1 Background of the Organization Kaaba Micro finance Institution (K-MFI) is a microfinancial service provider that aims to strengthen the economic base of the low-income self-employed in Somaliland through loans and savings services with special emphasis on low-income women. K-MFI has been operating under Doses of Hope Foundation (DoH), a non-governmental development foundation operating in Somaliland since 1998. The vision of K-MFI was enshrined to "aspire to be a financially self-sustaining MFI that empowers the low income and vulnerable groups particularly women in Somaliland." The institution is striving persistently to pursue in providing demand based financial services to the low-income and self employed people of Somaliland, with the prime objectives of reaching out to the poor and to have positive impact on their income, education and the social status of their clients to become the agents of change through improved access to finance. Started in 1999, the first micro finance project financed by the Rabo Bank Foundation began with 150 women beneficiaries; from 1999 to 2007 the micro finance program has gone through profound transformation and has scaled-up financial service delivery and improved its financial outreach. By 2007, the microfinance program had reached over 7,000 direct clients, with a further positive socio-economic effect for more than 41,300 indirect beneficiaries - 80% of which are low-income women (DoH, 2008). However, in February 2009 the institution was established as an independent Islamic microfinance institution with a financial support of EUR 150, 000 from Oxfarm Novib. K-MFI has now three branches (including the head office) operating three regions in Somaliland namely Hargeisa, Gabiley and Berbera with 18 employees and 3 loan officers engaged in the operation areas.
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Since registration of as an independent institution, K-MFI has served a total number of 5,000 clients. 4,000 (80%) of the served clients were female only. Currently, the active clients consuming its services are around 4,900. Of those only 320(6.5%) clients are firsttime borrowers whereas the rest constitute repeated clients. From 2008, the gross disbursement loans the institution given out were $ 820,000. The total amounts of loans outstanding to date were $ 60,000. The institution has enjoyed an excellent overall repayment rate of 98% - with slightly different figures for the males (90%) and females (99%). 4.2.2 Target Beneficiaries K-MFI's main goal was to provide financial services to the low-income and poor entrepreneurs (particularly women) in Somaliland to become self reliant and serve as agents of change in their respective communities. The financial services delivered by the institution were intended to finance the loan products that target the poor and very poor clients. In this regard, the institution sought the poor as an exclusive target (90% and above). To accomplish its target, the institution then accentuated to reach new entrepreneurs with only prior business experience and new entrepreneurs with neither existing business nor prior business experience in the poor strata of the community as the primary targets. However, targeting and selection of beneficiaries were not done with utmost care and objectivity in order to ensure that the people benefiting from the program are only the poor and very poor. The institution had not, since its registration, defined target groups which identify its potential target members. Services were not strictly directed to a well defined set of clients which have unique selection (eligibility) criteria which differentiate the target and non-target groups. Moreover, most of the beneficiaries of K-MFI at the time of the study were clients with existing businesses and successful operations for at least two years. Those clients enjoyed the same, if not better, financial services offered by the institution to the poor. At the operational level, the first stage of DoHs' lending schemes involved making individual loans. The second stage was to loan to hagbad-type groups. Each group decided itself on its maximum membership, mostly between thirty to fifty women. Then it decided on the members who will receive the first loans, five to ten people. Each received a loan. Once every member has received and repaid their first loan, the whole cycle could start again, with second or more loans to its members. The third stage was to loan to groups too poor to save even the small amounts involved in the traditional hagbad (DoH, 2009).
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Figure 4.5: Lending Methodology
30%
70%
individual
group
As figure 4.5 above depicts, at the time of the study, the individual loans constituted to 70% of the borrowers whereas the loans to groups were 30%. There were 4 active groups each comprising 20 individuals. The members of each group met quarterly each year to discuss their business issues. Figure 4.6: Target Beneficiaries
Small & medium entrepreneurs Small trade and market vendors Low salaried workers 52% 26 .84 % Small scale farmers Dairy & poultry business Fishery business
9.43% 4.18% 5.89%
1.66%
On the other hand, as shown figure 4.6 above, most of the beneficiaries of Kaaba Microfinance Institution were small and medium entrepreneurs (52%), followed by small trade and market vendors (26.84%) and dairy and poultry business (9.43%). Low salaried workers, small scale farmers and fishery business constituted to the lowest categories with 5.89%, 4.18% and 1.66% respectively. Of these beneficiaries, entrepreneurs with existing businesses accounted for 84.8 percent while entrepreneurs with only prior
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experience and those with neither existing business nor prior experience accounted together for the remaining shares as can be seen from figure 4.7 below. Figure 4.7: Entrepreneurial Clients
4.2% 11% clients with existing businesses Clients with only business experience Client with none 84.8%
Kaaba Microfinance Institution confirmed that it has not major rivalry in the microfinance industry. The institution, thus, estimated that it currently reached 90% of the total potential market/clients and that it is the only institution that provides microfinance services to the clients in hard to reach areas. The institution has embarked on empowerment of women with 80% of its clients being women. Nonetheless, the clients of the institution do not elect representatives who speak for the clients' interests, discuss issues relating to the lending schemes, lobby the rights of the vulnerable groups etc. Lending activities are supplemented by training activities in areas ranging from literacy, management of microenterprises like book keeping, marketing and repayment of loans, to education on social awareness. However, it was not clear whether - and the extent - the institution had an active spiritual development programs that encourages practices that exclude behaviors that are repugnant or unacceptable to Islam and detrimental to the institution of family and include codes of ethics and morality that promote unity and cohesiveness in society. 4.2.3 Financial and Nonfinancial Services Provisions of financial and non-financial services are powerful tools for poverty alleviation to the poor whose low income and economic status excludes them from the mainstream financial service providers.
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Data Presentation and Analysis
Exclusion of the poor from the financial system is a major factor contributing to their inability to participate in the development process. Thus, facilitating for the poor to have access to services such as credit, savings, insurance and a whole spectrum of nonfinancial services helps the poor and reduces their vulnerability which in turn increases the economic status of the poor families. Programs of K-MFI were chiefly modeled using Murabaha methodology as a financing mechanism to effectively penetrate and reach their clients. As it is shown in figure 4.8 below, Murabaha mode of financing made up 95% of the financial services provided by the institution. Other instruments of financing were Musharaka and Ijarah which formed 3% and 2% respectively as financing tools. Figure 4.8: Financial Services
3% 2%
95% Murabaha Musharaka Ij arah
The institution also offered its clients and/or their community non financial services such as skills training, financial literacy and record keeping trainings, marketing and business management trainings. 4.2.4 Fund Mobilization and Financing The K-MFIs' main sources of funds were grants and donations from international donor agencies. The major fund providers were originally UNHCR, Care international and UNDP. Other funders have included the Danish government and the foundation of the Netherlands Rabo Bank. Recently, Oxfam-Novib and CEBEMO are helping the institution to expand their services and to set up of 2 branches in rural and urban locations of Hargeisa and Gabiley regions.
Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Four
Data Presentation and Analysis
When applying for a loan in Kaaba Microfinance Institution, the applicant has to produce a business plan with the help of one of the Loan Officers. The application is then reviewed by a committee set up on for processing and evaluating the proposals. Only applicants approved by the committee - usually within 2 to 3 days - got access to the loans provided by the institution. When applying for loans, borrowers have the option to organise themselves into groups or apply just as individuals. Although the institution now insists on that borrowing should be done in the context of a groups in which each member is responsible for the others. The institution has provided collateral-free finance to the poor. To mitigate the risk of defaults and delinquencies and as an alternative to collateral approach, each individual has to find a guarantor such as INGO worker, owner of local business etc. In contrast to that, individual borrowers can bring an elder as a guarantor. Provided the elders are the male heads of the borrowers' extended families or clans who invariably involved in decisions affecting the borrowers all through their lives, for example their marriages. The institution has faith in that a promise to an elder to repay by the borrower is not lightly made and elders do not lightly stand as a guarantor since the honor of the individual and the family is at stake. The main financial model of the institution was Murabaha mode of financing and its average loan size, in the last reporting year, was $500 as depicted in table 4.3 below. For the first time borrowers, their average and lowest loan sizes were $300 and $120 respectively. The institution did not offer loan sizes smaller than $100 to its clients since that rate is the minimum loan size available to the clients . Table 4.3: Average and Minimum Loan Sizes Average Loan Minimum Loan Murabaha $500 $100 First-time borrowers $300 $120 Moreover, first-time and repeated borrowers got different loan schemes. This is due to the fact that the lending schemes were based on graduated manner in which clients who apply for the second or more loans were available for loans more than his/her precedent amount if the client proved his/her commitment and repaid the loan in due time in the previous loans. Whereas such offer was never presented for the first-time borrowers as they were perceived riskier clients. K-MFI also rendered Zakah to needy poor and destitute families in their operating areas. The given out Zakah was the obligatory almsgiving which the institution pays to the poor segment each lunar year as prescribed in the holy Quran. The Zakah funding is not a
Islamic Microfinance System and Poverty Alleviation in Somaliland
45
Chapter Four
Data Presentation and Analysis
credit to its beneficiaries, but it is a voluntary giving with the sole aim of taking care of the immediate and basic consumption needs of the poorest of the poor. Repayment of loans at K-MFI was in equal monthly installments. Clients were required to make five installments to clear out their debts to the institution. Loan repayments were collected over the counter to the institutions office. Any client who paid the full borrowed money on time was rebated on simplified loan repeat assistance. The institution put into rigorous measures to avoid deliberate loan defaults or delinquency from a client consuming the institutions' financial services. The measures employed were as follows: 1. Loans are only made for business purposes, with an approved business plan. 2. The borrower has to find a guarantor. 3. Administrative costs are deducted before money is handed over (These are deducted at source; someone borrowing $200 will be given $180 with $20 kept back for administrative costs) 4. Clients are trained regarding the elements of the financing and the requirements they will have to fulfill in order to continue to have access to funding. 5. Strong rapport between the institution and clients is established at the client meetings. 6. Repayment is made in five segments. 7. A reluctant re-payer is firstly chased up by the Loan Officer, look at whether the business is failing and see how it can be got back on track. In the group context, it is the responsibility of the group who borrowed with responsibility for each other. 8. If this fails, the guarantor ensures that K-MFI will be repaid. 9. If this also fails, the borrower will be taken to court. K-MFI conducts periodic monitoring and evaluation to assess the efficiency, effectiveness and the impact of its microfinance activities on the clients. The purpose of monitoring and evaluation is to review its achievements against predetermined impact indicators, and to use the experience from the results to improve the design of future projects and programmes. The impact indicators used by the institution were the clients' family income, savings, growth of business and the number of children sent to schools. The institution has not so far its own Shari'ah supervisory board due to its high cost. The institution, however, consults with issue relating to Shari'ah to local religious leaders particularly Sh. Mohamed Omar Dirir to supervise and consult about the institutions' operations to align with the Islamic Shari'ah principles.
Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Four
Data Presentation and Analysis
4.2.5 Major Challenges One of the most compelling challenge facing the financial industry in general and the Kaaba Microfinance Institution in particular is lack of enabling policy framework which supports the infrastructure and facilitates skills and market developments for the microfinance institutions to reach their clients. The institution is struggling even since its establishment limited finances to outreach its target clients. Inadequate donor funding, and insufficient support from the government is crippling the effectiveness of the institution to provide sustainable financial services. In addition to that, new challenges were emerged from the risk of clients' defaults. This got aggravated considering the limited support for human and institutional capacity building, worsening of communication gaps and inadequate awareness of the clients and the clients misunderstanding the difference between credit and grants. All these factors contributed substantially the increase of loan defaults. The best possible initiatives to mitigate such challenges, presented by the institution, were to set up by the government enabling environment and effective regulatory framework that supports the microfinance activities across the country. They also highlighted the importance of training the clients of microfinance institutions in order to cast out the misunderstanding of the clients. The institution emphasized the training should educate and enable the clients to discern the difference between credit and charity and their respective duties and obligations.
Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Five
Conclusion and Recommendations
CHAPTER FIVE CONCLUSION AND RECOMMENDATIONS 5.1 Discussion of Major Findings A great deal of attention has been given to the theoretical aspect of the Islamic microfinance system, especially the study of the economics of the various well-known Islamic modes of financing. Yet, there has been little work focusing on the empirical impact of the Islamic microfinance system on poverty alleviation. The present study has made a modest attempt to analyze the performance of two Islamic financial Institutions namely, Salaam Financial Services and Kaaba Microfinance Institution. The two institutions have succeeded to establish their operations in Somaliland. Currently, both Salaam Financial Services and K-MFI have branches at Hargeisa, Sahil and Gabiley regions. The size of institutions remain small, though variations exist between the institutions, in terms of the total clients served (40 for Salaam Financial Services and 5,000 for K-MFI), the number of the working staff (34 for Salaam Financial Services and 21 for K-MFI) and intensity of the institutions' penetrations in the areas they operate. The findings show that in general the two institutions sought outreach to the poor and positive impact on clients' income as their main objectives. Salaam Financial Services target the poor as major parts of their clients (50% - 80%) whereas K-MFI seek the poor as an exclusive target (90% and above). Notwithstanding the crowned objectives of serving the target population, the institutions only partially address the issue of financial exclusion of the poor. Both the institutions had not defined target groups which identify their potential target members. Services were not strictly directed to a well defined set of clients which have unique selection (eligibility) criteria which differentiate the target and non-target groups. For all intent and purpose, Salaam Financial Services and K-MFI have been less successful in reaching the hardcore poor. These are thousands which are often undernourished, are marginalized in society and often unable to get financial supports. The institutions under study had neither client empowerment facilities such as currently elected client representatives that voice the interest of the clients within and/or beyond the organizations nor social capital programs such as active spiritual development programs which contribute to the uplift and perfection of mu'amalat of the clients. The results found in this study show that the principal Islamic financial modes used by the two institutions in their transactions essentially are the non-profit loss-sharing modes particularly Murabaha mode of financing (Salaam Financial Services also provides Qard Hassan services for their clients). These modes are in general less risky than the profitIslamic Microfinance System and Poverty Alleviation in Somaliland
48
Chapter Five
Conclusion and Recommendations
loss sharing modes. Salaam Financial Services extend 95% of the loans to individual clients whereas K-MFI estimated it 70% as individual loans. In addition, K-MFI enjoys repayment rate of 98% and 80% of its client are females whereas female clients of Salaam Financial Services constitute just 10% of total clients served. The findings also show that Salaam Financial Services is financially self-sustaining institution. The sources of its funds are from the deposits of clients who use the institution as a bank, the loan repayments by the active clients who already have access to the financial products of the institution and from the administrative fees charged when a first-time borrower or repeated client is applying for financial support. However, K-MFI is non-sustaining donor dependent institution and the main sources of its funds are grants and donations from international donor agencies. 5.2 Conclusion A key feature of Islamic finance is asset-backing. There is a merit in the argument that end-use of funding must be monitored and funds must flown into productive assets. However, in the context of the poor and the destitute, whose needs are all basic in nature, do not have much for choice between present and future consumption. It is perhaps not sensible idea to finance an income-generating asset through Murabaha for a hungry person without finding a way to meet his immediate needs - food for him and his family. He would most certainly need cash to fulfil his immediate needs in addition to the physical asset to create wealth and generate income that would satisfy his future needs. In Somaliland the success of microfinance institutions depends upon the recognition of the fact that the household and business finances of most microenterprises are intertwined, and that efforts to restrict their use of funds to specified business purposes are typically futile and counterproductive. Therefore, to best serve the interest of poor borrowers, poverty-oriented microcredit programs should include consumption credit, and programs should evolve in the direction of a more holistic financial services approach where the objective is long-run financial sustainability. The attempt to focus on production credit alone is inevitably unsuccessful. On the other hand, both the institutions have well established loan disbursement, loan repayment and loan collection schemes. The institutions have provided collateral free finance to their clients to mitigate the risk of defaults and delinquencies. Both Salaam Financial Services and K-MFI have not so far their own Shari'ah board but they consult with local religious leaders particularly Sh. Mohamed Sh. Omar Dirir for auditing the operations of the institutions to ensure that the actual practice complies with the requirements of Shari'ah.
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Chapter Five
Conclusion and Recommendations
Yet, Salaam Financial Services and K-MFI are lagging behind the efficient outreach to the poor entrepreneurs. Their institutional frameworks are not flexible enough to incorporate and serve financial products to their target clients identified in their mission and objectives. Factors responsible and exacerbating afar for the said failures are lack of strong political support, limited institutional capacity and insufficient financial and human capital resources. Furthermore, Salaam Financial Services and K-MFI encounter numerous challenges ranging from lack of proper institutional framework, lack of appropriate legal framework, lack of supportive policies and enabling environment, and lack of supervisory framework to insufficient teaching and training of clients and staffs, and absent of research and development of products and Shari'ah issues. What is needed, for the institutions to become successful in their respective operations, is a systematic financial services approach to the issue of poverty alleviation under which, all sections of the society have access to appropriate, low-cost, fair and safe technical products and services from mainstream providers. 5.3 Recommendations The researcher has argued in this report that if the poor had more access to financial services with a form of economic relief then they would be able to develop their economy and get it back on track. But unfortunately, the options of financial services for alleviating poverty in Salaam Financial Services and K-MFI are either inadequate or exclusive and they can only contribute to the poverty alleviation efforts if they define their target group along with understanding the wider concept of banking for the poor (from poverty to profit) which considers the fact that poor are in need for financial (and nonfinancial) services without the backing of physical collateral. Despite its limitations, it is against this background that the recommendations below are made. Basing generalizations on the findings of this study, the researcher recommends the following: To implement the National Development Plan (NDP)14 and to the realize the National Vision 203015 and the Millennium Development Goals (MDGs), the government of Somaliland specially the parliament should enact the laws and policies governing the financial institutions including the National Microfinance
14
Five years (2012-2016) plan for full recovery and speedy development that focuses on sustainable development and poverty reduction to achieve rapid economic development and growth prepared by the Somaliland Ministry of National Planning and Development (MoNPD). 15 The road map for the country's long term development aspirations and goals for "A stable, democratic and prosperous country where people enjoy a high quality of life" Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Five
Conclusion and Recommendations
Policy16 in order to establish enabling and effective framework to support institutions to reach their clients and to ensure microfinance services for the poor contribute effectively to the implementation of the national PRSs and policies. There is a need to establish national anti-poverty commission which increases resource mobilization by linking Zakah and Waqf to Islamic microfinance that will play a significant role in poverty alleviation efforts in the country. Salaam Financial Services and K-MFI should organize themselves in a national microfinance forum in order to promote their participation in policy development adoption, review processes and enhance their institutional capacity at national levels and to seek memberships in effective international microfinance networks to cooperate in matters of common interest like - operational standardization (fiqh rulings, norms and procedures) and financial product development, resolution of divergence of views on Shari'ah compliance, development of resource center to share experiences, conducting training programs in microfinance facilitation. Salaam Financial Services, K-MFI and prospective microfinance providers should adopt full-fledged Shari'ah-compatible products, processes and activities and they should be perceived to be so by their clients, but not like to behave like the bankrupted Amaah Kalkaal17 when in an attempt to lay a Shari'ah-compliant foundation to its activity and invited Shari'ah scholars from Kenya to develop them an Islamic loan scheme, they saw that the proposed scheme did not suit their thought as it disrupted their main principle (a simplified loan granting system without any excessive paperwork involved), as Islamic methods of financing require a more rigid attitude towards checking the applicant's solvency. K-MFI should structure their operations so as to reduce and eliminate their dependence on subsidies and donor funds to become sustainable microfinance institution after donor support ends in order to enhance the income of poor, develop their microenterprises, build their assets gradually, manage their risks better and help them to enjoy an improved quality of life to the maximum degree. Islamic microfinance providers must take into account and consider the effective modes of financing that are not only applicable to clients' situations and understanding but are also in line with the current social, economic and legal frameworks of the country. Since Somaliland is an Islamic country and Islam has serious reservations against the charging of interest, donor agencies including UN and other INGOs providing income-generating activities and programs supporting microfinance in the country should make them in line with Shari'ah and comply with national policies.
