The conceptual framework for Islamic microfinance requires that the contracts and transactionsÂ between the multiple parties involved in the process are Shariah-compliant. Most importantly,Â they must not violate the prohibitions against riba and gharar. While there seems to be a consensusÂ on the meaning of these prohibitions, there is less agreement on the interpretation andÂ manifestation of the prohibited elements in real-life situations. Further, Shariah-compliance of theÂ contracts in form in no way provides an insurance against exploitation. Several observations areÂ in order.
1. Rates on micro-murabaha and micro-ijara financing are deemed Shariah-compliant whileÂ interest rates are not. However, both can be and often are exploitatively high.
2. In case of participatory modes e.g. mudharabah, musharakah and mudharaa the sharing ratioÂ could be unfairly biased against the poor beneficiary because of their low bargaining power.Â Similarly, in case of fee-based modes, e.g. wakala, hawala the agent-MFI may charge anÂ exorbitant fee for the same reasons.
3. The permissibility of salam (sale of non-existent produce) is linked to the economic benefits itÂ confers on poor farmers in need of pre-cultivation financing. However, salam can often involveÂ exploitation when the advance price paid to the poor farmer is artificially pegged at low levelsÂ due to his/her weak bargaining power.
4. For Islamic modes of finance involving multiple contracts, e.g. murabaha and ijara, Shariah complianceÂ often requires careful sequencing of contracts to ensure that profits are associatedÂ with risk-bearing. However, in the context of microfinance involving large number of repetitiveÂ contracts involving small values, adherence to desired sequencing become practicallyÂ impossible.
5. When MFIs price a benevolent transaction, e.g. qard and kafala (they are permitted to chargeÂ actual costs without any element of profits) they may actually be passing the costs of theirÂ inefficiencies to their beneficiaries.
6. When pawnshops provide qard that is backed by collateral or rahn and charge custodial feeÂ from the borrower, it may well be a case of disguised riba, especially when the quantum of feeÂ moves in direct proportion to quantum of loan.
A mechanism to redress the above undesirable possibilities may be found in the following:
1. Prudential regulation of markets to ensure healthy and adequate competition among theÂ players and thereby, remove abnormal and/or illegal profits through mispricing.
2. Creative fiqhi solutions (for instance, replacement of murabaha with istijrar may bring in theÂ required flexibility in settlement of repetitive transactions in microfinance)
3. Vigilance by Shariah scholars to prevent disguised riba (for instance, scholars may ensure thatÂ custodial fees are delinked from quantum of loan or that actual administrative costsÂ recoverable from the beneficiary in qard are not overstated)
4. Identifying appropriate organizational structure (in case of earlier salam example, a farmerâ€™sÂ cooperative may replace the vendor and thus prevent exploitation of individual farmers by theÂ latter)
Notwithstanding the varied nature of Islamic modes for microfinance, the fact remains thatÂ murabaha remains overwhelmingly popular among IsMFIs. Its popularity is attributable theÂ following reasons:
1. Murabaha is simple. The straightforward calculation of the installments for repayment is moreÂ easily comprehensible by the beneficiary. In contrast to this, the payments under a partnership-basedÂ mode are uncertain and therefore, less favored.
2. In contrast, partnership-based modes are demanding on the part of the beneficiary in terms ofÂ the need for proper book-keeping and ascertainment of the financial results of the business.Â Financial illiteracy acts as a constraint. Further, the beneficiaries may be justifiably reluctant toÂ share info relating to all aspects of their business with the MFI.
3. Murabaha is familiar. For conventional MFIs venturing into Islamic MF and using murabaha, theÂ transition is least demanding. Among all Islamic products, murabaha comes closest to interest-bearingÂ micro loans.
Mohammed Obaidullah | June 12, 2013