Islamic finance

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Islamic finance

Islamic finance: Awareness of microfinance in Saudi Arabia


Saudi Arabia, even as various could believe is a wealthy nation paradoxically has an elevated-implicit poverty problem. Such poverty could be related to a small degree of commercial interest also its conventional variance in phrases of a monetary guide. While currently being supported internationally, successful little and middle-companies (SMEs) have large possible to assist alleviates poverty. In Saudi Arabia, the SME area presently added much below forty% of the GDP with a financing diffusion rate of most effective 2%. To improve their presentation, these organizations ought to gain from the use of microfinance inventions. The primary goal of this research is to obtain the estimation of SME owners concerning Islamic Microfinance in Saudi Arabia and discover its possibilities closer to encouraging commercial hobby and therefore poverty discount. Facts have been received from semi-structured interviews performed with four CEOs or high-level management employees of various classes of MSMEs in Saudi Arabia. Based on a qualitative evaluation, this has a look at located that low get entry to finance is appropriate to unreasonable necessities, and that the interviewees are conscious of Islamic finance however not Islamic microfinance. The research shows higher courting among banks and MSMEs to supplement the trade and boom output.

Ch 1: Introduction


Microfinance is the source of financial services for entrepreneurs and small businesses lacking access to banking and related services. The term includes three things, namely microloans, micro-savings, and microinsurance. Dr. Mohammad Yunus, a noble prize winner, pioneered the concept in developing country Bangladesh to help the financially marginalized start a business by providing them the necessary capital and thereby allowing them to work towards financial independence. Dr. Yunus’s experiment stated with offering small loans, which he himself founded, to women in his country who were making furniture using bamboo as raw material. These women used to depend on loans from local lenders on unfair and predatory terms for financing the expenses of production. The loans being very small in amount were not honored by the traditional banks, but these loans made significant changes in the lives of these small entrepreneurs. Taking the initiative forward, Dr. Yunus established Grameen Bank in Bangladesh and brought opportunities and risk-management tools to the doorsteps of these poor people, most of them are women, who, when given a chance, not only repaid the loan but also created a viable business model. The Grameen Bank now serves more than seven million poor women in Bangladesh.

Several studies have shown that poverty persists due to the exclusion of the poor from the financial system. It is the financial exclusion that, in turn, prevents a large section of the poor population from taking part in the development process. With no access to the traditional financial system, these poor people find it extremely difficult to reap the benefits generated by economic growth. They cannot build assets, educate their children, and secure themselves from financial shocks. It is this financial exclusion that pushes them further into the vicious cycle of poverty.

The basic objective of microfinance is to alleviate poverty by removing this financial exclusion, create more jobs, and develop self-reliance among the population belonging to the lower strata of the economy. Inspired by the model from Bangladesh, many developing nations have attempted to replicate the model, but have faced multiple difficulties in achieving the level of success that Grameen Bank did. The majority of issues included the high cost of financing, women-only approach, and focus on financing economically active people only leaving chronically poor and destitute aside.

Although the movement of microcredit found its success in an Islamic country, most of the other Muslim dominated countries have not accepted the concept in its original form. The financial system in these countries follows Islamic finance which is based on the holy book Quran and Sharia law. The Sharia law specifically dictates not to charge any interest on loans and Quran forbids usury or Riba.

However, the requirements of the poor in Islamic countries are no different from that of non-Islamic states. They also need financial assistance to make expenses beyond their available means in mainly three categories of events: life cycle events, exigencies, and investment opportunities. In fact, poor people may need more than just credit. They require a gamut of financial services such as credit, savings, money transfer facilities, and different forms of insurance (Obaidullah, 2008).