16
Drafted by MP, Abdiqadir Askar Hassan with the Ministry of Commerce Industry and Tourism, but still not passed by the Somaliland parliament at the time of this study. 17 The first microfinance provider in Somaliland created in 1998 and was located in Hargeisa - see the paper "Somaliland: Interest-free but not yet Shari'ah-compliant economy" by Renet Bekkin, PhD in Law, senior researcher at the Institute for African Studies of the Russian Academy of Sciences. Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Five
Conclusion and Recommendations
Offering "social intermediation". These services can help the poor by improving their access to sustained financial sources, develop their self-confidence, and improve their management skills and applying group guarantees or group lending which has been found to be an effective method in reaching the poor, reducing the risk of default, and lowering transactions costs. Islamic microfinance providers are supposed to intensify their contributions by incorporating new pro-poor financial development policies including: diversifying the mix of financial activities to incorporate those needed by the poor, expanding their financial activities into rural areas where difficult-to-serve clients are. Microfinance Unit at the Ministry of Commerce Industry and Tourism should set standards of performance to address the areas of financial reporting and information management, collaterals and outreach to clients and institutional structures development, because this allows comparison of institutions to assist both government ministries and donors in directing support to institutions that are most likely to grow and become sustainable. Shari'ah compliance is indeed the differentiating factor between conventional and Islamic microfinance, so that institutions providing Islamic microfinance are supposed to conduct alternative ways to supervise Shari'ah-compliance if they are not able to establish their own Shari'ah Supervisory Board (SSB) in order to conduct regular and comprehensive Shari'ah audits. Capacity building of the institutions providing microfinance is extremely important for the provision of sustainable microfinance services to low income and poor people, so the government and donors should provide financial and technical assistances in broadening and deepening of microfinance services, development of Microfinance products and training in methodologies. It is a great point of consideration to promote the availability of skilled personnel to handle the diverse and innovative transactions possible within the framework of the Shari'ah through trainings. There is a need for advocacy programs by activists and lobbyists in order to highlight the significance and sound moral principles of Islamic Microfinance (which is fair on the poor and geared towards equitable economic development) among the masses of Govt., multilateral donor agencies and the general public. Finally, in the aftermath of the global financial crisis with rising inequality and an ever growing population under the poverty line, it is imperative for adopting an economic system concerned with fulfilling basic human needs and creating opportunities for the poor. The Islamic economic system is essentially such a system with a fine blend of community welfare, ethics and morality and investments in the real economy and IMF as sustainable system worldwide.
Islamic Microfinance System and Poverty Alleviation in Somaliland
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BIBLIOGRAPHY Abdelhak, Senadjki (2011), "The influence of Islamic values in the enhancement of households' wellbeing: a study of poverty alleviation in the Malaysian state of Pulau Pinang". Qatar Foundation; Doha, Qatar. AbdulKarim 2004."Islamic welfare society", (http://www.dawn.com). Abid Ullah, Jan. 2002. "The only way to Address poverty". Independent Centre for Strategic Studies and Analysis (ICSSA). Alin, S. Fadumo (2009), "Somaliland Microfinance: A Case Study of the Experience of Doses of Hope" (http://wwww.networklearning.org) Azam, Asmaa (2007). "Enhancing the role of Islamic financial institutions in alleviating povery", Misr University for Science and Technology, Giza, Egypt Bucciferro, J. (2007), Micro-Finance Impact in Chile: A Tale of two Cooperatives (http://www.spot.colorado.edu) CGAP News, (2008). The Consultative Group to Assist the Poor) Washington D.C., USA. (http://www.cgap.org) De Aghion, Beatriz A. and Morduch, Jonathan (2005). The Economics of Microfinance. MIT, USA. Dhumale, R. and Sapcanin, A. (1998). "An Application of Islamic Banking Principles to Microfinance, Technical Note", A study of United Nations Development Programme and World Bank. Doses of Hope (2008), "Microfinance Programme". (http://www.dosesofhope.org) Dusuki, W. A., (2006). "Empowering Islamic Microfinance: Lesson from GroupBased Lending Scheme and Ibn Khaldun's Concept of 'Asabiyah", Paper presented at Monash University 4th International Islamic Banking and Finance Conference. Kuala Lumpur, 13-14 November. El-Gamal, A. (2006) Islamic Finance: Law, Economics, and Practice. Cambridge University Press. Iqbal, Zamir (1997). "Islamic Financial Systems." Finance & Development, June, pp. 4245.
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Iqbal, Zamir and Mirakhor, Abbas (2007). An Introduction to Islamic Finance: Theory and Practice. John Wiley & Sons, Singapore. IRTI (2007). "Framework And Strategies For Development Of Islamic Microfinance Services", Working paper for IFSD forum 2007 Islamic Microfinance Development: Challenges and Initiatives, Meridian President Hotel, Dakar; Senegal, May 27. Islamic Financial Services Industry Development (IFSID) (2006). "Ten-Year Framework and Strategies." (http://www.ifsb.org). James, Q. (2005). Financial Sector Assessment Hand Book, World Bank:Washington. Kaaba Microfinance Institution (2010), "Who are we". (http://www.kaabamfi.com) Karim, N.; Tarazi, M. and Reille, X. (2008). "Islamic Microfinance: An Emerging Market Niche", The Consultative Group to Assist the Poor (CGAP) Focus Note, Washington D.C., USA Khan, A., A. (2008). "Islamic Microfinance Theory, Policy and Practice", Islamic Relief Worldwide, Birmingham, United Kingdom, February Lan (2004) Micro Finance Report (http://www.microfinancegateway.org ) Leadbearer, Charles (1986), 'Rags to riches: fact or fiction', Financial Times, 30 December, 5. Mauri. A., Garavel
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Sirageldin, Ismail (2000). "Elimination of Poverty: Challenges and Islamic Strategies." Working paper 2018 presented at the 4th International Conference on Islamic Economics and Banking: Challenges and Opportunities in the 21st Century. Venue: Loughborough University, UK. August 13-15. The Economist, "Poverty: Recounting the world's poor." August 28, 2008. UNDP. (2000). "Linking poverty to National Policies." The UNDP Poverty Report, ch.3. New York: UNDP. UNDP. (2000). "The Commitments to Poverty Reduction." The UNDP Poverty Report, Ch.1. New York: UNDP. United States House of Representatives (1986), Banking for the Poor: Alleviating Poverty Through Credit Assistance in Developing Countries, Report of the Select Committee on Hunger. World Bank (2005), "World Development Indicators". (http://www.worldbank.org). Yunus, Muhammad (1984), Group-Based Savings and Credit for the Rural Poor, Dhaka: Grameen Bank. Yusuf, O., T. (2006), "Insurance in Muslim countries: Nigeria's First Tak?ful Scheme in Focus", journal of Islamic banking and Finance, International Association of Islamic Banks, Karachi. pp. 56-63, April - June Zeller & Meyar (2002), Improving The Performance Of Micro-Finance: Financial sustainability out Reach and Impact. World Bank, Washington.
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QUESTIONNAIRE
University of Hargeisa Faculty of Business Administration
Dear Sir/Madam, My name is AbdiQadir Mohamoud Yonis, currently I am a senior student at the University of Hargeisa pursuing BBA degree in Accounting. As an academic requirement I am conducting a field research on "Islamic Microfinance System and Poverty Alleviation in Somaliland". As part of my research work I have to collect relevant information through the tools of questionnaires and interviews. Your institution has been identified as a valuable source of information pertaining to my research project. I would very much appreciate the participation of your institution in this survey and I am kindly requesting you to answer the entire questionnaire as fully as possible. Any information you provide will be used for an academic purposes only and I promise to share my findings with your institution. I assure you that the data you provide shall be kept with utmost confidentiality. Thank you very much in advance, Yours truly, AbdiQadir Mohamoud Yonis Email: [email protected]... Mobile: +252 2 4470055 56
GENERAL INFORMATION Name of the Institution?????????????????????? Year established?????????????????????????
1.
I. II.
2.
a) What is your operation area (please tick where is applicable) Rural Urban b) How many regions in Somaliland do you operate? Please specify their name(s): ????????????????????????????????????? ????????????????????????????????????? ??????????????????????????????? c) Total radius (km to furthest customer) ???km I. II. Number of branches and other office)???????????. Number of employees??????????.. III. Number of loan officers?????????.. a) Since the registration of the institution, what are the i. Total clients served??????????.. ii. Percent of female clients????????..% b) In the last reporting year, what are the: i. Percent of active clients ?????..% ii . Percent of repeated clients?????% iii . Percent of first-time clients????...% units (including head
3.
4.
5.
I. II.
Total amount of accumulated disbursed loans USD$.................. Total amount of outstanding loans USD$.......................................
6.
In the last reporting year, what is the: i. Percent of total loan repayment??????.% ii . Percent of female loan repayment ?????% iii . Percent of male loan repayment ????..?% On a scale from 1 to 5 (1= less important, 5 very important), how would the senior management of the institution rate the following possible objectives for their institution: i. Financial Sustainability of the institution????. ii . Outreach to the Poor????????????. iii . Outreach to the Poorest of the Poor??????.. iv. Positive impact on income of clients??????. v. Positive impact on education and social status of clients and their family?????????????????? 57
7.
INSTRUMENTS OF FUND MOBILIZATION & FINANCING (SHARI'AH COMPLIANT) 8. What basic lending methodologies are you following? And in what proportion? (Tick all that apply) Individual lending????..% Group lending??......??..% a) In group lending methodology, what is the: i. No of groups?????????????.. ii . No of members on each group??????.. iii . Frequency of the group meetings?????.. b) What is the process of disbursing loans to group members? Please explain? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????......................... ................................................................................................... c) If any member of a particular group does not comply with the principles or rules of the group (i.e. default and/or delinquency) what measures are followed? Explain? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ????????????????????................................ ................................................................................................................................................ d) What is the process of disbursing loans to individual members? Please explain? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ??????????????????????????????????.................... ............................................................................................................ 10. How many different financial products does your institution have? In what proportion? (Tick all applicable and specify their respective proportions in percentage) Murabaha????..??.% Mudaraba???...??...% Musharaka???....??.% Qardulhasan???.??.% Ijarah??????...?.% Which financial product(s) do you use as your main financing model? And why? ?????????????????????????????????????? ?????????????????????????????????????? ????????????????????????????????
9.
11.
58
MICROFINANCE MODEL (The following questions relate specifically to the main financing model of the institution) 12. What was the average loan size in the last reporting year? USD$????????????????????????????????? ?????????????????????????????????????...... ...................................................................................................................................... What was the average loan size for first-time borrowers only in the last reporting year? USD$????????????????????????????? What was the amount of smallest loan in last reporting year to first-time borrowers? USD$........................................................................................................................ What the amount of largest loan in the last reporting year to first-time borrowers? USD$?????????????????????????????? Is there a minimum loan size? If Yes, how much? Yes USD$................. No What kind of charity-based funds do you offer? (tick all that apply) Do not offer Zakah Sadaqah What are the requirements for getting the charity funds you offer? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ????????................................................................................ ................................................................................................................................................ ................................................................................................................................................ .......................................................................................... Do you require land and housing property (with legal titles) as loan collateral? Never for less than 30 % of the loans about 30-60 %, about 60-90% over 90 Do you rely on social collateral? Group guarantee recommendation by trusted third party Guarantor (an elder of the client) Others Please specify????????????.. 59
13.
14.
15.
16.
17.
18.
19.
20.
21.
What is the repayment mode of the loans Daily Weekly Monthly Quarterly Others Please specify??????????? What are the measures taken to ensure effective repayment of loans? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????......................... ................................................................................................... Loan Collection Method Group/Center Collection meeting Individual Collection through collectors Deposit of Loan Payment to institutions' depository bank account Over the counter payment to institutions office Others Please specify?????...... If a client pays full borrowed money in time is he/she rewarded with rebate? Yes No If yes, in what way? ?????????????????????????????????????...... ...................................................................................................................................... In the last reporting year, does the institution offer (itself or in close contractual partnership with other institutions) to clients and/or their communities any of the following ?(tick all that apply) Health services education services Financial Literacy Training Skills Training Business Management Training Record Keeping Training Marketing Literacy training Social Awareness training Legal Counsel Technical assistance Market Information (Inputs, outputs, marketing) School education to children Others Please specify??????????
22.
23.
24.
25.
26.
60
TARGET BENEFICIAIRES 27. a. Which client/borrowers consume your financial services? clients with existing businesses & successful operations for at least two years new entrepreneurs with prior business experience new entrepreneurs without prior business experience b. Do the clients have access to the same financial service? Yes No c. If no, how do the financial services for the clients differs? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ???????????????????????????????................................... ................................................................................. Does the institution seek to reach the poor as: not a specific target targeted as a minor part of the clients targeted as a major part of the clients exclusive target Does your institution have a defined target group Yes No If yes, What are the selection criteria (eligibility criteria) for members of the target group? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????......................... ................................................................................................... How do you make contact with your clients? (tick all that apply) Radio TV Journal Others Please specify????????.
28.
29.
30.
31.
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32.
Who are your target beneficiaries? In what ratio? (tick all that apply and specify the ratio in percentage) Small & medium entrepreneurs?????.% Small trade and market vendors???..?..% Low salaried workers?????????.% Small scale farmers???????.??...% Dairy and poultry business???????.% Fishery business???????????..% Others Please Specify???.???????...% In your estimate, what percentage of total potential market/clients do you currently reach through microfinancial services? ......................% In your estimate, what percentage of total potential market/clients in hard to reach areas do you currently reach? ??????????% Do clients of your institution elect representatives? Yes No What are the functions of elected members? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ??????????????????????????????????.................... ............................................................................................................ What percent of women are among the elected members? ????????%
33.
34.
35.
36.
37. 38. 39.
What percent of youth (i.e. below 25 years) are among elected members? ???.% Do representatives of clients and their senior management of the institution meet to discuss the structure or conduct of the institution? Yes No Have the clients (and/or the representatives) formed other organizations/lobby groups at community or higher levels? Yes No Have the clients and/or their groups voiced their interest in: (never, occasionally, frequently)
40.
41. i.
Social organization???????????.. ii . Government organizations????????.. iii . Non-government organizations???????
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42.
Do the socially excluded (i.e. minorities, women, often the poor) speak in clients' meetings? Never Rarely Rather often Very often At all the meetings
SOURCE OF FUNDS (MOBILIZATION OF FUNDS) Please tell me about the sources of your revenues: Zakah Waqf Grants and donations from donor agencies Grants, donations and contributions from individuals (Qardulhasan) Deposits Loans from Commercial Sources Others Others, please specify?????????????.
43.
SCREENING OF FUND USAGE, SOCIAL CAPITAL & SHARI'AH COMPLIANCE Do you monitor the impact of your microfinance activities on your clients? Yes No 44. If yes, What impact indicators do you use? Family income Savings Assets Growth of business Employment generation Number of microenterprises Others Please specify????????????? Does the institution have an active spiritual development program? Yes No 46. What proportion of your beneficiaries receive:
45.
47. i.
Financial assistance only???????????????????ii . Financial and technical assistance only?????????????.. iii . Financial and technical assistance along with spiritual treatment???..
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48.
What social rights and responsibilities does the spiritual development program emphasize and educate on its member clients? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ???????????????????????????? Does your institution have its own Shari'ah supervisory board ? Yes No If No, what is the reason? ?????????????????????????????????????? ????????????????????????????????????.......... .............................................................................................................................. What alternative approach do you use to supervise the Shari'ah compliance of the institution? ?????????????????????????????????????? ?????????????????????????????????????? ???????????????????????????????? ???.???????????????????????????????? What are the major challenges your institution face? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????? In your opinion, what are the best possible initiatives to overcome or mitigate those challenges? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ???????????????????????? ???..???????????????????????????????? ????????????????????????????????????
49.
50.
51.
52.
53.
Many thanks for your cooperation, Wassalamu Alaikum
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Copyright © 2012 AbdiQadir Buureed Mobile: +252 2 4470055 E-mail: [email protected] Website: www.abdibuureed.blogspot.com
doc_204186832.docx
Microfinance is usually understood to entail the provision of financial services to micro-entrepreneurs and small businesses that lack access to banking and related services due to the high transaction costs associated with serving these client categories.
