Guidelines for Islamic Microfinance Business by Financial In

Top 20 FREQUENT WORDS

microfinance 94 financing 65 mfi 60 members 59 client 52 clients 49 poverty 48 repayment 46 profit 39 business 37 islamic 33 sri 33 based 31 mfis 31 musharaka 31 goods 27 loans 27 murabaha 26 repayments 26 lanka 25 rates 25

DOCUMENT KEY POINTS

• grameen la riba model a strategy for global poverty alleviation ehsan habib feroz blake goud abstract the objective of this paper is to develop and implement an islamic microfinance model using the grameen group methodology which can be used as a tool for global poverty alleviation
• the murabaha financing agreement includes fixed payments each period of repayment and therefore is easier to administer and can be used to screen out potentially problematic clients who are most likely to default

• a riba based financial system which is at the core of the current global financial crisis feroz places disproportionate risks of repayment upon the borrower who is obligated to repay the principal plus compounded interest whether the business for which the funds were borrowed is successful or not

• anecdotal evidence from many programs supports the general belief that the combination of access to microcredit and basic social services is an effective and cost efficient approach to enable the poor to pull themselves out of poverty unicef
• when an mfi can trust its clients to make repayments and group members are trained well enough to keep records it should also be able to verify its clientsa reports on business profit or loss

• these criticisms are centered on the lack of data about access to microfinance and its impact on hard core poverty the potential detrimental effects of high interest rates on borrowers and a continued need to focus on education healthcare and basic infrastructure in a holistic poverty reduction strategy

• because microfinance can create some welfare gains by providing deposit services and consumption loans at least in rural areas these products should not be necessarily eliminated particularly since the only available substitute to these loans are local money lenders the so called mahajans who charge significantly higher interest rates than mfis

• khandker uses data collected in and in bangladesh and found that borrowing by men resulted only in greater non food household expenditure while borrowing by women resulted in both greater food household expenditure and increased household assets

• karnani argues that the focus on creating microbusinesses is not as valuable as proponents argue because many developing countries already have a sub optimally high level of small businesses that are not able to exploit economies of scale available to larger businesses
• worries about how high interest rates could harm poor borrowers provided the basis for recent criticism of compartamos a mfi in mexico that charges interest rates in excess of per year cgap

• although most of the investment gains seen by investors were the result of external factors like an absence of comparable securities the ipo was times oversubscribed and the mfia s bank license a large intangible asset some of the investment gains were a reflection of the high profit rate of the company

• the grameen la riba model the grameen bank in bangladesh and other mfis throughout the world have found the human portfolio approach an innovative application of the portfolio theory of finance or group lending methodology to be very effective in ensuring high repayment rates that allow mfis to charge lower interest rates and still become profitable feroz
• part of the difference could be due to men and women working in different industries but de mel woodruff and mckenzie c document intraindustry differences in returns between men and women

• upon signing the mfi provides the client with money to expand the clienta s business and they share profits and losses until the agreement ends with the client gradually buying the mfia s share of the business
• this human portfolio approach is used in part because poor borrowers clients do not typically have physical collateral to guarantee their own loans and hence joint group responsibility essentially a pooling of risky a clientsa instead of pooling risky debt a securitiesa as it is practiced in corporate finance allows them to use a social collaterala instead as their guarantee

• most mfis only work with self selected groups on the assumption that group members will only select fellow group members who they believe have the highest probability of success will repay on time and who they believe will respond to social sanctions if they are late in repayments
• murabaha cost plus resale with deferred repayment when borrowers form groups and approach the mfi for financing they will not immediately be eligible for profit and loss sharing musharaka based products but will instead be offered a murabaha based product that has fixed repayment amounts across the length of the financing

• the mfi and client will sign an agreement specifying i description and cost of the goods requested ii profit margin for the resale of goods from the mfi to the client iii total repayment amount frequency and number of repayments repayment dates and amounts and iv place where the goods will be delivered to the client
• if repayment is made on time then two other members will receive financing and if repayments continue to be made on time the final member of the group who is also the group leader will receive financing

• after the goods are delivered to the client there will be weekly group meetings where repayments are made publicly both to allow group members to observe whether their fellow group members are current on their repayments as well as to verify that the mfi staff member collecting repayments reports to mfi honestly and does not embezzle part or all of it

• our model provides a happy medium between the mfi recovering its initial investment plus or minus the actual profit loss of the business while freeing the entrepreneur to receive a growing share of the microbusinessa profits as it buys out the mfia s share of the business
• the mix between business and consumption loans in the extant microfinance industry has made it difficult if not impossible to accurately gauge whether microfinance is meeting its promise to act as an effective tool for poverty alleviation

