Islamic Microfinance: A Missing Component in Ethiopia's National Strategy of Financial Inclusion

Islamic Microfinance: A Missing Component in Ethiopia's National Strategy of Financial Inclusion

Microfinance means  a program 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” (Microcredit Summit, 1997). The World Bank has recognized microfinance program as an approach to address income inequalities and poverty. Hence, microfinance can be used as a means for financial inclusions.
On the other hand  financial inclusion has defined as ‘the process of promoting affordable, timely and adequate access to a wide range of regulated financial products and services and broadening their use by all segments of society through the implementation of tailored existing and innovative approaches including financial awareness and education with a view to promote financial well-being as well as economic and social inclusion’ (OECD/INFE). Simply, financial inclusion refers to ensuring tailored access to financial products and services needed by low income individuals in particular and society in general at fair, transparent and equitable mode. 

The Relationship between Financial Inclusion and Microfinance

Financial inclusion is gaining momentum worldwide (Oji, 2015). In the developed nations, the concern grew after the 2008 financial crisis. In the developing regions, such as Africa, financial inclusion is one of the discourses in the development agenda. The G-20 summit in Seoul in 2010 decided that financial inclusion must be a global development agenda. Even 11 out of the 17 SDGs are supported by financial inclusion (UNSGSA, 2016).

Microfinance drives financial inclusion by helping the poor increasing access to savings and credit facilities.Many African countries, including Ethiopia, are using Microfinance as a means for financial inclusion as one of their national strategies. however, this does not work always. In a multi-cultural and multi- religious countries, adopting such strategies requires extra parameters. 

Islamic Microfinance

By 2020, around 1.9 Billiom Muslims live around the world. These population would require financial services tailored to their specific needs.  Ethiopia’s financial inclusion strategy should be reviewed in this perspectives. That is Ethiopia should adopt interest free/Islamic microfinance, because the national financial inclusion strategy has missed this big opportunity that help the country to address income inequalities and poverty, thereby facilitate the national development.


So what is interest free/Islamic micro-finance?

Islamic finance law is based on Shari’ah law. The Shari’ah law provides rules and guidelines for social, political, and economic undertakings in Muslim societies. The degree to which an individual Muslim adheres to Shari’ah law, led the introduction of Shari’ah-compliant banking and finance in many countries across the globe.


Given the failure of conventional microfinance to alleviate poverty, interest free/Islamic microfinance or charity based microfinance models have gained popularity in developing countries and especially in Islamic countries where the concept of interest free Islamic finance products appeals to the public, in general (Europe Economics, n/a ).

Interest free/Islamic microfinance provides a good alternative to conventional microfinance by providing collateral free and interest free loans to the lender. Microfinance has a higher potential than charity to make a long lasting impact on poverty alleviation and to enable people to be self-reliant, as it involves an element of trust in the potential and capabilities of people to help push themselves out of poverty. Islamic finance has an important role for furthering socioeconomic development of the poor and small (micro) entrepreneurs without charging interest (read: Riba’). Furthermore, Islamic financing schemes have moral and ethical attributes that can effectively motivate micro entrepreneurs to thrive.

The specific terms and conditions that make Islamic microfinance products more favorable and accessible to the most vulnerable populations:

• Risk-sharing: By sharing potential risks between investors and clients, Islamic microfinance becomes more attractive for borrowers who will not carry the full risk as compared to many conventional products.

• Profit-sharing: In Islamic microfinance, the lending institution is no longer a sole financier but becomes a co-owner of the business with a strong interest in its success.

• Fixed repayment rate: In line with the sharia, which prohibits any rate of return on financial transactions, Islamic microfinance products have a fixed repayment rate with no possibility of making profit through interest.

• Transparency: Islamic microfinance stipulates contracts with a fixed liability that is known to the customer upfront.

• Social welfare and justice: The ultimate goal of Islamic microfinance modalities is to ensure growth with equity for social welfare and justice. In line with this principle, sharia-compliant financing foresees that, in a context of default, the penalty is limited to no more than 1 per cent of the outstanding instalment.

So, Ethiopia is missing this oportunity simply because of lack of due consideration for the sector. Infact, if Ethiopia, with half of its Muslim population, is to attain middle income country in the fastest way possible, hence, should rethink about its financial inclusion policy with respect to "Islamic Microfinance" or "Interest Free Microfinance".