FINANCIAL STUDY ON ISLAMIC MICROFINANCE SYSTEM AND POVERTY ALLEVIATION IN SOMALILAND
TABLE OF CONTENTS
DECLARATION ............................................................................................................................ i STATEMENT OF APPROVAL .................................................................................................. ii DEDICATION .............................................................................................................................. iii ACKNOWLEDGEMENTS ......................................................................................................... iv TABLE OF CONTENTS .............................................................................................................. v LIST OF ABBREVIATIONS.................................................................................................... viii ABSTRACT .................................................................................................................................. ix CHAPTER ONE............................................................................................................................ 1 INTRODUCTION ...................................................................................................................... 1 1.1 Background of the Study ....................................................................................................... 1 1.2 Problem Statement ................................................................................................................ 2 1.3 Purpose of the study .............................................................................................................. 3 1.4 Objectives of the Study ......................................................................................................... 3 1.4.1 General Objectives ......................................................................................................... 3 1.4.2 Specific Objectives......................................................................................................... 4 1.5 Significance of the Study....................................................................................................... 4 1.6 Scope of the Study................................................................................................................. 5 1.6.1 Content Scope................................................................................................................. 5 1.6.2 Geographical Scope........................................................................................................ 5 1.6.3 Time Scope..................................................................................................................... 5 1.7 Organization of the Paper...................................................................................................... 5 CHAPTER TWO........................................................................................................................... 6 LITERATURE REVIEW .......................................................................................................... 6 2.1 Poverty................................................................................................................................... 6 2.1.1 Introduction .................................................................................................................... 6 2.1.2 The meaning of poverty and its measurement................................................................ 6 2.1.2.1 Defining Poverty ..................................................................................................... 6 2.1.2.2 Major Factors Intensifying the Poverty Problem..................................................... 7 2.1.2.3 Measuring Poverty................................................................................................... 9 2.1.2.4 Regional Poverty Conditions................................................................................... 9 2.1.3 The Islamic Perspective of Poverty Alleviation ........................................................... 10 2.1.4. National and International Involvements in Poverty Alleviation ................................ 14 2.1.4.1 National Participation in Poverty Alleviation........................................................ 14 2.1.4.2 International Participation in Poverty Alleviation................................................. 15 2.1.4.3 NGOs' Participation in Poverty Alleviation.......................................................... 15 2.1.5 The Role of Islamic Financial Institutions in Alleviating Poverty ............................... 16 2.1.5.1 Islamic Financial Institutions................................................................................. 16
2.1.5.2 Policy Options for Enhancing the Role of IFIs in Alleviating Poverty ................. 17 2.1.5.2.1 Expanding Pro-poor Financial Services and Products.................................... 18 2.1.5.2.2 Networking with Other Financial Institutions ................................................ 18 2.1.5.3 Financial Services Required to Assist the Poor..................................................... 19 2.1.5.4 Equitable distribution of credit .............................................................................. 20
v
2.2 Microfinance ....................................................................................................................... 21 2.2.1 Introduction .................................................................................................................. 21 2.2.2 Islamic Microfinance.................................................................................................... 22 2.2.2.1 Islamic Finance...................................................................................................... 23 2.2.3 Islamic Microfinance in practice .................................................................................. 25 2.2.4 Instruments ................................................................................................................... 26 2.2.5 MDGs, Poverty Alleviation and Microfinance............................................................. 28 CHAPTER THREE .................................................................................................................... 29 RESEARCH DESIGN AND METHODOLOGY.................................................................. 29 3.1 Research Design .................................................................................................................. 29 3.2 Population and Sampling..................................................................................................... 29 3.2.1 Target Population ......................................................................................................... 29 3.2.2 Sample .......................................................................................................................... 29 3.2.3 Sampling Technique..................................................................................................... 29 3.3 Data Collection.................................................................................................................... 30 3.3.1 Instrumentation............................................................................................................. 30 3.3.2 Research Procedure ...................................................................................................... 30 3.4 Data Analysis ...................................................................................................................... 30 3.5 Ethical Considerations......................................................................................................... 30 3.6 Limitations of the Study ...................................................................................................... 31 CHAPTER FOUR ....................................................................................................................... 32 DATA PRESENTATION AND ANALYSIS ......................................................................... 32 4.1 A Survey Study on Salaam Financial Services ................................................................... 32 4.1.1 Background of the Organization................................................................................... 32 4.1.2 Target Beneficiaries...................................................................................................... 33 4.1.3 Financial and Nonfinancial Services ............................................................................ 34 4.1.4 Fund Mobilization and Financing................................................................................. 35 4.1.5 Major Challenges.......................................................................................................... 39 4.2 A Survey Study on Kaaba Microfinance Institution ........................................................... 40 4.2.1 Background of the Organization................................................................................... 40 4.2.2 Target Beneficiaries...................................................................................................... 41 4.2.3 Financial and Nonfinancial Services ............................................................................ 43 4.2.4 Fund Mobilization and Financing................................................................................. 44 4.2.5 Major Challenges.......................................................................................................... 47 CHAPTER FIVE......................................................................................................................... 48 CONCLUSION AND RECOMMENDATIONS.................................................................... 48 5.1 Discussion of Major Findings ............................................................................................. 48 5.2 Conclusion........................................................................................................................... 49 5.3 Recommendations ............................................................................................................... 50 BIBLIOGRAPHY ....................................................................................................................... 53 QUESTIONNAIRE ..................................................................................................................... 56
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LIST OF FIGURES Figure 2.1: New directions for IFIs Involvement in Poverty Alleviation Activities??.???.17 Figure 4.1: Salaam Target Beneficiaries??????????????????????.34 Figure 4.2: Salaam Mode of Islamic Financing???????????????????..35 Figure 4.3: Salaam Lending Methodology Schemes?????...???????????...36 Figure 4.4: Salaam Loan Repayment Mode?????????..???????????.38 Figure 4.5: K-MFI Lending Methodology??????????..???????????42 Figure 4.6: K-MFI Target Beneficiaries??????????.????????????42 Figure 4.7: K-MFI Entrepreneurial Clients????????????.????????...43 Figure 4.8: K-MFI Financial Services???????????????????????44
LIST OF TABLES Table 4.1: Salaam Outreach to the Poor???????????????????33 Table 4.2: Salaams' Average, Minimum & Maximum Loans???..???????.37 Table 4.3: K-MFIs' Average & Minimum Loan sizes???????.??????.45
vii
LIST OF ABBREVIATIONS CGAP: IDB: IFI: IFSID: IMF: INGOs: IRTI: K-MFI: LDCs: MDGs: MFI: NGOs: pbuh: PLS: PPP: PRS: RA: SSB: SWT: UNDP: Consultative Group to Assist the Poor Islamic Development Bank Islamic Financial Institution Islamic Financial Services Industry Development Islamic Microfinance International Non-Governmental Organizations Islamic Research and Training Institute Kaaba Microfinance Institution Less Developed Countries Millennium Development Goals Microfinance Institution Non-Governmental Organizations Peace of Allah be upon him Profit and Loss Sharing Purchasing Power Parity Poverty Reduction Strategy Radiyallahu Anhu Shari'ah Supervisory Board Subhanahu Wa Ta'ala United Nations Development Programme
viii
ABSTRACT Poverty prevalence dates back to the existence of human being and today it has occupied foremost place on human development agendas of virtually all countries of the world. In the Republic of Somaliland it has been a main challenge since the restoration of independence in 1991 and its alleviation is in the first pillar of the National Development Plan (NDP) and National Vision 2030, and also one of the country's strategic goals to achieve MDGs by 2015 to fight poverty and improve the standard of living of underprivileged population. Nonetheless, actual achievements are still limited. Islamic Microfinance which involves Shari'ah-compliant way of financing and providing credit without collateral or any property for guarantee to the marginally poor (too poor to have access to banks) for their business, is one of the most popular tools employed as part of a poverty reduction strategy, empowering and increasing the productivity of poor, giving social benefits to them in a sustainable way, and aiding economic development. However, in Somaliland it still remains fairly the same effect over the years due to misconceptions in Shari'ah-compliance, the institutions lagging behind and the like. This study determined the role of the Islamic microfinance in poverty alleviation efforts in Somaliland and how this role can be enhanced. It was intended to establish and recommend Islamic microfinance and its principles that could raise poverty reduction and economic development in the country. This was in view of the fact that conventional microfinance that charges the prohibited interest cannot be used by and for the Somaliland population which are 100% Muslims. The study was conducted through descriptive survey research design; data was collected in April 2012 to June 2012, using questionnaire, interview and document review techniques from two Islamic Financial Institutions of Kaaba Microfinance Institution and Salaam Financial Services, data was analyzed using descriptive quantitative methods and presented in tables and figures. The paper finds that the two institutions have envisaged, as their prime objectives, to serve to the vulnerable poor and to have positive impact on their incomes. However, it concludes that the institutions partially address in practice the issue of financial exclusion of the poor. They do not tap the wide variety of financial products and services which comply with Islamic law for the benefit of their clients particularly the hardcore poor and limited attention is paid to targeting the poor with their needs of financial services and products. This research recommends that the government should establish an enabling framework for the institutions providing Islamic microfinance, and K-MFI and Salaam Financial Services should intensify their contribution to poverty alleviation by incorporating new pro-poor financial development policies and by expanding their financial activities into rural areas. Donor agencies including UN and other INGOs to make their incomegenerating activities in line with Shari'ah and comply with national policies in improving the standard of living of the poor people. ix
Chapter One
Introduction
CHAPTER ONE INTRODUCTION 1.1 Background of the Study Allah (SWT) is the sole creator of this vast universe and whatever it contains. He created man as a master piece of His creation and elevated him to be His Khalifa on earth. He made all physical systems and other creations to cater human needs from the time immemorial. It is an Islamic value that every citizen in the Muslim countries is required not only to take into account the enhancement of Ummah's wellbeing but also to make necessary arrangements for the satisfaction of his material needs through efficient utilisation of resources and equitable distribution of goods and services and also to fully protect them from all kinds of fear besides the fear of poverty and starvation. Fighting poverty is the responsibility of individuals, governments, and related organizations. Islamic economic system lays the principles of poverty elimination and there is plenty evidence in Quran, Sunnah, and practice of Khalifs to provide food, social security as well as access to finance to each and every individual in an Islamic economy. Pointing to this fact, an Ayah of Quran enjoying upon Quraish to worship Allah because He has protected them both from starvation and fear by granting them food and peace1. Similarly a Hadith says that a society where a Muslim has to starve is forsaken by Allah2. The first four Khalifs were fully conscious of their obligation towards meeting the needs of poor. Umar Ibn Khadab (RA) declared, "if a camel dies at the bank of Euphrates, I am afraid Allah would make me accountable for it".3 The overwhelming stress on satisfaction of basic needs and social security both of current and future generations leaves no justification for the prevalence of widespread poverty in Islamic framework. As a matter of fact, Islam and absolute poverty cannot persist together because Islam is a viable system that can respond and consequently eliminate poverty through its socioeconomic, cultural and political mechanisms and principles. A really shameful situation emerges when abovementioned Islamic commitment is put next to along with pervasive poverty in Muslim world comprising of over a billion people and with impressive energy reserves like oil supplies but still faces crippling levels of poverty and increasing inequalities between haves and have-nots. Since it is estimated that over 1/3 of the world's poor are Muslims (CIA World Factbook 2010 and Economist 2008), and also that about 35% of the world's 1.2 billion Muslims are poor.
1 2
Quran: (106:3-4). Al.-Hakim, al.-Mustadrak ala as Sahihayan,Vol. 2. p.12. 3 Muhammad Ibn S'ad al.-Tabqat al.-kubra, Beriut. Vol. 3. p.305. Islamic Microfinance System and Poverty Alleviation in Somaliland
1
Chapter One
Introduction
In recent years microfinance has emerged as an important instrument to relieve poverty in the developing countries. Today there are more than 7000 micro lending institutions providing loans to more than 25 million poor individuals across the world.4 Professor Mohammad Yunus, the founder of Grameen Bank in Bangladesh and the originator of the concept of microfinance, believes that 5% of Grameen Bank's clients exit poverty each year. So the success of microfinance institutions (MFIs) in Asia such as the Grameen bank, has led to the rapid expansion of similar programs in all over the world. The role of Islamic values and principles were well documented theoretically but not empirically. Today many researchers have shifted their focuses on understanding the complex dynamic of poverty alleviation towards Islamic point of view. Since their inception in the mid 1975s, Islamic Financial Institutions (IFIs) have considered poverty alleviation as one of their major areas of interest. However these successes lead to the new and emerging approach which is introducing interest-free microfinance (Islamic Microfinance). Since the fact is Microfinance can only success in every Muslim country if it is Shari'ah-compliant. As in Islam, charging interest (Riba) is prohibited because by Islamic teachings, money is not an asset for earning profit and thus interest cannot be used by and for the Muslims. In Somaliland, Kaaba Microfinance Institution (K-MFI) and Salaam Financial Services have actually been able to reach the economically active poor with their financial services in both urban and rural areas, therefore, the researcher wished to shed some light on the important concept of Islamic Microfinance (IMF) that substantially could enhance people's wellbeing and alleviate their vulnerability to poverty. 1.2 Problem Statement People living in poverty need permanent access to the same type of financial services we all need: a safe way to save for life cycle events and to reduce vulnerability to shocks; access to appropriately designed credit for business opportunities; ways to transfer money, etc. For the poor these financial services often make the difference between continued poverty and moving out of poverty. These results are what the United Nations Millennium Development Goals (MDGs)5 is all about - reducing poverty, increasing education, and nutrition. It will require financial systems that do not exclude the poor, who have not access to the formal financial services. This means building financial systems that are inclusive, and this is the new vision for microfinance that is attractive to donors and financial institutions that interest to help the poor alike.
4 5
Estimate by the World Bank. Targets to be achieved in 2015 for development in the world as a whole with special emphasis on poorer countries, and are viewed as a key indicator of and reference for socio-economic development.
Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter One
Introduction
However, Conventional microfinance services do not meet the needs of majority of Muslim population in developing countries like Somaliland. The reason is that conventional microfinance institutions charge interest on their loans provided to small and medium enterprises as well as women entrepreneurs. In addition a vast majority of Muslim population refrains from availing conventional microfinance services due to the element of interest that is considered repugnant or Haram according to Shari'ah. Over 1100 million of the Muslim population is living below poverty line (less than $2 per day).6 Thus in this scenario, it is extremely important to note that Islamic microfinance has tremendous potential in a country like Somaliland where 100% of the population are Muslims and could be used as a powerful weapon to fight against poverty. It can develop a valuable human capital base by satisfying the financial needs of the society and positively contribute towards their economic growth. Therefore, Combining the Islamic social principle of caring for the less fortunate with microfinance's power to provide financial access to the poor has the potential to reach out to millions more people, many of whom say they would prefer Islamic products over the Haram conventional microfinance products 1.3 Purpose of the study The purpose of this paper is to investigate the impact of the Shari'ah-compliant Microfinance (or simply Islamic Microfinance) on poverty and how it contributes to the wider efforts to alleviate and consequently eliminate poverty in low income individuals and households in Somaliland. More emphasis is placed on the relationship between microfinance activities and poverty alleviation in selected IFIs of K-MFI and Salaam Financial Services in Hargeisa. 1.4 Objectives of the Study 1.4.1 General Objectives Poverty is a complex phenomenon, a consequence of lack of growth and inequality. Effective policies require technical and empirical understanding of poverty that is combined with efficient institutions and a supportive system of social values. This research is focused on methods used by both K-MFI and Salaam Financial Services through which socioeconomic policies and programmes dealing with poverty elimination are assessed. Hence, the researcher is interested to identify what Microfinance services offered by these IFIs done to help the poor and its influence on beneficiaries and how they can be more active in this regard.
6
Estimate in the report of the 2011 International Conference on Islamic Microfinance held in Islamabad
Islamic Microfinance System and Poverty Alleviation in Somaliland
3
Chapter One
Introduction
1.4.2 Specific Objectives The overall aim of this paper is to investigate how the Islamic Microfinance System and its products contribute to the provision of financial services to the poor, alleviating poverty, empowering the poor and consequently to the efforts of sustainable development. The specific objectives of this paper are: -MFI and Salaam Financial Services, their mission and their main target groups. -financial services the institutions provide and to ensure their Shari'ah-compliance. satisfaction level, screening of fund usage and repayment schedules. empowerment of their client members. 1.5 Significance of the Study The study is expected to improve the practice of Islamic Microfinance because it highlights and provide a better understanding to IMF programs and how IFIs can contribute to the alleviation of poverty. It is hoped also that this study will be useful to the UN agencies involved in the efforts related to the implementation of MDGs to identify proper ways to alleviate poverty and to use the only applicable Shari'ahcompliant microfinance services to the poor in Somaliland where the total population are Muslims. The policy makers such as Somaliland Government will also find this study useful because it highlights on the areas and roles that the government can play in the fighting against poverty. This study should contribute valuable knowledge to the existing information or literature in the field of Islamic finance in general. It is the only study that has focused on interestfree Shari'ah-compliant microfinance in Somaliland. As such, it is expected to produce up till now unavailable knowledge on this subject. The findings should therefore form a useful material for reference that may be used by academicians, researchers who may wish to carry out further studies on a related subject and other readers in general. This study is also expected to suggest significant policy statements through its recommendations. The study will make recommendations on the modes of financing in Islamic microfinance, Shari'ah supervisory board and importance of Shari'ah audits. Such recommendations could inform policy formulations in the Islamic financial institutions, and other institutions in general. 4
Islamic Microfinance System and Poverty Alleviation in Somaliland
Chapter One
Introduction
This study should also influence the practice of poverty reduction strategies in Somaliland. In an attempt to deal with poverty, and its related problems, the stakeholders will focus on specific issues of Poverty Reduction Strategies (PRSs) generated through research. Therefore, the use of such specific knowledge will improve the efforts aimed at poverty alleviation. At last but not least, this paper is also important for the researcher to fulfill a partial requirement for the award of BBA degree in Accounting by the University of Hargeisa. 1.6 Scope of the Study 1.6.1 Content Scope This study on Poverty alleviation through Islamic microfinance system was drawn from the field of Islamic finance and it concerns and concentrated specifically on examining and seeking to establish the extent to which IMF programs of selected IFIs have contributed to the local efforts to alleviate poverty and will lead to the achievement of global MDGs agenda in Somaliland. 1.6.2 Geographical Scope This study is confined to microfinance activities of Kaaba Microfinance Institution and Salaam Financial Services, where the sample data will be collected. Specifically, the study was conducted in Hargeisa city the capital of Somaliland, the area was selected because the IFIs in Somaliland are headquartered in Hargeisa and the small and medium sized enterprises in this area use IMF services. 1.6.3 Time Scope As the research paper guideline of the faculty indicates, in terms of time the study was limited to three months from April 2012 to June 2012. 1.7 Organization of the Paper This paper has been organized in such a logical manner that the first chapter examines background of the study, problem statement, objective of the study etc,. The second chapter is the up- to- date information in great detail which is the literature review. The third chapter is about the research methodology and procedures used. The fourth chapter is discussion and analysis part which is the result of the questionnaires. In the fifth chapter and the final is the conclusion and recommendations based on the findings obtained. The paper is finalized with bibliography and appendices.
Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Two
Literature Review
CHAPTER TWO LITERATURE REVIEW 2.1 Poverty 2.1.1 Introduction Poverty prevalence dates back to the existence of human being. Poverty has occupied foremost place on human development agendas of virtually all countries of the world. However, none of nation other than that of Khalif omar Bin Abdel Aziz7, given history, succeeded in eradicating poverty effectively. It was evident in the time of Abdel Aziz that Islamic economic system and its concerned ideals was an effective instrument for poverty eradication, but the yielding of better outcomes can be possible only in a conducive environment. That is why, in modern times Muslim world does struggle to resume what Omar Bin Abdel Aziz did then. It is a matter of offering an appropriate environment that will promote the implementation of Islamic-based economic principles leading to poverty alleviation (Abdelhak, 2011). Today widespread poverty is one of the major problems of mankind and its alleviation one of her major agendas. In 2005, according to the World Bank, 16.1 percent of the world's population lived on less than 1 US dollar a day (which corresponds to absolute or monetary poverty) and 57.6 percent lived on less than 2.5 US dollar a day. In recent years the Islamic world which is enormous with over 1.2 billion people, stretching from Senegal to the Philippines have poverty rate which is quite high in all Muslim countries except a few countries in Southeast Asia and the Middle East. Poverty levels have also been associated with high inequality alongside low productivity. Half of the Indonesia population (about 129 million) is living below the poverty line of US$2 a day. While in South Asia two largest Muslim states - Bangladesh and Pakistan - alone account for 122 million each living below the poverty line where as 100 million Muslims of India are also living below the poverty line (IRTI, 2007, p.18). 2.1.2 The meaning of poverty and its measurement 2.1.2.1 Defining Poverty Poverty is one of the vital concerns in most countries whether developed, developing or less developed. Some of the basic issues that need to be identified before discussing poverty alleviation in general or according to the Islamic faith are: what is meant by poverty, why there are poor people, and how they can be identified.