Saudi Arabia is one of the wealthy Islamic nations in the world. However, the country is not devoid of its fair share of issues like poverty and unemployment. The Saudi government does not release statistics on poverty regularly. Hence, there is no concrete information on the overall poverty rate of the country. According to some outside agencies, as of 2017, its poverty rate stood at 12.7 percent (Lee, 2018). Different media reports and private estimates state that there are between two to four million people in the country who live life below $530 a month, i.e. about $17 a day. The majority of the poor are migrant workers. The World Bank projects an increase in the poverty level in the country. Owing to increased poverty, begging is very common in slums and what is more astounding is that majority of beggars are women. The most recent finding by the World Bank states that in 2014 more than 80,000 children were not unable to attend primary school (Gillespie, 2018).

Thus, there is scope for the inclusion of poor people in the mainstream of the Saudi Arabian economy using concepts like microfinance. But Saudi Arabia is a country driven by Sharia law, which forbids interest on loans. In this context, it is important to study whether there can be an effective counterpart of the practices of microfinance which is interest-based, in Islamic finance which is Sharia-based.

Research Question

Q1. Is there an efficient counterpart of the interest-based microfinance system in Islamic law?

Q2. Is the concept of microfinance helpful for the poor people of Saudi Arabia?

Q3. How can they be made aware of it and an inclusive financial system developed?

Aims and Objectives

The objective of this study is three-fold:

  • To find an efficient counterpart of the interest-based microfinance system in Islamic law.
  • To ascertain whether a concept like microfinance is at all helpful for poor people in Saudi Arabia?
  • If yes, how can they be made aware of it? If no, what alternative system can be devised to ensure an inclusive financial system?

Scope of the Study

The scope of the study is to consider a country like Saudi Arabia, its economic conditions, and the role of microfinance in uplifting its poor people.


The research is limited to the Islamic countries only with Saudi Arabia as its representative. The study restricts itself to the discussion of the relevance of microfinance in Sharia law-driven country with an Islamic financial system.

Ch 2: Literature Review

Islamic Finance Law

Islamic finance is dictated by Sharia law which originates from the Quran, the holy book of Islam, and from Hadith, a compilation of sayings of prophet Mohammad that are not present in the Quran. According to Encyclopedia Britannica, Islamic jurisprudence or fiqh is “the science of deducing and applying the principles and injunctions of Shari’ah, as well as the total of deductions by particular jurists”. Fiqh interprets and adapts Sharia law to make it applicable in modern life “according to time and circumstance is necessitated by changes in society, and the influx of various cultures and material conditions” at the same time ensures that the principles follow the writings of Quran. Islamic finance is based on the prohibition of riba, which is excess over and above the number of loans. Riba can be classified into credit riba ((riba’ al-nasi’ah) and surplus riba ((riba’ al-Fadl) (Az-Zuhayli 2006). According to Islamic law, no excess can be extracted neither from credit nor from surplus.

Imam Fakhruddin Razi in his book al-Tafsir al-Kabir states three reasons why riba is unlawful. First, it leads to an exploitation of borrowers by the lenders as interest or riba make the lender well off at the cost of the borrower. Second, interest or riba can become a source of livelihood for a group of people who may not be willing to undergo the hardship of earning money, as it is certainly easy to earn income merely by lending money. Lastly, the concept of interest is in contradiction to the ideas of mutual sympathy, human goodness, and obligation (Rahim and Rahman, 2007).

The Islamic Fiqh Academy made a resolution in the year 1985 which states the following:

  • Any excess or profit on a loan for deferred payment when the borrower is unable to repay it after the fixed period and similarly any excess or profit on a loan at the time of contract are both forbidden as riba in the Shari’ah.
  • Alternative banks should be established according to the injunctions of Islam to provide economic facilities.
  • The Academy resolves to request all Islamic countries to establish banks on Shari’ah principles to fulfill all the requirements of a Muslim according to his beliefs so that he may not face any repugnance (Rhule, 2016).

After this resolution, Islamic finance and banking expanded in many countries who wished to operate under these rules. Islamic finance is based on an alternative of riba, which is profit and loss sharing (PLS) arrangement. This arrangement is believed to be more equitable and egalitarian compared to the interest-based approach (Rahim and Rahman, 2007).