• the main problem created by the musharaka model is the asymmetric informational relationship between the principal bank and the agent client
• a study by de mel mckenzie and woodruff a found that many entrepreneurs continued to keep records of the business activities even after the studya s conclusion with percent indicating they planned on maintaining their ledgers and percent actually doing so after one month

• the historically large role played by the government in the economy shapes the current distribution of mfis among institutional types over percent of loans and over percent of deposits are provided by government organizations either rural development banks rdbs or samurdhis
• despite this high per capita income the country has a significant disparity between rich and poor and between rural where percent of countrya s poor live and urban areas where poverty rates are lower

• despite the prevalence of deposit taking by non profits the lack of regulatory coordination between different ministries has led to these organizations being focused on the loan side and this forces them to rely more upon external financing because the supply of depositorsa money is limited by the rules against non profit organizations taking deposits
• one of the factors limiting non profit activity in microfinance is that they are prohibited from taking deposits although many do and enforcement activities against non profits that take deposits are infrequent

• the predominance of government providers of microfinance has resulted in an inefficient system where interest rates charged are not sufficient to cover costs and repayment rates are significantly lower than non governmental mfis in other countries

• one of the strengths of the one ummah foundation for the purposes of carrying out an equity based microfinance pilot study is that it works through a diverse group of highly trusted partner organizations in several countries concentrated in the south asia
• during the implementation phase we will use more generic terms for products like cost plus financing and profit and loss sharing investment rather than murabaha and musharaka

• once the list of required goods is created for both members of each group we determine the prices of the necessary goods combining orders together across clients and groups to reap discounts of buying larger quantities where possible
• the pilot program as mentioned above will be carried out in two areas of sri lanka and will be administered by two community based organizations in sri lanka

• if the first two group members make the repayments on time for six consecutive weeks the next two group members will meet with us and the same process will occur as did with the first two group members

• former case either the member who misses a payment pays the missed payment along with the next payment at the next repayment meeting or another member will cover the missed payment with an understanding that the member who missed the payment will repay when he she is able to do so
• phase two musharaka profit and loss sharing equity financing one of the important outcomes we hope to see in the groups formed for phase one is that they focus on expanding their business to raise their own incomes and eventually becoming small businesses that are able to provide an employment opportunity for more than just their owner

• conclusions and policy implications microfinance can be a powerful tool for a poverty alleviation strategy but the experiences of mfis in years since doctor yunus began lending small amounts in chittagong bangladesh have demonstrated that microfinance is not a panacea to poverty and should be implemented alongside complementary development progra miss a holistic approach to development that emphasizes the provision of education health care basic infrastructure ownership empowerment and participatory governance can enhance the effectiveness of microfinance
• creating debt among people with few assets beyond their unskilled or low skill human capital labor and shouldering them with high interest payments up to percent annually as with compartemos may not be sustainable if borrowers do not earn enough to repay principal plus interest and still have enough income to provide for their families

• we posit that the fundamentals of the classical sharia ah concerning i equitable risk and return sharing between the lender bank and the borrower client and ii helping the poor especially the a poorest of the poora to be self sustaining provide the necessary foundation for an islamic microfinance model that is better suited to help the poor increase their sustainable income and eventually escape poverty
• it also provides poor clients insulation from some of the costs of business failure and will shift some of the risks from poor clients to an mfi which is better able to diversify its risks

• it is time to stop sermonizing the global poor estimated at one billion by the policy makers in the public and private sectors and instead consider the poor as rational vicegerents of allah albeit some might be on the verge of a decaying jesusa in the words of late mother teresa who can take care of themselves only if they are provided with appropriate economic access including finance and equitable opportunities for social mobility
• it is imperative for the islamic banks and financial institutions to revisit their sharia ah covenant in substantive terms not just as a formality and reassess their strategies in terms of their larger social responsibility of local and global poverty alleviation

• although murabaha has a fixed repayment schedule it is different from conventional microfinance loans because the repayment amount is determined at inception based on the cost of the good financed and the markup charged by the mfi
• other measures of poverty such as lack of access to affordable healthcare and education are often thought to be impacted by greater availability of microfinance

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DOCUMENT WORD ANALYSIS

Main Category

AlHuda Material\islamic micro

KeyWords

islam bankable microfin financial finance institute cooper bprs productcommodity indonesia convent bmt rural service sector commercial deposit average loan required

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DOCUMENT REFERENCES

Number of Pages

32

Published Date

2009-07-06 19:12:36

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