7
When the authorities collected Zakah and there was no poor to be given this Zakah. Therefore Omar Bin Abdel Aziz asked to distribute this money of Zakah to those people who have debt, people who are going to marry, and to free slaves in Africa and so on. Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Two
Literature Review
A wealth of literature focuses on discussing the meaning of poverty, and identifying the most appropriate indicators which can be used to measure its magnitude on the national and international levels. However, it is indicated that there is no optimal definition to describe poverty, or a measurement technique to compare poverty across countries or among different parts of a country (Sirageldin, 2000). Development studies specialized in poverty related issues indicate that at the beginning of the 20th century, poverty standard was based on estimates of the minimum level of nutritional and food requirements. In the 1960s, it was based on the level of income, reflected in macro-economic indicators like Gross National Product per head. At the beginning of the 1970s, poverty was defined not just as a failure to meet minimum nutrition or subsistence levels of income, but also as a failure to reach the living standards prevalent in a given society. By mid-1970s, poverty was identified as the lack of access to health, education and other services. The 1980s witnessed major development in defining poverty. Non-monetary aspects (e.g. powerlessness, isolation, vulnerability, and lack of participation; security and social relations) were incorporated into the meaning of poverty since that time. This led to further broadening the concept of poverty to include sustainable livelihood, the environment, and the empowerment of women. During the 1990s, the meaning of poverty was augmented to include new human development dimensions such as: the availability of opportunities and choices needed to enable the person to lead a long; healthy; and creative life, and to enjoy a decent standard of living; freedom; dignity; self-esteem; and the respect of others (Maxwell 1999). Poverty has been identified at various levels. The most popular types of which are: extreme, overall, and human poverty. Extreme poverty (or absolute poverty) refers to lack of income necessary to satisfy basic food needs- usually defined on the basis of minimum calorie requirements. Overall poverty (or relative poverty) is defined as the lack of income necessary to satisfy essential food and non-food needs such as: clothing, energy, and shelter. Human Poverty refers to the lack of basic requirements to sustain basic human capabilities such as: illiteracy, malnutrition, abbreviated life span, poor maternal health, illness from preventable diseases, and lack of access to goods; services; and infrastructure (e.g. energy, sanitation, communication, and drinking water) necessary to sustain basic human capabilities (UNDP 2000: ch.1). 2.1.2.2 Major Factors Intensifying the Poverty Problem Dealing with the poverty problem in Less Developed Countries (LDC) requires first of all identifying the main circumstances leading to such condition. Development experts argue that the main reasons of the growth of poverty on the national level include: longIslamic Microfinance System and Poverty Alleviation in Somaliland
7
Chapter Two
Literature Review
standing inequalities in the distribution of initial asset endowments, social; cultural; and political constrains, and governance and institutional failures. It has been also indicated that the roots of poverty are not in the community at the local level. Poverty is essentially a socio-political product of the systems imposed from the top at the national and international levels (Jan, 2002). One of the main factors which intensify the problem of poverty is the lack of job opportunities. Meanwhile, many working people are also poor such as: self-employed, unpaid family workers, disabled, and people engaged in very low paid jobs. The existence of full; decent; and productive employment depends to a great extent on the nature of national policies adopted to reduce poverty, and the size of investments in education; training; technological progress; and micro-credit programs. Generally, the gap between the haves and have-nots on the national and international levels is widening. Recent studies show that 74% of total income of world is shared by 20% of the world population. Among the major factors contributing to this situation are: lack of organized system capable of handling poverty alleviation efforts, insufficient awareness of the needs and rights of the poor, and lack the moral responsibility of the rich towards them. With the growing numbers of population especially in developing countries, reducing poverty requires not only the good will and resources, but also the right institutions and systems capable of handling this responsibility. International development researchers and practitioners used to think that rapid economic growth would lead to poverty reduction. Yet, it has been realized that this is not usually the case. It is becoming clear to many of them that poverty reduction can be achieved not through economic growth only, but governance as well. Meanwhile, growth generates more income, but the poor are unlikely to receive a fair share of this increased income if they are not economically, socially and politically empowered. National development policies generally intend to insure that the poor are treated equitably. However, funds assigned for poverty eradication programs do not usually reach the poor. Lack of appropriate poverty alleviation national policies, lack of accountability, and poor management of available resources are among the main reasons for this situation. It has been argued that dealing with it may require external support to assist those countries -firmly committed to reducing poverty- formulate the systems needed to meet their objectives. Such systems should confirm with the economic conditions of the countries where these systems are applied (UNDP 2000: ch.3).
Islamic Microfinance System and Poverty Alleviation in Somaliland
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2.1.2.3 Measuring Poverty Measuring poverty is considered a problematic issue. For example, identifying the basis used for measurement is not usually clear-cut. A lot of alternative basis do exist such as: individual or household measures, private consumption only or private consumption plus publicly provided goods, monetary or monetary plus non-monetary components of poverty, snapshot or timeline, actual or potential poverty, stock or flow measures of poverty, input or output measures, absolute or relative poverty, and objective or subjective understanding of poverty. Another problem is related to measuring poverty on the international level. Comparing poverty levels among countries is affected by the difference of the cost of living (e.g. food and housing) in these countries. Serious efforts have been directed towards developing reasonable estimates for most of the countries in the world. The World Bank produced its first global poverty estimates for World Development Report 1990 for developing countries using household survey data for 22 countries. These estimates were based on an international poverty line of $1 a day standard, measured in 1985 international prices and adjusted to local currency using purchasing power parities (PPP). But PPP rates were designed for comparing aggregates from national accounts, not for making international poverty comparisons. In a new development, the World Bank Development Research Group published "World Development Indicators" which includes calculation of the number of people living below various international poverty lines, as well as other poverty and inequality measures. It is estimated that out of the 6.1 billion population of the world, more than %16 of them live on less than $1 per day, and almost %50 on less than $2 per day (World Bank 2005). 2.1.2.4 Regional Poverty Conditions The World Bank estimates of poverty levels in the different regions provide important indications of poverty conditions around the world. This shows that since the early 1980s, the share of people living below the international poverty line has been decreasing all over the world except in the Sub-Saharan Africa region and Europe & Central Asia. Civil wars, tensions among neighboring countries, and droughts are among of the main reasons for the increasing poverty in the first region. Political unrest and migration from LDC are major contributing factors to the increased poverty in the Europe & Central Asia region. The East Asian & Pacific region has witnessed an impressive decline in poverty level since the 1980s. The main reason for this improvement is related to national commitment
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to economic and social development and equity. The Latin America & Caribbean region maintained the same level of poverty. The Middle East and North Africa region had the second lowest level of poverty in 1981 and continued to have a decreasing share of people living under the poverty line. Oil production, industrialization and the growth of service sector in these economies have played an important role in helping the poor through different approaches such as: governments' provision of social services; subsidized food and low cost housing, and the public and private sectors provision of job opportunities for this segment of society. The estimated shares of people living on less than $2 a day show that the majority of the world population is in this category. This indicates that in the early 1980s, nearly 90% of people in China and South Asia, and 85% of people in East Asia & Pacific countries lived on less than $2 a day. A considerable decline occurred since then. Yet, the share of people in this category still high. About three fourths of the Sub-Saharan region suffer from lack of sufficient resources to satisfy their basic needs. As for the European &Central Asian countries, they have the lowest share of people living on less than $2 a day. However, this rate increased more than four folds during two decades. 2.1.3 The Islamic Perspective of Poverty Alleviation Although Poverty, and also poor, in Islam is not merely a matter of material concerns. Islamic definition of poverty entails more spiritual aspect than that of material. The Prophet (pbuh), as narrated by Abu Huarairah is reported to have said: "Indeed, the real richness is that of the heart (spiritual) itself." The mafhum mukhalafah (or inverse meaning) of the above statement is that the real poverty is the spiritual poverty. Though spiritual aspect of poverty is more important in Islam than that of material, the existence of both is interrelated and thus undeniable. Therefore, deprivation of either one of these aspects may give rise to poverty. The Prophet also says that either poverty or hunger may lead to infidelity. Thus, redefinition of these terms is merely reconsideration of the Islamic spiritual values. This is a first step, as it has significant consequences, in changing human perceptions about all these things related to poverty, especially measurements. Redefinition also applies to those of earlier Muslim scholars. It may be worth noting in this case one definition given by al-Ghazali that poverty is a state of not being able to fulfill one's needs (al-faqr 'ibarah 'an faqd ma huwa muhtaj ilaih). This al-Ghazali's definition is quite general, and may fall under either absolute or relative modern definitions. Nevertheless, his absolute poverty in terms of spiritual aspect referring to the Quranic verse (al-Fatir/35: 15): "Allah is rich and you all are poor," that everyone is poor and thus needs the help and blessing from Allah SWT, requires redefinition to satisfy modern approaches.
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Whatever the definition can be, poverty is among social illnesses that Islam suggests to minimize, if not to eliminate. Macro-perspective of this suggestion demand for the better progress of two interrelated policy issues: development and fiscal policy under which Islamic microfinance and Zakah8 administration are of importance. The Quran talks of two types among the poor, the needy and the beggar — miskin and fakir. The needy are generally not known to the others because they do not ask, but they may be in more straightened circumstances than the beggar. This is one area where an organized charity may be of great relevance on account of the (donor and receiver) anonymity it can provide. Social and religious workers along with like-minded professionals should give some thought to this. According to Islamic faith, poverty alleviation is the responsibility of both individuals and the state, whether separately or jointly. Individuals are expected to be sensitive to the needs of those who are near and close to them, physically or in terms of kinship. While managing the allocation of its resources; redistribution of its income; and achieving higher levels of development, the state is expected to take into consideration the needs of the poorest segment of society. Abdul Karim (2004) indicates that Islam, in contrast to the modern concept of the welfare state, holds the individual as much as the state responsible for the welfare of all members of society, particularly kinship and those who belong to the same community. He argues that this joint responsibility makes the welfare system more effective and comprehensive. Target groups of the deprived or underprivileged members of society are specifically identified in the Holy Quran which also clarifies how those groups can be helped or provided for. Islamic law is clear about the responsibility and the role of both individuals and the state regarding poverty elimination. The Shari'ah also provides guidance to how such role can be undertaken. Islamic ethical system supports poverty alleviation strategies that are based on the principle of promoting economic growth, productive equity, and individual commitment (Sirageldin 2000). The Holy Quran provides guidance for coordinating the role of the State and individuals in instituting and managing the welfare system. Detailed mechanics of the combination of both roles is left to the current conditions of society.
8
Zakah is the third of the five basic pillars of Islamic faith. Zakah is a levy normally at the rate of 2.5% charged on certain types of wealth such as business wealth, personal income etc. Only the Muslims who own the wealth beyond the minimum limit are charged Zakah. In a way, it is a compulsory levy imposed on the Muslims so as to take surplus money or wealth from the comparatively well-to do members of the Muslim society and give it to the destitute and needy. In Islam, all resources belong to Allah and the wealth is held by human beings only in trust. Zakah is also a part of a social system of Islam as the poor has certain rights in the wealth of the rich. Thus, Zakah acts as a mechanism for the distribution of wealth, which helps closing the gap between the poor and the rich. Islamic Microfinance System and Poverty Alleviation in Somaliland
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In order to form an Islamic welfare society, it is essential to apply the basic Islamic values of life. The most important of these are the believe in the existence of Allah-the creator, temporary life on earth, accountability of all actions on the Day of Judgment, and reward by the All-Aware according to the real motive of every human action. Among the principle pillars of an Islamic society are love and fear of Allah, honesty, and justice. It has been recognized more recently that these are essential pre-requisites of a civilized society. The Holy Quran specifies the main financial sources for welfare activities. Zakah, which is compulsory levied in different forms is the main financial resource to support certain target groups. Muslims are also strongly urged to undertake welfare activity on a purely voluntary basis. There are a countless forms of such activities which range from very small and costless deeds to very expensive activities, which are all highly appreciated. The merit of charitable activities is not related to its monetary value, what is important is the spirit behind it. Every Muslim, regardless of his/her means, is expected to participate in this act of virtue. The Holy prophet explained this by saying: "He who has an extra mount should give that to the one who has no mount, and one who has surplus of provision he should give it to the one who is without it." Muslim, the companion (RA) who reported this saying commented, "The Prophet made mention of so many kinds of wealth until we were of the opinion that none of us has any right over surplus" (Abdul Karim, 2004). The Holy Quran indicates that Muslims should do the following deeds: "And be steadfast in prayer and regular in charity and whatever good you send forth for your souls before you, you shall fit it with Allah, for Allah sees well as that you do" (2:110) But it is the righteousness to believe in Allah and the last day and the angels and the book and the messengers, and to spend of your substance out of love for Him, for your kin, for orphans, for the needy, for the wayfarer, for those who ask, and for the ransom of slaves; to be steadfast in prayer, and practice regular charity?" (2:177) "Never shall you attain to righteousness unless you spend out what you love, and whatever you spend Allah surely knows it well." (3:92). "And spend out of that with which We have provided you before death comes upon one of you and he says, 'My Lord! If Thou wouldst grant me respite for a little while then I would give alms and be among the righteous." (63:11) 12
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As people (men and women) are urged to be supportive of each others, great rewards are promised to those who sincerely take positive actions. "As to the men that give alms, and the women that give alms and those who lend to Allah a goodly loan-it will be increased manifold for them and theirs will also be an honorable reward." (57:19 "Those who believe and do deeds of righteousness and establish regular prayers and regular charity will have their rewards with their Lord, on them shall be no fear nor shall they grieve." (2:277) The Holy Prophet also said: "Charity wipes out sins as water extinguishes fire." (Tirmidhi) "Two persons are to be envied ...and he upon whom Allah bestows wealth and he spends in the cause of Allah through the hours of the night and day." (Bukhari) The above citations from the Quran and Hadeeth indicate that the Islamic approach to poverty alleviation should generally be based on the existence of four main conditions: a) The design of fiscal and monetary policies ensures the flow of resources to the poor, b) The design of the legal and institutional systems assures that wealthy people transfer regularly the due Zakah to the poor and the needy, c) Financial sources for poverty alleviation include voluntary transfer as well as compulsory regular transfer from the well-off to the poor, and d) The provision of interest-free loans is necessary to make funds available to the needy. Eradication of poverty, socio-economic justice and equitable distribution of income are among the primary goals of Islam and should be unyielding features of an Islamic economic system. The Islamic financial system should also reflect these objectives of Islam. Many Islamic scholars pointed out the philosophical basis of the Islamic financial system lies in adl (social justice) and ihsan (benevolence). The implication of these concepts is "taking care of those who cannot be taken care of by the market, who cannot play with economic forces or do not have access to economic means to enable them to exploit the economic opportunities around them". As such, it is imperative on Islamic financial sector to include social dimensions in their operations along with the normal commercial financing practices. 13
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2.1.4. National and International Involvements in Poverty Alleviation 2.1.4.1 National Participation in Poverty Alleviation Development specialists argue that in order to achieve positive results in the battle against poverty, public policy in LDCs need to be embodied in a number of anti-poverty strategies including: redistribution of physical assets, provision of human or social development services (e.g. basic education, shelter, health care, water, and electricity), social welfare and insurance, and security and protection against violence. In addition to these strategies, it is very important to have a good government capable of winning the fight against poverty. Such government should be characterized by: sound moral foundation, a philosophy of transparency, effective implementation, strong leadership, and fairness of the election process. Governments in many LDCs adopt different types of programs devoted to poverty alleviation. These programs are in three categories: basic social services (i.e. education, health, housing and utilities), consumer subsidies mainly of food, labor-intensive public works for the unemployed, and cash transfer programs. The main problem which limits the effectiveness of such programs is the difficulty of targeting the poor, and the benefits are too small to lift people out of poverty. In their fight against poverty, LDCs face a number of challenges which limit the achievements of these countries' poverty alleviation goals. These challenges are mainly related to the difficulty of: a) Identifying the most financially-sustainable programs that reach the poor, b) Rationalizing the existing programs and improving their cost-efficiency through better management and targeting, and c) Designing and implementing a monitoring system which ensures the effectiveness of these poverty alleviation programs (World Bank 2005). The experience of many developing countries indicates that the achievements of their efforts in fighting poverty are quite limited. It has been argued that the LDCs' antipoverty plans are usually based on general, vaguely worded objectives with unrealistic; unachievable; and no time-bound goals and targets. Reaching better results in reducing poverty in those countries would be based on a number of factors mainly: maintaining accountability and transparency in the use of poverty alleviation funds, generating more tax revenues to support poverty alleviation programs, applying decentralization to help local governments increase their competence; revenues; and their responsiveness to the needs of the poor, promoting community participation, and developing stronger organizations for the poor.
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2.1.4.2 International Participation in Poverty Alleviation On the international level, the United Nations Development Program (UNDP) is committed to eradicating poverty worldwide. This program focuses on providing countries with what they most need and what the program is best at providing mainly: helping these countries improve their policy-making, and enhance their ability to build institutions as the principal means to eradicate poverty. The UNDP also provides countries with the technical advice resources needed to make their governance structures more participatory, more accountable, and more pro-poor. There are also a large number of other international organizations which are involved in the international battle against poverty. These organizations have different approaches to reach their goals and also have different levels of achievements. On the top of the propoverty international organizations, in addition to the United Nations we can find: the International Monetary Fund, the World Bank, the Asian Development Bank, the African Development Bank, the International Labor Office, the Islamic Development Bank (IDB), and the Food and Agriculture Organization. 2.1.4.3 NGOs' Participation in Poverty Alleviation The Non-governmental Organizations (NGOs) are also considered a major partner in the war against poverty on the local, national and international levels. There are different types of NGOs involved in this war such as: a) Local organizations whose participants are also the direct beneficiaries of their activities, b) External organizations which provide goods and services to the poor but do not directly represent them, c) National NGOs which focus on advocating poverty alleviation policies on behalf of the poor at the national level, as well as providing benefits directly to them, and d) International NGOs which concentrate on providing different types of programs to help the poor especially in LDCs.