Islamic Microfinance

Despite the significant expansion of Islamic banking worldwide, the concept of microfinancing has not developed well in the Islamic states. Microfinance is an interest-based concept that leaves the majority of Islamic countries out of its realm as Islam does not support charging of interest on loans (Juliette, 2013). Bangladesh could witness the setting up of Grameen Bank in 1976 as the country is classified as “moderate Muslim” by the United Nations and does not follow Sharia law strictly. The legal system of the country is based on British Common Law rather than Sharia law (Yasmin, 2013).

As defined in the Microcredit Summit (1997), microfinance means “programs that extend small loans to very poor people for self-employment projects that generate income in allowing them to take care of themselves and their families” (Rhule, 2016). It involves micro-credit, micro-equity, micro-savings, micro-transfer, and micro-insurance. The primary objective of microfinancing is to alleviate poverty, create more job opportunities, and make the poor section of the population independent and capable (Rahim and Rahman, 2010).

Obaidullah (2008) in his work found that there is no fundamental difference or inconsistency between the models of microfinance and the Islamic values. The only thing that differentiates the two is the concept of riba involved in conventional microfinancing. But there is an opportunity to find alternative models of microfinancing that will allow the implementation of the concept in a Sharia-compliant manner (Obaidullah, 2008).

In his research Rahim (2007) discuses several Sharia-compliant microfinance schemes such as “Hodeibah microfinance program in Yemen, the UNDP Murabahah based microfinance initiatives at Jabal al-Hoss in Syria, Qardhul Hasan based microfinance scheme offered by Yayasan Tekun in Malaysia, various schemes offered by Bank Rakyat Indonesia, and Bank Islam Bangladesh”.

On the other hand, Ahmed (2002) has found several differences between conventional microfinance and Islamic microfinance. The following table will summarize these differences:

Items Conventional MFI Islamic MFI
Source of fund External Funds, Saving of Client External Funds, Saving of Clients, Islamic Charitable Sources
Mode of financing Interest-based Islamic Financial Instrument
Financing the poorest Poorest are left out Poorest can be included by integrating with microfinance
Fund transfer Cash gave Goods Transferred
Deduction at the inception of the contract Part of the Funds Deducted as Inception No deduction at inception
Target group Women Family
Objectives of targeting women Empowerment of women Ease of Availability
Liability of loan (which are given to women) Recipient Recipient and Spouse
Work incentive of employees Monetary Monetary and Religious
Dealing with defaults Group/Center pressure and threat G r o u p / C e n t e r / S p o u s e Guarantee and Islamic Ethics
Social development program Secula r (non-I s l a mic) behavioral, ethical, and social development Religious (includes behavior, ethics, and social)

Source: Rahim (2007)

Microfinance in Saudi Arabia

Saudi Arabia is known as a rich country but has undeclared poverty which is very high. An unofficial study by Tawfik El Seif (2013) revealed that there are almost 10 million Saudis who live below the poverty line. There is a severe mismatch of financial support to encourage entrepreneurial activities of the people lacking financial strength but with the zeal to achieve. It is worldwide proven that small and medium-sized enterprises (SMEs) have the most potential to support poverty alleviation. However, in Saudi Arabia, SMEs contribute merely less than 40 percent of GDP with a financing penetration rate of a mere 2 percent (Adewale, al-Jaafreh, and Osman, 2015).

The findings of Adeyemi, al-Jaafreh, and Osman (2015) are quite significant. They show that the terms of formal financing in Saudi Arabia are highly unfair towards small enterprises. In 2006, the government of Saudi Arabia initiated the Kafalah program through the Saudi Industrial Development Fund (SIDF) to “act as guarantor to banks for providing credit for SMEs” (p.63). The program was successful in providing a credit of around 950 million US dollars in 2013. Despite the success, it has been found that banks are mostly unwilling to offer funds to SMEs due to a lack of sufficient market and feasibility studies. This implies that there is a scope .............

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