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2.1.5 The Role of Islamic Financial Institutions in Alleviating Poverty 2.1.5.1 Islamic Financial Institutions The past three decades have witnessed a considerable progress in applying the Islamic Shari'ah to the field of financial service industry. The evolution of Islamic financial institutions in modern time started in 1975 with the establishment of the Dubai Islamic Bank and the Islamic Development Bank. The first specialized research institution (the Centre for Research in Islamic Economics, in the King Abdul Aziz University in Jeddah) was established by in 1978. The first takaful company was established in 1979. During the 1980s, more Islamic banks and academic institutions emerged in several countries. Countries such as Pakistan, Iran and Sudan announced their intention to transform their financial systems to comply with the Shari'ah rules and principles. Since the early 1990s, the Islamic financial services industry has witnessed a very rapid rate of growth and is a continually growing sector due to its ethical principles and prohibition of riba (interest). Today, the industry's total assets are estimated at US$ 500 billion9. These institutions are working in many fields of finance such as: commercial banking, insurance, investment banking, fund management, and project finance (Obaidullah 200?). Currently, the Islamic financial market includes a wide range of institutions which operate according to the Islamic law such as: Islamic banks (i.e. deposit-taking and financing institutions): they include fullfledged Islamic banks, Islamic subsidiaries and "windows" of conventional banks; Islamic non-bank financial institutions: these include Islamic leasing and factoring companies, finance companies, Islamic housing cooperatives, Islamic microfinance institutions, credit sale subsidiaries of trading companies and other similar institutions, and institutions managing special funds (e.g. haj, awqaf, Zakah, and Sadaqah); Islamic insurance or takaful institutions; Islamic capital markets and their players, such as brokerage houses, investment banks, etc., as well as fund management institutions including Islamic asset management companies (e.g. mutual funds/unit trusts, hedge funds); and Islamic financial architecture and infrastructure organizations which provide various consulting, governance, regulation and supporting services.
9
Estimate in the report of the 2011 International Conference on Islamic Microfinance held in Islamabad
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2.1.5.2 Policy Options for Enhancing the Role of IFIs in Alleviating Poverty Figure 2.1: New Directions for IFIs Involvement in Poverty Alleviation Activities.
New Directions for IFIs Activities to Alleviate Poverty
Zakah& Charity Fund Management Mobilize Financial Resources
Waqf Fund Management
Applying New Transaction Technologies
Expanding Propoor Financial Service &products
Invest Resources in Profit Generating Avtivities Finance Economic Increase Propoor Activities Networking
Facilitate Service Delivery Methods for the Poor Increase Financial Service Accessibility
Reach the Poor Wherever they are Located
Improve Socioecono. Conditions of the Poor
Improve Poor Involvement in the Production Process
Poverty Alleviation
(Source: Asmaa, 2007) Islamic financial institutions have been expanding rapidly in Muslim and non-Muslim countries all over the world. These institutions have paid most of their attention to provide financial services which comply with the principals of Islamic law. Financial services directed towards helping the poor still limited and do not have significant contribution to poverty alleviation. Islamic financial institutions can benefit from the academic contributions of scholars and practical experiences of other financial institutions working in this field to improve their contribution to poverty alleviation.
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2.1.5.2.1 Expanding Pro-poor Financial Services and Products The social role of Islamic financial sector can be best exemplified by providing finance to the poor so as to increase their income and wealth. Specialized poverty focused MFIs provide much-needed finance to micro entrepreneurs resulting in the increase of their income levels and wealth. As most microfinance schemes have an integrated social development program, adopting the approach of microfinancing can imply a much broader program of wealth creation for the poor and bring about development. One of the main approaches to benefit the poor is to facilitate their accessibility to appropriate financial services and products. Islamic financial institutions need to consider the following measures: Establishing new branches in areas lacking financial services; Hiring and training local male as well as females staff in order to better reach and serve poor clients in their communities; Applying group guarantees or group lending which has been found to be an effective method in reaching the poor, reducing the risk of default, and lowering transactions costs; Designing special lending program based on repeated loans of increasing size and duration. Such program encourages business expansion, provides an incentive for timely and complete repayment and, develops continuing relation with the financial institution; Providing complete financial services including savings or deposit mobilization not just lending; Reducing transactions costs in terms of money and time through simplifying credit application and approval procedures, and increasing the decision authority of field offices; and Providing standardized financial services and products which meet the various needs of borrowers with fees and no "riba"10 or interest. 2.1.5.2.2 Networking with Other Financial Institutions Islamic financial institutions can improve their contribution to poverty alleviation activities through establishing active networks with other specialized financial and nonfinancial institutions especially those located in the rural areas and poor urban areas. Such collaboration would increase financial service accessibility and pro-poor activities which
10
The revelation on the prohibition of riba in the Quran can be classified into 4 stages; the first stage was on the moral denunciation of riba in al-Rum verse 39, the second stage was on comparing riba with the Jews in al-Nisa verse 61, the third stage was on the legal prohibition in al-Imran verse 130-132 and finally, the fourth stage was on al-bay' (trading) as the alternative to riba in al-Baqarah verse 275-281. Islamic Microfinance System and Poverty Alleviation in Somaliland
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all in turn would improve the socio-economic conditions of the poor and increase their involvement in the production process. 2.1.5.3 Financial Services Required to Assist the Poor The study of the structure and functions of financial institutions indicates that they cannot cause economic growth, but they can play a major role in facilitating it. The effectiveness of financial institutions in helping the poor can be improved through increasing the coverage of their specific financial needs, and expanding access for disadvantaged groups including women and the landless. Financial institutions are expected to play an important role in enabling the poor to participate in the economic development process, and to benefit from its outcome. The availability of appropriate financial services is expected to improve the productivity of poor people, increase their abilities of poor people to satisfy their own needs, and reduce their reliance on public assistance. The ability of financial institutions to benefit the poor depends to some extend on the mix of services offered. The main financial services those clients need include the following (Nelson 1999): Transferring funds through different payment mechanisms (e.g. checks, money orders, or cash) to the poor. This service is usually delivered by postal networks, and sometimes commercial banks which have branches in small towns and rural areas. Managing liquid assets for the poor. Sometimes they can have enough cash while other times they are in desperate need of it. Financial institutions can provide liquidity management service which would benefit the community poor whether personally or collectively. Providing important intermediation of funds services such as: deposit and savings mobilization, credit, and managing financial risk. Providing subsidized micro-credit programs. Subsidization of interest rates in credit programs is considered the key to sustainability. Offering "social intermediation". These services can help the poor by improving their access to sustained financial sources, develop their self-confidence, and improve their management skills. Reaching poor women, especially the head of households and providing them with their needs of different financial services.
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Generally, access to appropriate financial services enhances the ability of the poor to help themselves in establishing work opportunities which provide them with sources of income. Financial institutions can also facilitate the provision and maintenance of shelter, which poor people cannot obtain without help. The effectiveness of financial institutions in delivering services that meet these needs can be improved through: facilitating intermediation between informal and formal financial institutions, increasing coverage of the poor, expanding access for disadvantaged groups, and enhancing the outreach and sustainability of financial institutions. 2.1.5.4 Equitable Distribution of Credit Finance has always been a powerful political, social and economic weapon in the world. It plays a prominent role, not only in the allocation and distribution of scarce resources, but also in the stability and growth of an economy. It also determines the power base, social status and economic condition of an individual in the economy. Hence no socioeconomic reform in Muslim societies can be meaningful unless the financial system is also restructured in conformity with the socioeconomic goals of Islam in which justice occupies a prominent place. Since the resources of financial institutions come from deposits placed by a wide cross section of the population, it is only rational to regard them as a national resource in the same way as water supply coming out of a public reservoir. They must be utilized for the well-being of all sectors of the population and not for the further enrichment of the wealthy and the powerful. However, it has been observed that, 'the distribution of capital is even more unequal than that of land' and 'the banking system tends to reinforce the unequal distribution of capital'. This bodes ominously for society because it leads to the recruitment of entrepreneurs from only one social class and to the failure to utilize its entire resource of entrepreneurial talent (Leadbearer, 1986, p. 5). Hence it is necessary to correct the tendency of the financial system to contribute to concentration of wealth by promoting an equitable distribution of credit in the economy. Micro enterprises have generally proved to be not only viable institutions with respectable rates of return and low default rates but also a successful tool in the fight against poverty and unemployment. The experience of the International Fund for Agricultural Development (IFAD) is that credit provided to the most enterprising of the poor is quickly repaid by them from their higher earnings. Testimony from the Grameen Bank in Bangladesh indicates a constant repayment rate of 99 per cent since the Bank's inception (Yunus, 1984, p. 12). The Select Committee on Hunger established by the US House of Representatives concluded in its Report that 'the provision of small amounts of credit to microenterprises
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in the informal sector of developing countries can significantly raise the living standards of the poor, increase food security and bring about sustainable improvements in local economies' (1986, p.v). Dr Muhammad Yunus, founder of the Grameen Bank, has aptly emphasized that financing for self-employment should be recognized as a right that plays a critical role in attaining all other rights. No wonder a number of countries have established special institutions to grant credit to the poor and lower-middle-class entrepreneurs. Even though these have been extremely useful, they have proved not to be adequate and, therefore, unable to make significant headway in realizing the goal of equitable distribution of credit. This goal may be difficult to realize unless the microfinance sector is scaled up by integrating it with the commercial banks to enable the use of a significant proportion of their vast financial resources on a commercial basis for actualizing a crucial socioeconomic goal. 2.2 Microfinance 2.2.1 Introduction The microfinance revolution, begun with independent initiatives in Latin America and South Asia starting in the 1970s, has so far allowed 65 million poor people around the world to receive small loans without collateral, build up assets, and buy insurance. Idea of microfinance programs has come from Dr. Yunus who began a microfinance program among women in Bangladesh in 1976 through the University of Chittagong, however the concept is relatively simple and enjoys a long tradition in many developing countries. The basic idea of micro-finance is to provide credit to working poor who otherwise would not have access to credit services. This service has been provided in variety in different countries by moneylenders in poor communities for a long time (Zeller &Meyer, 2002). According to (Bucciferro, 2007) Microfinance programs have rapidly spread worldwide on the premise that they help to eradicate poverty and create economic growth, however, the impact of microcredit on poverty reduction and other outcomes is still unclear. There is no single definition of the microfinance. Generally microfinance is small financial services to poor people who don't have access to traditional bank services. "Relying on their traditional skills and entrepreneurial instincts, poor people use financial services from organizations called microfinance institutions (MFIs) to start, establish, or expand self-supporting businesses". Unlike from other credit institutions vast majority of MFI were created for poverty alleviation and empowerment for the poor. In spite of social orientation MFI can also make a profit. So, MFI may have financial sustainability when many other services that aim to improve the life of poor (hospital clinics for the poor, public schools, health and agricultural programs) are dependent on
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subsidy from either the government or private donors. The set of MFI further developed in developing counties where shadow economy is big. In developed countries microloans are provided by usual banks. MFIs differ in size and reach: some serve a few thousand clients in their immediate area, while others serve hundreds of thousands of very poor people through hundreds of branches covering large regions (Bucciferro, 2007). Grameen Bank of Bangladesh, which was founded by 2006 Nobel Peace Laureate Dr. Muhammad Yunus, is the world's largest and most successful MFI. It serves more than seven million clients; according to (Oscar, Garavelo, Mario& Mastin, 2003).The definition of microfinance is the provision of financial services to small economic units such as individuals and microenterprises for productive purpose as opposed to consumption. Micro finance is considered as the provision of financial services to the low-income clients including the self-employed which has evolved as economic development approach intended to benefit the marginally poor especially the women (Lan, 2004). James (2005) defined Microfinance institutions as entities in the business of providing financial to low income people. The original focus of microfinance was on the provision microcredit (small loans usually for short periods) to finance working capital for microenterprises usually run by low-income people. However, The field of microfinance has broaden greatly beyond credit only, to include micro-savings, micro insurance, remittances and other payments all of which have a great impact on the lives of the poor. The basic idea of microfinance is to provide credit to working poor who otherwise would not have access to credit services. This service has been provided in variety in different countries by moneylenders in poor communities for a long time. However the micro finance programs include lack of substantial amounts of collateral group lending, small amounts of capital paid back within a short time frame (Zeller & Meyer 2002). 2.2.2 Islamic Microfinance Given the dominance of western culture and values as well as plight and vulnerability of today's Islamic world, there has always been an incessant conflict between the two civilizations. Muslims have always been struggling for decades at almost every walk of real life to retain their values and culture. The philosophy behind such struggle is underpinned in powerful expression of collective identity that is multiple and highly diversified following the contours of each culture and historical formation of each identity. The feeling of this collective identity has urged Muslim scholars to find solutions of current economic problems to make their lives compatible with Shari'ah and to safeguard the Muslim Ummah against the perils of the western culture. (Yusuf, 2006; pp.56-63)
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While conventional microfinance products have been successful in Muslim majority countries, these products do not fulfil the needs of all Muslim clients. Combining the Islamic social principle of caring for the less fortunate with microfinance's power to provide financial access to the poor has the potential to reach out to millions more people, many of whom say they would prefer Islamic products over conventional microfinance products. From affordable loans and insurance products to safe places to save, microfinance services have been powerful weapons in the fight against poverty, especially in Latin America and South Asia (CGAP News, 2008). Microfinance refers to making small loans available to poor people (especially those traditionally excluded from financial services) through programmes designed specifically to meet their particular needs and circumstances (Khan, 2008; p.6). The needs of the poor in Islamic countries are no different from the poor in other societies except that these are conditioned and influenced by their faith and culture in a significant way. They need financial services because they are often faced with events that call for spending more money than might be available around the house or in the pocket (IRTI, 2007, p.20). The application of Islamic finance to microfinance was first discussed in depth by Rahul and Sapcanin (1998). They demonstrate that Islamic banking, with its emphasis on risk sharing and, for certain products and collateral-free loans, is compatible with the needs of some micro-entrepreneurs. Viable projects that are rejected by conventional lending institutions because of insufficient collateral might prove to be acceptable to Islamic banks on a profit-sharing basis However, they concluded that from a microfinance standpoint the mudaraba model (profit-sharing) has more drawbacks than the murabaha model (cost plus markup). The murabaha model is overall more cost effective, has a lower margin of error, and provides immediate collateral for a MFI because the MFI owns the goods until the last installment is paid. Dusuki (2006) has presented the idea of Islamic microfinance initiative in the perspective of Ibn Khaldun's concept of 'Asabiyah or social Solidarity that emphasizes group efforts and loyalty over self-interests of individuals. He argues that Islamic microfinance can be promoted through group lending to the poor who are normally denied access to mainstream banking services. 2.2.2.1 Islamic Finance Islam is a religion that unites both spiritual and temporal aspects of life. It regulates not only an individual's relationship with Allah, but also human relationships in social and financial settings. Thus the Shari'ah, or the Islamic Law, is part of every Muslim's cultural, social and behavioural identity. The application of Shari'ah to investment choices and management is not a new phenomenon. Earlier Muslims were able to establish an interest-free financial system for mobilizing resources to finance productive activities and consumer needs, which had worked effectively for centuries. As Muslim
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societies became more sophisticated, and their financing needs more complex, coupled with stagnating Islamic thought evolution, the Islamic-based financial system was gradually replaced by the interest-based system in recent times. The current increasing desire of Muslims to bring their modern economic and financial activity to conform again with their cherished religious values and beliefs, has led to a growing interest in Islamicapproved investments. To understand Islamic microfinance, we need a minimal understanding of the principles on which Islamic finance is based. Four principles which are derived from the Shari'ah laws (Islamic jurisprudence) and are seen by most scholars to form the core of modern Islamic finance are important also for the Islamic microfinance. The first principle, which is the most famous and perhaps the most controversial from a financial point of view, is the prohibition of interest. The accuracy of the term "interest" is questionable in this context, since the Arabic term "riba" is usually translated as usury, not interest. However, riba does not refer to usury as in modern economics, charging excessive interest rates. The prohibition of riba allows for administrative expenses accrued by financial intermediaries and also for compensation for inflation. It does not allow for profits from the sole activity of lending money (a piece of money cannot beget another piece, according to Aristotle) (Iqbal and Mirakhor 2007). Because the prohibition of riba does allow for some interest payments (inflation and administrative expenses), prohibition of riba (despite of the foreignness of the word) is a more accurate description than prohibition of interest. The prohibition of riba is related to other principles of Islamic finance. The second principle is risk-sharing, which means that lenders share in the profits and the losses of the business they fund. This requires determining profits for these businesses ex post, which is not necessary in an interest-based loan. Prohibiting riba and promoting risk-sharing makes the suppliers of funds investors instead of creditors. Sharing of profits is justified because each party takes some responsibility for the economic transaction. The lender is entitled to the profits only because they bear the risk of loss (Iqbal and Mirakhor 2007). The third principle involves calculations of the time-value of money and sheds light on the wisdom behind banning riba. Money, according to Shari'ah rules, is only a medium of exchange, as long as it is not invested in productive activities. According to this view, money has no time-value unless it is used in a productive activity. This principle draws a clear distinction between using money for investment and using it for mere lending/consumption (Iqbal &Mirakhor 2007). When money is used for investment it acquires time-value because its usage yields a financial reward. In this situation, the 24
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person who provides money for investments has the right to share this reward, whether it is positive (profits) or negative (losses), consistent with the principle of risk-sharing. On the other hand, when money is used to finance consumption or other activities that yield no financial reward, it has no time-value and should be considered as an act of charity. Thus, Shari'ah recognizes the time-value of money only when it acts as real capital, but not when it is potential capital (Iqbal 1997). With regards to investments, the prohibition of riba follows the principle of the time value of money. The ban of riba is based on the fact that interest is fixed and earned whether the productive purpose to which it is put is successful or not. This makes it a certain profit while the financial outcome (profit or loss) from investing the money is uncertain. Earning a certain reward as a compensation for the uncertain is unjustifiable both morally and economically. The forth principle is the prohibition of Gharar. Gharar is, as riba, an Arabic term that has no exact English translation. It simply means taking excessive risks and speculative behaviour such as gambling. Literally, gharar means uncertainty or ambiguity created by the lack of information or control in an economic transaction. A classic example of gharar is selling fish that are not yet caught or an unborn calf in its mother's womb. Gharar includes any uncertainty related to the quantity, quality, recoverability or existence of the content of the exchange contract (El-Gamal 2006). Prohibition of gharar leads to avoiding transactions involving pure speculation. Consequently, trading in gharar-related contracts is prohibited. However, many scholars find that writing certain types of insurance is not characterized by excessive uncertainty (or gharar) because the process itself transforms uncertainty to controlled risk. 2.2.3 Islamic Microfinance in practice Islamic banking is in a phase of growth and change. On one hand, Islamic finance is being celebrated as a promising financial industry. Its assets currently exceed $300 billion (compared to $160 billion in 1997) and the market is estimated to be growing at10-15% per year (The Economist, 2008). Islamic banking is emerging from its history of being primarily politically driven (especially in Iran, Pakistan and Sudan) and is increasingly motivated by market forces. Islamic banks have been established in non-Muslim countries with Islamic minorities (e.g. the Islamic Bank of Britain) and Islamic branches of Western banks have begun offering Islamic-compliant products (for instance, HSBC Amanah, the global Islamic finance services arm of the HSBC Group). However, Islamic banks have not typically been involved in microfinance. In part, we believe this is due to a lack of research and
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innovation in how Islamic microfinance might look, in the absence of subsidies and charitable motivations. Similarly, microfinance has received considerable attention from financial practitioners, researchers and policy makers. Many microfinance products have been designed and offered by political or charitable organizations whose goal is to foster economic development, rather than to realize a profit from the loan. According to de Aghion and Morduch (2005), the norm in microfinance is still subsidization. The UNCDF Bluebook (2005) asserts that more than 95% of microfinance institutions still require subsidies to cover their costs and finance their loans. Islamic finance scholars shyly hint that microfinance should be one of the future and logical fields for the extension of Islamic finance. Zamir Iqbal briefly mentions the importance of applying Islamic finance to microfinance, since Islamic finance promotes entrepreneurship and risk sharing and its expansion to the poor would be an effective development tool (Iqbal, 1997). The Islamic Financial Services Industry Development's (IFSID) Ten-Year Framework and Strategies Report mentions microfinance more elaborately. It argues for expanding Islamic financial institutions to the microfinance field, both for charitable reasons and for legal reasons. In particular, the legal context in most countries means that Islamic financial institutions can more easily offer microfinance products than non-banking institutions. The report envisages that the assets of the Islamic non-banking microfinance institutions will count for almost 8-10% of the total Islamic financial institutions' assets during the next ten years (IFSID 2006). Despite the call for Islamic microfinance, there has been very little academic research on the topic. There have been even fewer attempts at implementing Islamic-compliant microfinance products, however. 2.2.4 Instruments A number of financial instruments have been devised to adapt the principles of Islamic finance to modern banking. Instruments of financing may be broadly divided into (1) participatory profit-loss-sharing (PLS) modes, such as, mudaraba and musharaka; (2) sale-based modes, such as, murabaha; (3) lease based modes or ijara and (4) benevolent loans or qard-hassan with service charge. The following three instruments are perhaps the most relevant to the topic of microfinance. Profit-sharing agreements, "mudarabah" is one of the most common PLS financial arrangements. According to this arrangement, the financier provides funds to the
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entrepreneur to be invested in an economic activity (usually short to medium term projects) for an agreed-upon share of the profit. If the project returns a profit, the profit is shared as agreed. If the project incurs losses, the financier's loses her capital and the entrepreneur loses his effort and time. (El-Gamal 2006). A second popular PLS contract involves equity participation (musharaka). Musharaka is a classic joint venture. This contract is a hybrid of partnership and mudarabah. The entrepreneur and the investor contribute to the capital and managerial expertise in agreed upon amounts and they also agree on the share of the profits and losses. Perhaps the most popular arrangement in Islamic finance is a "murabaha" contract. Murabaha (Arabic ????????, more accurately transliterated as mur?bahah) is a trade with markup "buy-resell" (or cost-plus sale contract) used for purchasing commodities and other products on credit. It is usually used for short-term financing. In this contract, the financier (investor) supplies specific goods to the entrepreneur on the condition of deferred payment for a specific period of time. The entrepreneur produces the final product and sells it. The deferred price includes a markup that compensates the financier for the time-value of money, since money in this case is used for investment in a productive activity. To ensure that the money is used for investment, there are conditions to these types of arrangements. One important condition is that the financier must directly obtain (and own) the goods which are given to the entrepreneur, to ensure that the loan is not used for any alternative purpose.(El-Gamal 2006; and Obaidullah and Khan 2008). murabahah is one of three types of bayu-al-amanah (fiduciary sale). The other two types of bayu-al-amanah are tawliyah (sale at cost) and wadiah (sale at specified loss). It is one of the most popular modes used by banks in Islamic countries to promote riba-free transactions. Different banks use this instrument in varying ratios. Typically, banks use murabahah in asset financing, property, microfinance and commodity import-export. There are other forms of Islamic financial instruments that are also widely used in financial transactions. However, these contracts are analogous to well-known conventional financial contracts. Ijara for instance is a leasing contract, which is widely used for financing vehicles, machinery and equipment. Other contracts are developed to provide money for sales rather than for entrepreneurial activities. One type is deferredpayment sale (bay' mu'ajjal), in which delivery of the product is executed while delivery of an agreed-upon payment is delayed for an agreed period. Deferred-delivery sale (bay' salam) is similar to a forward contract, delivery of the product is in the future in exchange for payment in the spot market. These contracts are rarely relevant for the microfinance market.
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2.2.5 MDGs, Poverty Alleviation and Microfinance The Millennium Development Goals (MDGs) are eight goals to be achieved by 2015 that respond to the world's main development challenges. The MDGs are drawn from the actions and targets contained in the Millennium Declaration that was adopted by 189 nations-and signed by 147 heads of state and governments during UN Millennium Summit in September 2000. Goal 1: Eradicate extreme poverty and hunger: Halve, between 1990 and 2015, the proportion of people whose income is less than one dollar a day; Halve, between 1990 and 2015, the proportion of people who suffer from hunger Goal 2: Achieve universal primary education Goal 3: Promote gender equality and empower women Goal 4: Reduce child mortality Goal 5: Improve maternal health Goal 6: Combat HIV/AIDS, malaria and other diseases Goal 7: Ensure environmental sustainability Goal 8: Develop a Global Partnership for Development Towards achieving the goals the United Nations General Assembly adopted 2005 as the International Year of Microcredit to "address the constraints that exclude people from full participation in the financial sector." At the World Summit at the United Nations in September 2005, Heads of State and Government recognized "the need for access to financial services, in particular for the poor, including through microfinance and microcredit." The Monterrey Consensus that Heads of State and Government adopted at the International Conference on Financing for Development in 2002 explicitly recognized that "microfinance and credit for micro, small and medium enterprises ?as well as national savings schemes are important for enhancing the social and economic impact of the financial sector." They further recommended that "development banks, commercial banks and other financial institutions, whether independently or in cooperation, can be effective instruments for facilitating access to finance, including equity financing, for such enterprises?." It should be noted here that access to credit, savings, or other financial services is only one of a series of strategies needed to reduce poverty and achieve the MDGs. Financial services need to be complemented by access to education, health care, housing, transportation, markets, and information.
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Research Design and Methodology
CHAPTER THREE RESEARCH DESIGN AND METHODOLOGY 3.1 Research Design This study was conducted through descriptive survey research design. Survey research is an oriented methodology used to investigate populations by selecting samples to analyze and discover situations. Survey research is ideally suitable for studies that are testing accepted explanations. In this study, the previous explanation that Islamic microfinance contributes to poverty alleviation in other countries was considered. The researcher therefore traced through survey on how that fact is applicable to Somaliland. The afterthe-fact studies are the domain of survey research. Survey research enabled the researcher to substitute for a test to predict and explain how the selected Islamic financial institutions can take part in poverty alleviation efforts of Somaliland. 3.2 Population and Sampling 3.2.1 Target Population The target population consisted of all current and prospective microfinance providers in Somaliland. This has been chosen because the overwhelming majority of microfinance in Somaliland are not financially self-sustaining and remain dependent on external funding mainly provided through income-generating projects by the donor agencies subsidies including UN and other INGO's. In view of the fact that the availability of acceptable means (Shari'ah-compliant products) of financing in the financial sector is crucial to the success of the whole economic development efforts in this country, the researcher felt that this study provides an input to the income-generating activities. 3.2.2 Sample The sample consisted of two institutions, one financially self-sustaining and the other is depending on donor agencies subsidies. This has been chosen because these institutions are the only providers of Islamic microfinance products in Somaliland. 3.2.3 Sampling Technique This study employed purposive sampling to select the sample size. The purposive sampling technique refers to the situation that the researcher decides who to include in the sample based on their typicality. It is mainly used to gather focused information and in this study it was used to collect from the individuals who had the requisite information. It is preferred for this study because it selects typical and useful cases only.
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3.3 Data Collection 3.3.1 Instrumentation Questionnaires, unstructured interviews and document analysis were used as the main tools for collecting data. The selection of these tools have been guided by the nature of data to be collected, the time available as well as by the objectives of the study. The overall aim was to investigate how the IMF System and its products contribute to the provision of financial services to the poor, alleviating poverty, empowering the poor and consequently to the efforts of sustainable development, so the researcher was mainly concerned with, criteria for eligibility, microfinance model, loan disbursement schemes, loan repayment and collection methods, etc. such information could best be collected through the use of a questionnaires and unstructured interviews techniques. Document analysis was used to obtain data on some background information and target clients. 3.3.2 Research Procedure The researcher developed a questionnaire over a period of one week under the guidance of the supervisor. When the questionnaire was finalized, the researcher sought permission from the faculty to proceed with the study. Once the permission was granted, the researcher proceeded to collect data. Data was collected from Kaaba Microfinance Institution and Salaam Financial Services in Hargeisa, using the questionnaire so developed along with unstructured interview. Secondary data was obtained from published data by the institutions either on their websites or printed annual reports, and these secondary data was analyzed through document review technique. 3.4 Data Analysis In this study, the collected data was analyzed using descriptive quantitative methods. The data has been presented in tables and figures which have been built from related questions in the sections of the questionnaire. Data have been analyzed instantaneously after each table and figure. The analysis software of SPSS (Statistical Package for Social Sciences) and Microsoft office Excel were of great use to this study. 3.5 Ethical Considerations The major ethical problem in this study was the privacy and confidentiality of the respondents. Obtaining valid information will entail asking profound questions which are themselves an infringement on the privacy and confidentiality of the respondents, although this is the only way to present the facts but respondents had the freedom to ignore items that they did not wish to respond to.
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Questionnaires were administrated, after prior information has been delivered to the respondents to ensure safety, social and psychological wellbeing of the respondents. The researcher provided them with the necessary information regards the main purpose of the research, expected duration and procedures to be followed. 3.6 Limitations of the Study The major limitation of the study was lack of research done on the same subject matter in Somaliland and related literature on the theme. In addition, for the verity that conducting research requires time; money; and other resources, there were some imbalances between these requirements and the actual means available to the researcher. Moreover, one noteworthy limitation was the workload on the researcher as there were courses to study with multiple assignments and exams while at the same time developing this paper. What is more the researcher faced unwelcoming, lack of support and firmness shown by one of the study respondents. Those and other personal factors had some effect on the time taken to organize this paper.
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Data Presentation and Analysis
CHAPTER FOUR DATA PRESENTATION AND ANALYSIS 4.1 A Survey Study on Salaam Financial Services 4.1.1 Background of the Organization Salaam Financial Services got accreditation and incorporation from the government of Somaliland on April 12, 2010. However, its business operations have not yet full-fledged since the organization is undergoing its early development stages. Therefore, the greatest hurdle facing the organization is establishing their organizational framework, product developments, capturing their share in the microfinance markets of Somaliland etc. Salaam Financial Services aims to develop financial and non-financial services modeled to gradually free its clients from wide-spread poverty and destitution. To realize that vision, the organization has lied down to pursue the following objectives: Positive impact on income of clients Outreach to the poor Financial sustainability of the institution Positive impact on education and social status of clients and their family Outreach to the poorest of the poor Be that as it may, the activities and performance of Salaam Financial Services is influenced and greatly overshadowed by its parent company, Telesom. For example, to be eligible and have access to Salaam Financial Services the individual should bring a Telesom shareholder to stand as a guarantor. On the other hand, Salaam Financial Services currently operates Hargeisa, Burao and Berbera. It has 3 operating branches (including the head office) active in the cities it operates with 4 loan officers and 30 employees. The total clients served by Salaam Financial Services were 40 clients consisting of 36(90%) males and 4(10%) females. 14 clients, which are all males and first-time borrowers, are active clients who have access to the lending facilities of the organization. Since the organizations is in its infancy, Salaam Financial Services have not yet operationalized the management tools to evaluate the repayment rates of its clients, thus, has not available information repayment status at the time of the study.
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4.1.2 Target Beneficiaries Salaam Financial Services has categorized its clients into three pies; clients with existing businesses and successful operations for at least two years, new entrepreneurs with prior business experience, and new entrepreneurs without prior experience. The clients who have both existing businesses and prior experience are the major clients of Salaam Financial Services, followed by those who have only prior business experience. Marginal consideration is allowed to those who have neither existing businesses nor prior experiences. Consequently, these three categories have not access to the same financial services. Clients with existing businesses garner the best and profitable financial services provided by the institution. Those clients with only prior experience have access its financial services but after extensive screening and strong guarantee process. Finally, those who have neither businesses nor prior experience are eligible to have Qard Hassan services and the available charity based funds with deliberate assessment. Considering outreach to the poor (refer to table 4.1 below), Salaam Financial Services target the poor as a major part of the clients. However, the organization has not a defined target group11 and selection criteria (eligibility criteria) to reduce leakage to the nontarget groups. The ways in which the institution makes contact with their clients are through the local TVs12& printed brochures. Table 4.1: Outreach to the Poor Clients Percent Not a specific target less than 30% Targeted as a minor part of the clients between 30 %- 50% Targeted as a major part of the clients between 50% - 90% Exclusive Target 90% and above As figure 4.1 below indicates, small and medium entrepreneurs are the main target beneficiaries (business clients) of Salaam Financial Services. They make 90% of the active clients of Salaam Financial Services. Salaam also provides financial products to small trade and market vendors which constitute 5% of the clients currently served.
11 12
Target group refers to the poor targeted as a group of similar characteristics and needs Salaam was using the local TVs just for one week at the time of the study
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Figure 4.1: Target Beneficiaries
5%
95% Small & Medium entrepreneurs Small trade & market vendors
At the time of the study survey, the institution could not estimate the potential market/clients they reached through microfinancial services due to many factors. Firstly, there was no available published data, private or public, which estimated the market demand of Somaliland microfinance industry as whole. Secondly, since Salaam Financial Services did not yet reached its targeted operational areas, they could not give an estimate of the total share of clients they could and intended to serve as it is corporate secret. Potential clients in hard to reach (i.e. in remote rural areas) were absolutely beyond the operation areas the institution served at the time of the study. In addition, Salaam Financial Services confirmed that their clients do not currently elect representative that voice the interest of the clients within and/or beyond the organization. Nevertheless, they emphasized they have high hopes that it will be accomplished in the near future as the organization and its member clients grow and develop. Furthermore, the organization underscored their plan to establish active spiritual development program which will contribute to the uplift and perfection of mu'amalat of the clients such as having faith in Allah in all spheres of live, freedom from corruption, mutual help, honoring promises, striving for knowledge, amanah etc. 4.1.3 Financial and Nonfinancial Services It is now an accepted fact that the challenge of poverty alleviation can be addressed by developing microenterprises. This requires a holistic approach involving microfinance or provision of financial services (microcredit, microsavings, microtransfers, and microinsurance) to poor and low-income people whose low economic standing excludes
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them from formal financial systems. Additionally, the micro entrepreneurs need to be provided technical and other forms of assistance. As figure 4.2 below reveals, the Salaam Financial Services use Murabaha, Mudaraba and Qardul Hassan as instruments of financing their clients. Though the institution intends to use various Shari'ah-compliant modes like Ijarah and Musharaka, this has not yet been accomplished due to challenges related to the regulatory framework and lack of enforceable laws in the country. Salaam Financial Services is modeled using Murabaha and Qardul Hassan as instruments of financing mechanisms. Murabaha mode of financing has the highest share of clients (80%) whereas the clients consuming Qardul Hassan mode of financing have relatively small proportion (15%). Figure 4.2: Mode of Islamic Financing
5% 15%
80%
Murabaha
Qardul Hassan
Mudaraba
The institution has not yet provided itself or in close contractual partnership with other institutions, to its clients and/or their communities nonfinancial services with an exception of contribution it offered to a building of the ministry of aviation. However, the department of marketing has envisaged and incorporated to their plan the provision of nonfinancial services aiming at the enhancement of their clients' literacy, business management skills and the awareness of the market information in the country. 4.1.4 Fund Mobilization and Financing Funds coming into Salaam Financial Services mainly originate from the deposits of clients who use the institution as a bank. The institution have permissions from the clients to use their deposits provided that the activities used for funds are disclosed to the deposit
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owner, that the activities are halal and free from any element which are repugnant in Islam such as riba, qarrar, maysar etc. In addition to that, the deposit owner should be prepared to share gains if profits are realized or loss if loss is sustained conditioned by the type of Islamic financial contract between the institution and the deposit owner. A second source of the funds are from the loan repayments by the active clients who already have access to the financial products of the institution which are reused into the institutions' fund deposits with no addition to the principal advanced to the clients. Although the repayments help ensure the sustainability of the available funds, it is vulnerable to dwindle resulting from the inflations and loan defaults of the clients which when combined their effects reduce the rate of future loan disbursements. In flaw of funds at Salaam Financial Services also arise from the administrative fees charged when a first-time borrower or repeated client is applying for financial support. If they are successful in obtaining funding there is management fee .These fees do not represent riba or interest, as they are merely to cover costs, both arrangement costs and the administrative costs. The basic lending methodology that is extensively employed by the Salaam Financial Services is individual lending schemes. As shown in the figure 4.3 below, 95% of the clients currently served borrow their loans individually. There's only one group in the loan disbursement schemes of the institution consisting of two persons. The group has no official meetings and emergency issues are resolved on an ad hoc basis. The institution makes contact to their clients through local radio, TVs, journals and brochures it prints. Figure 4.3: Salaam Lending Methodology Schemes
5%
95% Individual Group
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There is no significant difference in the process of disbursing loans to individuals as well as to groups. Both individual and groups are required to submit the application of their business proposal plans to the institution. After the institution evaluates the applications, the lending money goes only to those whose business plans are credible. The acceptance or rejection of the businesses plans solely rest on the shoulders of the management of the institution. They are responsible for deciding which plans are financed or rejected on basis of the viability, profitability, and a degree of acceptable risks of the business proposal plan. Salaam Financial Services has strict zero tolerance on defaults and delinquencies. Thus, the business plan applicants (both individuals and groups) should produce a guarantor instead of producing physical collateral(s). Only a shareholder of Telesom Company is eligible for standing as guarantor to the borrower and any other guarantor is not acceptable, whatsoever, in Salaam Financial Services. The institution also insists on that clients should pay 30% worth of the loan on spot immediately after the exchange transaction between the institution and the client. As depicted in table 4.2 below, in the last reporting year, the minimum loan size that a client can borrow was $500 irrespective whether the client is first- time or repeated borrower. The average loan sizes for the Murabaha and Qardul Hassan loans were $45,000 and $700 respectively. The maximum loan that clients in Salaam Financial Services borrowed was $300,000. This amount of money was available to both first-time borrowers and repeated clients. In other words, the lending scheme of the institution treats the same for the first-time borrowers and repeated clients, therefore, have access to same lending schemes. Table 4.2: Average, Minimum & Maximum Loans Minimum Maximum Average Loan Loan Loan Murabaha $ 500 $ 300,000 $ 45,000 Qardul Hassan $ 500 $ 700 First-time borrowers $500 $3 00,000
Repayment of the financing is the responsibility of the respective individual who had an access to the products of Salaam Financial Services. In the group context, repayment of the financing is not a shared responsibility of the entire group members; hence, they do not share the risk if one defaults.
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In almost all the cases, the repayment modes of the loans are structured at monthly intervals. As figure 4.4 below depicts, 95% of the loans are repaid on a monthly basis, followed by 3% of quarterly loan repayments and a small fraction of clients (2%) utilize yearly repayment of the loans. Figure 4.4: Loan Repayment Mode
3% 2%
95% Monthly Quarterly Yearly
Deposit of loan payments to institutions' depository bank accounts are the prime method of loan collection in the institution. The process of loan collection is as follows; an account is opened for the borrower at the outset. The client then writes cheques against his accounts in advance. Each cheque is then cleared in installments in due time. Finally, the last cheque is cleared at the maturing date of the loan. If a client pays full borrowed money before the maturity date of the loan, the institution provides a rebate which is not fixed rate but depends upon the amount of loan the client had access to. In addition to that, Salaam Financial Services facilitates to such clients' future financing agreements. To ensure the effective repayment of loans, the institution uses strict guarantee system as already mentioned. The beneficiaries also look forward to tap the repetitive financing in a graduated manner offered to the clean clients and this helps mitigate the risk of default and delinquency. Salaam Financial Services also provides charity-based funds mainly the Zakah that accrue to the institution each year. These funds are given to the vulnerable and the destitute persons in the community in accordance with the Islamic principles. Those persons who are eligible for these funds are required to bring a letter of confirmationfrom Sh. Mohamed Omar Dirir, a famous religious scholar in Somaliland. The context of the letter should affirm that the person holding it has basic necessity needs in the current lunar year to receive Zakah.
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The institution has not yet, however, carried out a monitoring and evaluation reviews of the impacts of their microfinance activities on their clients. But, they confirmed they will conduct those assessments when the institutional framework regulations are developed in due time. Furthermore, the provision of microfinancial services must also comply with Shari'ah so as to enhance financial inclusion. Salaam Financial Services has not its own Shari'ah board that ensures that their activities, contracts and asset portfolios are Shari'ah- compliant. Because hiring professional Shari'ah scholars and maintaining a Shari'ahboard is so costly. Nevertheless, the institution consults issues relating to Shari'ah- compliance with Sh. Mohamed Omar Dirir and Riqaba Shari'a13 to supervise the Shari'ah-compliance of the institution. 4.1.5 Major Challenges Salaam Financial Services faces various challenges emanating from diverse dimensions in the environment of the microfinance industry. The biggest challenge for the institution is due to lack of the regulatory framework that governs the industry as whole. Because of this, the industry is incompetitive, ambiguity is around the processes and activities of the microfinance institutions and there are no enforceable rules at courts at times of disputes. Since the institution is new to the industry, they face a lot of complications arising from the market due to their inexperience, lack of rigid institutional framework and absent of well established roles of the myriad departments of the institution. In addition to that, the institution has difficulty with the current and potential clients. Because there is a wide gap between the prevailing finance system in the community and the Islamic financial system. Many of the clients do not understand the workings and principles of the Islamic finance in general and particularly the financial products offered by the institution. To overcome those challenges, the institution recommended that the government of Somaliland in collaboration with the parliament to enact the laws governing the financial institutions as well as microfinance institutions as this will mitigate the vicious challenges the financial institutions encounter each day.
13
Shari'ah audit office in Hargeisa
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They also argued if the people, particularly clients of each institution, are trained on the principles of the Islamic microfinance and other technical skills in the financial arena that the problems with clients will be satisfactorily resolved. Finally, Salaam Financial Services has high hopes to push through the internal challenges the institution is currently facing as time passes. The management of the institution adamantly believes that the institution can instate itself as the leading company in the microfinance industry in the near future and any challenge they face is a learning process which the institution is stocking for the achievement of their strategic vision.
4.2 A Survey Study on Kaaba Microfinance Institution 4.2.1 Background of the Organization Kaaba Micro finance Institution (K-MFI) is a microfinancial service provider that aims to strengthen the economic base of the low-income self-employed in Somaliland through loans and savings services with special emphasis on low-income women. K-MFI has been operating under Doses of Hope Foundation (DoH), a non-governmental development foundation operating in Somaliland since 1998. The vision of K-MFI was enshrined to "aspire to be a financially self-sustaining MFI that empowers the low income and vulnerable groups particularly women in Somaliland." The institution is striving persistently to pursue in providing demand based financial services to the low-income and self employed people of Somaliland, with the prime objectives of reaching out to the poor and to have positive impact on their income, education and the social status of their clients to become the agents of change through improved access to finance. Started in 1999, the first micro finance project financed by the Rabo Bank Foundation began with 150 women beneficiaries; from 1999 to 2007 the micro finance program has gone through profound transformation and has scaled-up financial service delivery and improved its financial outreach. By 2007, the microfinance program had reached over 7,000 direct clients, with a further positive socio-economic effect for more than 41,300 indirect beneficiaries - 80% of which are low-income women (DoH, 2008). However, in February 2009 the institution was established as an independent Islamic microfinance institution with a financial support of EUR 150, 000 from Oxfarm Novib. K-MFI has now three branches (including the head office) operating three regions in Somaliland namely Hargeisa, Gabiley and Berbera with 18 employees and 3 loan officers engaged in the operation areas.
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Data Presentation and Analysis
Since registration of as an independent institution, K-MFI has served a total number of 5,000 clients. 4,000 (80%) of the served clients were female only. Currently, the active clients consuming its services are around 4,900. Of those only 320(6.5%) clients are firsttime borrowers whereas the rest constitute repeated clients. From 2008, the gross disbursement loans the institution given out were $ 820,000. The total amounts of loans outstanding to date were $ 60,000. The institution has enjoyed an excellent overall repayment rate of 98% - with slightly different figures for the males (90%) and females (99%). 4.2.2 Target Beneficiaries K-MFI's main goal was to provide financial services to the low-income and poor entrepreneurs (particularly women) in Somaliland to become self reliant and serve as agents of change in their respective communities. The financial services delivered by the institution were intended to finance the loan products that target the poor and very poor clients. In this regard, the institution sought the poor as an exclusive target (90% and above). To accomplish its target, the institution then accentuated to reach new entrepreneurs with only prior business experience and new entrepreneurs with neither existing business nor prior business experience in the poor strata of the community as the primary targets. However, targeting and selection of beneficiaries were not done with utmost care and objectivity in order to ensure that the people benefiting from the program are only the poor and very poor. The institution had not, since its registration, defined target groups which identify its potential target members. Services were not strictly directed to a well defined set of clients which have unique selection (eligibility) criteria which differentiate the target and non-target groups. Moreover, most of the beneficiaries of K-MFI at the time of the study were clients with existing businesses and successful operations for at least two years. Those clients enjoyed the same, if not better, financial services offered by the institution to the poor. At the operational level, the first stage of DoHs' lending schemes involved making individual loans. The second stage was to loan to hagbad-type groups. Each group decided itself on its maximum membership, mostly between thirty to fifty women. Then it decided on the members who will receive the first loans, five to ten people. Each received a loan. Once every member has received and repaid their first loan, the whole cycle could start again, with second or more loans to its members. The third stage was to loan to groups too poor to save even the small amounts involved in the traditional hagbad (DoH, 2009).
Islamic Microfinance System and Poverty Alleviation in Somaliland
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Data Presentation and Analysis
Figure 4.5: Lending Methodology
30%
70%
individual
group
As figure 4.5 above depicts, at the time of the study, the individual loans constituted to 70% of the borrowers whereas the loans to groups were 30%. There were 4 active groups each comprising 20 individuals. The members of each group met quarterly each year to discuss their business issues. Figure 4.6: Target Beneficiaries
Small & medium entrepreneurs Small trade and market vendors Low salaried workers 52% 26 .84 % Small scale farmers Dairy & poultry business Fishery business
9.43% 4.18% 5.89%
1.66%
On the other hand, as shown figure 4.6 above, most of the beneficiaries of Kaaba Microfinance Institution were small and medium entrepreneurs (52%), followed by small trade and market vendors (26.84%) and dairy and poultry business (9.43%). Low salaried workers, small scale farmers and fishery business constituted to the lowest categories with 5.89%, 4.18% and 1.66% respectively. Of these beneficiaries, entrepreneurs with existing businesses accounted for 84.8 percent while entrepreneurs with only prior
Islamic Microfinance System and Poverty Alleviation in Somaliland
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Chapter Four
Data Presentation and Analysis
experience and those with neither existing business nor prior experience accounted together for the remaining shares as can be seen from figure 4.7 below. Figure 4.7: Entrepreneurial Clients
4.2% 11% clients with existing businesses Clients with only business experience Client with none 84.8%
Kaaba Microfinance Institution confirmed that it has not major rivalry in the microfinance industry. The institution, thus, estimated that it currently reached 90% of the total potential market/clients and that it is the only institution that provides microfinance services to the clients in hard to reach areas. The institution has embarked on empowerment of women with 80% of its clients being women. Nonetheless, the clients of the institution do not elect representatives who speak for the clients' interests, discuss issues relating to the lending schemes, lobby the rights of the vulnerable groups etc. Lending activities are supplemented by training activities in areas ranging from literacy, management of microenterprises like book keeping, marketing and repayment of loans, to education on social awareness. However, it was not clear whether - and the extent - the institution had an active spiritual development programs that encourages practices that exclude behaviors that are repugnant or unacceptable to Islam and detrimental to the institution of family and include codes of ethics and morality that promote unity and cohesiveness in society. 4.2.3 Financial and Nonfinancial Services Provisions of financial and non-financial services are powerful tools for poverty alleviation to the poor whose low income and economic status excludes them from the mainstream financial service providers.
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Chapter Four
Data Presentation and Analysis
Exclusion of the poor from the financial system is a major factor contributing to their inability to participate in the development process. Thus, facilitating for the poor to have access to services such as credit, savings, insurance and a whole spectrum of nonfinancial services helps the poor and reduces their vulnerability which in turn increases the economic status of the poor families. Programs of K-MFI were chiefly modeled using Murabaha methodology as a financing mechanism to effectively penetrate and reach their clients. As it is shown in figure 4.8 below, Murabaha mode of financing made up 95% of the financial services provided by the institution. Other instruments of financing were Musharaka and Ijarah which formed 3% and 2% respectively as financing tools. Figure 4.8: Financial Services
3% 2%
95% Murabaha Musharaka Ij arah
The institution also offered its clients and/or their community non financial services such as skills training, financial literacy and record keeping trainings, marketing and business management trainings. 4.2.4 Fund Mobilization and Financing The K-MFIs' main sources of funds were grants and donations from international donor agencies. The major fund providers were originally UNHCR, Care international and UNDP. Other funders have included the Danish government and the foundation of the Netherlands Rabo Bank. Recently, Oxfam-Novib and CEBEMO are helping the institution to expand their services and to set up of 2 branches in rural and urban locations of Hargeisa and Gabiley regions.
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Chapter Four
Data Presentation and Analysis
When applying for a loan in Kaaba Microfinance Institution, the applicant has to produce a business plan with the help of one of the Loan Officers. The application is then reviewed by a committee set up on for processing and evaluating the proposals. Only applicants approved by the committee - usually within 2 to 3 days - got access to the loans provided by the institution. When applying for loans, borrowers have the option to organise themselves into groups or apply just as individuals. Although the institution now insists on that borrowing should be done in the context of a groups in which each member is responsible for the others. The institution has provided collateral-free finance to the poor. To mitigate the risk of defaults and delinquencies and as an alternative to collateral approach, each individual has to find a guarantor such as INGO worker, owner of local business etc. In contrast to that, individual borrowers can bring an elder as a guarantor. Provided the elders are the male heads of the borrowers' extended families or clans who invariably involved in decisions affecting the borrowers all through their lives, for example their marriages. The institution has faith in that a promise to an elder to repay by the borrower is not lightly made and elders do not lightly stand as a guarantor since the honor of the individual and the family is at stake. The main financial model of the institution was Murabaha mode of financing and its average loan size, in the last reporting year, was $500 as depicted in table 4.3 below. For the first time borrowers, their average and lowest loan sizes were $300 and $120 respectively. The institution did not offer loan sizes smaller than $100 to its clients since that rate is the minimum loan size available to the clients . Table 4.3: Average and Minimum Loan Sizes Average Loan Minimum Loan Murabaha $500 $100 First-time borrowers $300 $120 Moreover, first-time and repeated borrowers got different loan schemes. This is due to the fact that the lending schemes were based on graduated manner in which clients who apply for the second or more loans were available for loans more than his/her precedent amount if the client proved his/her commitment and repaid the loan in due time in the previous loans. Whereas such offer was never presented for the first-time borrowers as they were perceived riskier clients. K-MFI also rendered Zakah to needy poor and destitute families in their operating areas. The given out Zakah was the obligatory almsgiving which the institution pays to the poor segment each lunar year as prescribed in the holy Quran. The Zakah funding is not a
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Chapter Four
Data Presentation and Analysis
credit to its beneficiaries, but it is a voluntary giving with the sole aim of taking care of the immediate and basic consumption needs of the poorest of the poor. Repayment of loans at K-MFI was in equal monthly installments. Clients were required to make five installments to clear out their debts to the institution. Loan repayments were collected over the counter to the institutions office. Any client who paid the full borrowed money on time was rebated on simplified loan repeat assistance. The institution put into rigorous measures to avoid deliberate loan defaults or delinquency from a client consuming the institutions' financial services. The measures employed were as follows: 1. Loans are only made for business purposes, with an approved business plan. 2. The borrower has to find a guarantor. 3. Administrative costs are deducted before money is handed over (These are deducted at source; someone borrowing $200 will be given $180 with $20 kept back for administrative costs) 4. Clients are trained regarding the elements of the financing and the requirements they will have to fulfill in order to continue to have access to funding. 5. Strong rapport between the institution and clients is established at the client meetings. 6. Repayment is made in five segments. 7. A reluctant re-payer is firstly chased up by the Loan Officer, look at whether the business is failing and see how it can be got back on track. In the group context, it is the responsibility of the group who borrowed with responsibility for each other. 8. If this fails, the guarantor ensures that K-MFI will be repaid. 9. If this also fails, the borrower will be taken to court. K-MFI conducts periodic monitoring and evaluation to assess the efficiency, effectiveness and the impact of its microfinance activities on the clients. The purpose of monitoring and evaluation is to review its achievements against predetermined impact indicators, and to use the experience from the results to improve the design of future projects and programmes. The impact indicators used by the institution were the clients' family income, savings, growth of business and the number of children sent to schools. The institution has not so far its own Shari'ah supervisory board due to its high cost. The institution, however, consults with issue relating to Shari'ah to local religious leaders particularly Sh. Mohamed Omar Dirir to supervise and consult about the institutions' operations to align with the Islamic Shari'ah principles.
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Data Presentation and Analysis
4.2.5 Major Challenges One of the most compelling challenge facing the financial industry in general and the Kaaba Microfinance Institution in particular is lack of enabling policy framework which supports the infrastructure and facilitates skills and market developments for the microfinance institutions to reach their clients. The institution is struggling even since its establishment limited finances to outreach its target clients. Inadequate donor funding, and insufficient support from the government is crippling the effectiveness of the institution to provide sustainable financial services. In addition to that, new challenges were emerged from the risk of clients' defaults. This got aggravated considering the limited support for human and institutional capacity building, worsening of communication gaps and inadequate awareness of the clients and the clients misunderstanding the difference between credit and grants. All these factors contributed substantially the increase of loan defaults. The best possible initiatives to mitigate such challenges, presented by the institution, were to set up by the government enabling environment and effective regulatory framework that supports the microfinance activities across the country. They also highlighted the importance of training the clients of microfinance institutions in order to cast out the misunderstanding of the clients. The institution emphasized the training should educate and enable the clients to discern the difference between credit and charity and their respective duties and obligations.
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Chapter Five
Conclusion and Recommendations
CHAPTER FIVE CONCLUSION AND RECOMMENDATIONS 5.1 Discussion of Major Findings A great deal of attention has been given to the theoretical aspect of the Islamic microfinance system, especially the study of the economics of the various well-known Islamic modes of financing. Yet, there has been little work focusing on the empirical impact of the Islamic microfinance system on poverty alleviation. The present study has made a modest attempt to analyze the performance of two Islamic financial Institutions namely, Salaam Financial Services and Kaaba Microfinance Institution. The two institutions have succeeded to establish their operations in Somaliland. Currently, both Salaam Financial Services and K-MFI have branches at Hargeisa, Sahil and Gabiley regions. The size of institutions remain small, though variations exist between the institutions, in terms of the total clients served (40 for Salaam Financial Services and 5,000 for K-MFI), the number of the working staff (34 for Salaam Financial Services and 21 for K-MFI) and intensity of the institutions' penetrations in the areas they operate. The findings show that in general the two institutions sought outreach to the poor and positive impact on clients' income as their main objectives. Salaam Financial Services target the poor as major parts of their clients (50% - 80%) whereas K-MFI seek the poor as an exclusive target (90% and above). Notwithstanding the crowned objectives of serving the target population, the institutions only partially address the issue of financial exclusion of the poor. Both the institutions had not defined target groups which identify their potential target members. Services were not strictly directed to a well defined set of clients which have unique selection (eligibility) criteria which differentiate the target and non-target groups. For all intent and purpose, Salaam Financial Services and K-MFI have been less successful in reaching the hardcore poor. These are thousands which are often undernourished, are marginalized in society and often unable to get financial supports. The institutions under study had neither client empowerment facilities such as currently elected client representatives that voice the interest of the clients within and/or beyond the organizations nor social capital programs such as active spiritual development programs which contribute to the uplift and perfection of mu'amalat of the clients. The results found in this study show that the principal Islamic financial modes used by the two institutions in their transactions essentially are the non-profit loss-sharing modes particularly Murabaha mode of financing (Salaam Financial Services also provides Qard Hassan services for their clients). These modes are in general less risky than the profitIslamic Microfinance System and Poverty Alleviation in Somaliland
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Conclusion and Recommendations
loss sharing modes. Salaam Financial Services extend 95% of the loans to individual clients whereas K-MFI estimated it 70% as individual loans. In addition, K-MFI enjoys repayment rate of 98% and 80% of its client are females whereas female clients of Salaam Financial Services constitute just 10% of total clients served. The findings also show that Salaam Financial Services is financially self-sustaining institution. The sources of its funds are from the deposits of clients who use the institution as a bank, the loan repayments by the active clients who already have access to the financial products of the institution and from the administrative fees charged when a first-time borrower or repeated client is applying for financial support. However, K-MFI is non-sustaining donor dependent institution and the main sources of its funds are grants and donations from international donor agencies. 5.2 Conclusion A key feature of Islamic finance is asset-backing. There is a merit in the argument that end-use of funding must be monitored and funds must flown into productive assets. However, in the context of the poor and the destitute, whose needs are all basic in nature, do not have much for choice between present and future consumption. It is perhaps not sensible idea to finance an income-generating asset through Murabaha for a hungry person without finding a way to meet his immediate needs - food for him and his family. He would most certainly need cash to fulfil his immediate needs in addition to the physical asset to create wealth and generate income that would satisfy his future needs. In Somaliland the success of microfinance institutions depends upon the recognition of the fact that the household and business finances of most microenterprises are intertwined, and that efforts to restrict their use of funds to specified business purposes are typically futile and counterproductive. Therefore, to best serve the interest of poor borrowers, poverty-oriented microcredit programs should include consumption credit, and programs should evolve in the direction of a more holistic financial services approach where the objective is long-run financial sustainability. The attempt to focus on production credit alone is inevitably unsuccessful. On the other hand, both the institutions have well established loan disbursement, loan repayment and loan collection schemes. The institutions have provided collateral free finance to their clients to mitigate the risk of defaults and delinquencies. Both Salaam Financial Services and K-MFI have not so far their own Shari'ah board but they consult with local religious leaders particularly Sh. Mohamed Sh. Omar Dirir for auditing the operations of the institutions to ensure that the actual practice complies with the requirements of Shari'ah.
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Conclusion and Recommendations
Yet, Salaam Financial Services and K-MFI are lagging behind the efficient outreach to the poor entrepreneurs. Their institutional frameworks are not flexible enough to incorporate and serve financial products to their target clients identified in their mission and objectives. Factors responsible and exacerbating afar for the said failures are lack of strong political support, limited institutional capacity and insufficient financial and human capital resources. Furthermore, Salaam Financial Services and K-MFI encounter numerous challenges ranging from lack of proper institutional framework, lack of appropriate legal framework, lack of supportive policies and enabling environment, and lack of supervisory framework to insufficient teaching and training of clients and staffs, and absent of research and development of products and Shari'ah issues. What is needed, for the institutions to become successful in their respective operations, is a systematic financial services approach to the issue of poverty alleviation under which, all sections of the society have access to appropriate, low-cost, fair and safe technical products and services from mainstream providers. 5.3 Recommendations The researcher has argued in this report that if the poor had more access to financial services with a form of economic relief then they would be able to develop their economy and get it back on track. But unfortunately, the options of financial services for alleviating poverty in Salaam Financial Services and K-MFI are either inadequate or exclusive and they can only contribute to the poverty alleviation efforts if they define their target group along with understanding the wider concept of banking for the poor (from poverty to profit) which considers the fact that poor are in need for financial (and nonfinancial) services without the backing of physical collateral. Despite its limitations, it is against this background that the recommendations below are made. Basing generalizations on the findings of this study, the researcher recommends the following: To implement the National Development Plan (NDP)14 and to the realize the National Vision 203015 and the Millennium Development Goals (MDGs), the government of Somaliland specially the parliament should enact the laws and policies governing the financial institutions including the National Microfinance
14
Five years (2012-2016) plan for full recovery and speedy development that focuses on sustainable development and poverty reduction to achieve rapid economic development and growth prepared by the Somaliland Ministry of National Planning and Development (MoNPD). 15 The road map for the country's long term development aspirations and goals for "A stable, democratic and prosperous country where people enjoy a high quality of life" Islamic Microfinance System and Poverty Alleviation in Somaliland
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Conclusion and Recommendations
Policy16 in order to establish enabling and effective framework to support institutions to reach their clients and to ensure microfinance services for the poor contribute effectively to the implementation of the national PRSs and policies. There is a need to establish national anti-poverty commission which increases resource mobilization by linking Zakah and Waqf to Islamic microfinance that will play a significant role in poverty alleviation efforts in the country. Salaam Financial Services and K-MFI should organize themselves in a national microfinance forum in order to promote their participation in policy development adoption, review processes and enhance their institutional capacity at national levels and to seek memberships in effective international microfinance networks to cooperate in matters of common interest like - operational standardization (fiqh rulings, norms and procedures) and financial product development, resolution of divergence of views on Shari'ah compliance, development of resource center to share experiences, conducting training programs in microfinance facilitation. Salaam Financial Services, K-MFI and prospective microfinance providers should adopt full-fledged Shari'ah-compatible products, processes and activities and they should be perceived to be so by their clients, but not like to behave like the bankrupted Amaah Kalkaal17 when in an attempt to lay a Shari'ah-compliant foundation to its activity and invited Shari'ah scholars from Kenya to develop them an Islamic loan scheme, they saw that the proposed scheme did not suit their thought as it disrupted their main principle (a simplified loan granting system without any excessive paperwork involved), as Islamic methods of financing require a more rigid attitude towards checking the applicant's solvency. K-MFI should structure their operations so as to reduce and eliminate their dependence on subsidies and donor funds to become sustainable microfinance institution after donor support ends in order to enhance the income of poor, develop their microenterprises, build their assets gradually, manage their risks better and help them to enjoy an improved quality of life to the maximum degree. Islamic microfinance providers must take into account and consider the effective modes of financing that are not only applicable to clients' situations and understanding but are also in line with the current social, economic and legal frameworks of the country. Since Somaliland is an Islamic country and Islam has serious reservations against the charging of interest, donor agencies including UN and other INGOs providing income-generating activities and programs supporting microfinance in the country should make them in line with Shari'ah and comply with national policies.
16
Drafted by MP, Abdiqadir Askar Hassan with the Ministry of Commerce Industry and Tourism, but still not passed by the Somaliland parliament at the time of this study. 17 The first microfinance provider in Somaliland created in 1998 and was located in Hargeisa - see the paper "Somaliland: Interest-free but not yet Shari'ah-compliant economy" by Renet Bekkin, PhD in Law, senior researcher at the Institute for African Studies of the Russian Academy of Sciences. Islamic Microfinance System and Poverty Alleviation in Somaliland
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Offering "social intermediation". These services can help the poor by improving their access to sustained financial sources, develop their self-confidence, and improve their management skills and applying group guarantees or group lending which has been found to be an effective method in reaching the poor, reducing the risk of default, and lowering transactions costs. Islamic microfinance providers are supposed to intensify their contributions by incorporating new pro-poor financial development policies including: diversifying the mix of financial activities to incorporate those needed by the poor, expanding their financial activities into rural areas where difficult-to-serve clients are. Microfinance Unit at the Ministry of Commerce Industry and Tourism should set standards of performance to address the areas of financial reporting and information management, collaterals and outreach to clients and institutional structures development, because this allows comparison of institutions to assist both government ministries and donors in directing support to institutions that are most likely to grow and become sustainable. Shari'ah compliance is indeed the differentiating factor between conventional and Islamic microfinance, so that institutions providing Islamic microfinance are supposed to conduct alternative ways to supervise Shari'ah-compliance if they are not able to establish their own Shari'ah Supervisory Board (SSB) in order to conduct regular and comprehensive Shari'ah audits. Capacity building of the institutions providing microfinance is extremely important for the provision of sustainable microfinance services to low income and poor people, so the government and donors should provide financial and technical assistances in broadening and deepening of microfinance services, development of Microfinance products and training in methodologies. It is a great point of consideration to promote the availability of skilled personnel to handle the diverse and innovative transactions possible within the framework of the Shari'ah through trainings. There is a need for advocacy programs by activists and lobbyists in order to highlight the significance and sound moral principles of Islamic Microfinance (which is fair on the poor and geared towards equitable economic development) among the masses of Govt., multilateral donor agencies and the general public. Finally, in the aftermath of the global financial crisis with rising inequality and an ever growing population under the poverty line, it is imperative for adopting an economic system concerned with fulfilling basic human needs and creating opportunities for the poor. The Islamic economic system is essentially such a system with a fine blend of community welfare, ethics and morality and investments in the real economy and IMF as sustainable system worldwide.
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BIBLIOGRAPHY Abdelhak, Senadjki (2011), "The influence of Islamic values in the enhancement of households' wellbeing: a study of poverty alleviation in the Malaysian state of Pulau Pinang". Qatar Foundation; Doha, Qatar. AbdulKarim 2004."Islamic welfare society", (http://www.dawn.com). Abid Ullah, Jan. 2002. "The only way to Address poverty". Independent Centre for Strategic Studies and Analysis (ICSSA). Alin, S. Fadumo (2009), "Somaliland Microfinance: A Case Study of the Experience of Doses of Hope" (http://wwww.networklearning.org) Azam, Asmaa (2007). "Enhancing the role of Islamic financial institutions in alleviating povery", Misr University for Science and Technology, Giza, Egypt Bucciferro, J. (2007), Micro-Finance Impact in Chile: A Tale of two Cooperatives (http://www.spot.colorado.edu) CGAP News, (2008). The Consultative Group to Assist the Poor) Washington D.C., USA. (http://www.cgap.org) De Aghion, Beatriz A. and Morduch, Jonathan (2005). The Economics of Microfinance. MIT, USA. Dhumale, R. and Sapcanin, A. (1998). "An Application of Islamic Banking Principles to Microfinance, Technical Note", A study of United Nations Development Programme and World Bank. Doses of Hope (2008), "Microfinance Programme". (http://www.dosesofhope.org) Dusuki, W. A., (2006). "Empowering Islamic Microfinance: Lesson from GroupBased Lending Scheme and Ibn Khaldun's Concept of 'Asabiyah", Paper presented at Monash University 4th International Islamic Banking and Finance Conference. Kuala Lumpur, 13-14 November. El-Gamal, A. (2006) Islamic Finance: Law, Economics, and Practice. Cambridge University Press. Iqbal, Zamir (1997). "Islamic Financial Systems." Finance & Development, June, pp. 4245.
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QUESTIONNAIRE
University of Hargeisa Faculty of Business Administration
Dear Sir/Madam, My name is AbdiQadir Mohamoud Yonis, currently I am a senior student at the University of Hargeisa pursuing BBA degree in Accounting. As an academic requirement I am conducting a field research on "Islamic Microfinance System and Poverty Alleviation in Somaliland". As part of my research work I have to collect relevant information through the tools of questionnaires and interviews. Your institution has been identified as a valuable source of information pertaining to my research project. I would very much appreciate the participation of your institution in this survey and I am kindly requesting you to answer the entire questionnaire as fully as possible. Any information you provide will be used for an academic purposes only and I promise to share my findings with your institution. I assure you that the data you provide shall be kept with utmost confidentiality. Thank you very much in advance, Yours truly, AbdiQadir Mohamoud Yonis Email: [email protected]... Mobile: +252 2 4470055 56
GENERAL INFORMATION Name of the Institution?????????????????????? Year established?????????????????????????
1.
I. II.
2.
a) What is your operation area (please tick where is applicable) Rural Urban b) How many regions in Somaliland do you operate? Please specify their name(s): ????????????????????????????????????? ????????????????????????????????????? ??????????????????????????????? c) Total radius (km to furthest customer) ???km I. II. Number of branches and other office)???????????. Number of employees??????????.. III. Number of loan officers?????????.. a) Since the registration of the institution, what are the i. Total clients served??????????.. ii. Percent of female clients????????..% b) In the last reporting year, what are the: i. Percent of active clients ?????..% ii . Percent of repeated clients?????% iii . Percent of first-time clients????...% units (including head
3.
4.
5.
I. II.
Total amount of accumulated disbursed loans USD$.................. Total amount of outstanding loans USD$.......................................
6.
In the last reporting year, what is the: i. Percent of total loan repayment??????.% ii . Percent of female loan repayment ?????% iii . Percent of male loan repayment ????..?% On a scale from 1 to 5 (1= less important, 5 very important), how would the senior management of the institution rate the following possible objectives for their institution: i. Financial Sustainability of the institution????. ii . Outreach to the Poor????????????. iii . Outreach to the Poorest of the Poor??????.. iv. Positive impact on income of clients??????. v. Positive impact on education and social status of clients and their family?????????????????? 57
7.
INSTRUMENTS OF FUND MOBILIZATION & FINANCING (SHARI'AH COMPLIANT) 8. What basic lending methodologies are you following? And in what proportion? (Tick all that apply) Individual lending????..% Group lending??......??..% a) In group lending methodology, what is the: i. No of groups?????????????.. ii . No of members on each group??????.. iii . Frequency of the group meetings?????.. b) What is the process of disbursing loans to group members? Please explain? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????......................... ................................................................................................... c) If any member of a particular group does not comply with the principles or rules of the group (i.e. default and/or delinquency) what measures are followed? Explain? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ????????????????????................................ ................................................................................................................................................ d) What is the process of disbursing loans to individual members? Please explain? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ??????????????????????????????????.................... ............................................................................................................ 10. How many different financial products does your institution have? In what proportion? (Tick all applicable and specify their respective proportions in percentage) Murabaha????..??.% Mudaraba???...??...% Musharaka???....??.% Qardulhasan???.??.% Ijarah??????...?.% Which financial product(s) do you use as your main financing model? And why? ?????????????????????????????????????? ?????????????????????????????????????? ????????????????????????????????
9.
11.
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MICROFINANCE MODEL (The following questions relate specifically to the main financing model of the institution) 12. What was the average loan size in the last reporting year? USD$????????????????????????????????? ?????????????????????????????????????...... ...................................................................................................................................... What was the average loan size for first-time borrowers only in the last reporting year? USD$????????????????????????????? What was the amount of smallest loan in last reporting year to first-time borrowers? USD$........................................................................................................................ What the amount of largest loan in the last reporting year to first-time borrowers? USD$?????????????????????????????? Is there a minimum loan size? If Yes, how much? Yes USD$................. No What kind of charity-based funds do you offer? (tick all that apply) Do not offer Zakah Sadaqah What are the requirements for getting the charity funds you offer? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ????????................................................................................ ................................................................................................................................................ ................................................................................................................................................ .......................................................................................... Do you require land and housing property (with legal titles) as loan collateral? Never for less than 30 % of the loans about 30-60 %, about 60-90% over 90 Do you rely on social collateral? Group guarantee recommendation by trusted third party Guarantor (an elder of the client) Others Please specify????????????.. 59
13.
14.
15.
16.
17.
18.
19.
20.
21.
What is the repayment mode of the loans Daily Weekly Monthly Quarterly Others Please specify??????????? What are the measures taken to ensure effective repayment of loans? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????......................... ................................................................................................... Loan Collection Method Group/Center Collection meeting Individual Collection through collectors Deposit of Loan Payment to institutions' depository bank account Over the counter payment to institutions office Others Please specify?????...... If a client pays full borrowed money in time is he/she rewarded with rebate? Yes No If yes, in what way? ?????????????????????????????????????...... ...................................................................................................................................... In the last reporting year, does the institution offer (itself or in close contractual partnership with other institutions) to clients and/or their communities any of the following ?(tick all that apply) Health services education services Financial Literacy Training Skills Training Business Management Training Record Keeping Training Marketing Literacy training Social Awareness training Legal Counsel Technical assistance Market Information (Inputs, outputs, marketing) School education to children Others Please specify??????????
22.
23.
24.
25.
26.
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TARGET BENEFICIAIRES 27. a. Which client/borrowers consume your financial services? clients with existing businesses & successful operations for at least two years new entrepreneurs with prior business experience new entrepreneurs without prior business experience b. Do the clients have access to the same financial service? Yes No c. If no, how do the financial services for the clients differs? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ???????????????????????????????................................... ................................................................................. Does the institution seek to reach the poor as: not a specific target targeted as a minor part of the clients targeted as a major part of the clients exclusive target Does your institution have a defined target group Yes No If yes, What are the selection criteria (eligibility criteria) for members of the target group? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????......................... ................................................................................................... How do you make contact with your clients? (tick all that apply) Radio TV Journal Others Please specify????????.
28.
29.
30.
31.
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32.
Who are your target beneficiaries? In what ratio? (tick all that apply and specify the ratio in percentage) Small & medium entrepreneurs?????.% Small trade and market vendors???..?..% Low salaried workers?????????.% Small scale farmers???????.??...% Dairy and poultry business???????.% Fishery business???????????..% Others Please Specify???.???????...% In your estimate, what percentage of total potential market/clients do you currently reach through microfinancial services? ......................% In your estimate, what percentage of total potential market/clients in hard to reach areas do you currently reach? ??????????% Do clients of your institution elect representatives? Yes No What are the functions of elected members? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ??????????????????????????????????.................... ............................................................................................................ What percent of women are among the elected members? ????????%
33.
34.
35.
36.
37. 38. 39.
What percent of youth (i.e. below 25 years) are among elected members? ???.% Do representatives of clients and their senior management of the institution meet to discuss the structure or conduct of the institution? Yes No Have the clients (and/or the representatives) formed other organizations/lobby groups at community or higher levels? Yes No Have the clients and/or their groups voiced their interest in: (never, occasionally, frequently)
40.
41. i.
Social organization???????????.. ii . Government organizations????????.. iii . Non-government organizations???????
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42.
Do the socially excluded (i.e. minorities, women, often the poor) speak in clients' meetings? Never Rarely Rather often Very often At all the meetings
SOURCE OF FUNDS (MOBILIZATION OF FUNDS) Please tell me about the sources of your revenues: Zakah Waqf Grants and donations from donor agencies Grants, donations and contributions from individuals (Qardulhasan) Deposits Loans from Commercial Sources Others Others, please specify?????????????.
43.
SCREENING OF FUND USAGE, SOCIAL CAPITAL & SHARI'AH COMPLIANCE Do you monitor the impact of your microfinance activities on your clients? Yes No 44. If yes, What impact indicators do you use? Family income Savings Assets Growth of business Employment generation Number of microenterprises Others Please specify????????????? Does the institution have an active spiritual development program? Yes No 46. What proportion of your beneficiaries receive:
45.
47. i.
Financial assistance only???????????????????ii . Financial and technical assistance only?????????????.. iii . Financial and technical assistance along with spiritual treatment???..
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What social rights and responsibilities does the spiritual development program emphasize and educate on its member clients? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ???????????????????????????? Does your institution have its own Shari'ah supervisory board ? Yes No If No, what is the reason? ?????????????????????????????????????? ????????????????????????????????????.......... .............................................................................................................................. What alternative approach do you use to supervise the Shari'ah compliance of the institution? ?????????????????????????????????????? ?????????????????????????????????????? ???????????????????????????????? ???.???????????????????????????????? What are the major challenges your institution face? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????? In your opinion, what are the best possible initiatives to overcome or mitigate those challenges? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ?????????????????????????????????????? ???????????????????????? ???..???????????????????????????????? ????????????????????????????????????
49.
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Many thanks for your cooperation, Wassalamu Alaikum
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