islamic approaches towards poverty alleviation_spv&srv

8/20/2019 Islamic Approaches Towards Poverty Alleviation_SPV&SRV

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ومال دراسات مصرف

د د ن م

– 1433 J 2012

W

للمعاي

املصدرة

اهليئات

هلا

تتعرض

التي

الضغوط

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احملاسبية )دراسة حتليلي(-احملاسبية على قرار بناء املعاي

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א

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ض

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يف ختفيف آثاره املالية العاملية ودور التضامن العربزماا

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1 4 3 3

2 0 1 2

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Islamic Approaches towards Poverty

Alleviation: the Special Purpose Vehicle (SPV)

model & Sharia’a Retirement Village (SRV)

Putri Swastika

Kumara Adji Kusuma

منح يف السودانية املصارف وتصنيف داء لتقييم مقرتح

التمويل األصغر

1858 – 5949 ر

K ول

صغر يف السودا التحول يف صناعة التمويل األ

منح

يف

السودانية

املصارف

وتصنيف داء

لتقييم

مقرتح

التمويل األصغر


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BANKING & FINANCIAL STUDIESBiannually Refereed Journal Issued by Center for

Research, Publishing & Consultancy

Sudan Academy for Banking & Financial Sciences

Issue No. (19) (Safar 1433 H) /January 2012

Group of Discussants

The International Financial Crises and the

Role of Arabic Cooperation in Mitigating its

ImpactsSaef Alnasr Ibrahim

Commentary on:

Book Review:

Topics in this Issue:

ISSN 5949 - 1858

The Impact of Pressures Facing the Accounting

Standards Setters on Accounting Standards

Setting Decisions: Analytical Study

Dr. Abdalla Ibrahim Yousof Osman and

Dr. Elhadi Adam Mohamed Ibrahim

The Transformation in MicrofinanceIndustry in Sudan

Nawal Majzoub Abdalla Hamad

A Proposal for Evaluation and Rating of

Sudanese Banks Performance in Providing

Microfinance

Dr. Badr El Din Abdel-Rahim Ibrahim

Islamic Approaches towards PovertyAlleviation: the Special Purpose Vehicle (SPV)

model & Sharia’a Retirement Village (SRV)

Putri Swastika, Kumara Adji Kusuma

A Proposal for Evaluation and Rating of

Sudanese Banks Performance in ProvidingMicrofinance


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Islamic Approaches towards Poverty Alleviation

The Special Purpose Vehicle (SPV) model & Shari’a

Retirement Village (SRV)

PUTRI SWASTIKA (INCEIF)

KUMARA ADJI KUSUMA (INCEIF)


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i

Abstract

The perfection of Islam (Syumuliyatul Islam) has been empowering Muslims

to think beyond the secular minds. It is such due to the later limits itself by

segregating its follower minds between daily matters and values of a religion.

Meanwhile Islam empowers all who accept Islam as their religion by incorporating

the Islamic values in every juncture of life, thus no segregation between daily life

and values of Islam in the life of a muslim in solving everyday problems, including in

an effort to combat against poverty. Many empirical studies done has proven that

the recent financial crisis and economy recession which strikes the West (U.S. and

E.U.) resulted in growing number of poor, unemployed and homeless. Now, poverty

is not only the problem of developing world, but also the problem of developed

countries. Many studies have shown too that the current economy system that is

adopted, in which is alien to religion’s moral values such as justice, equity, and

brotherhood, is the cause of increasing number of the poor.

This paper used literature review to identify the problems, discuss the issue,

and seek out the findings. It is proposed that Islamic approaches in combating

poverty are through the Special Purpose Vehicle (SPV) as the bridging agent

between entrepreneurs and the Islamic Financial Institutions (IFIs) as the source to

capital fund. Another is the Shari’a Retirement Village (SRV) as the creative way to

empower senior citizens and a way to mobilize idle human resources. Idle human

resources means that those who are orphans, unemployed, homeless people, and

senior citizens-and-the retirements, in which these people still have the ability to

work and creativity to open new small businesses. Henceforth, the SRV is

intended to enable them to continue in contributing to the real-sector economy, as

like what Islam has been aspiring.

Key words: Poverty Alleviation, Special Purpose Vehicle, Shari’a Retirement

Village, Entrepreneurship, Islamic Banking, Islamic Microfinance


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ii

صا

ٍإن ِّ

يا ها يثو يٍ

ث ا ِ

اا ّا ّهػا ّػا رج هق

ّ

ِ

ا ّاو ٍّ

ّ

ا ّاصدخت ِ

واز ُ ٌه غ.ّؤا ّا ِ

ا ِ

ا ّ

ّغّصا ش ُ ِّ

ا ّا اد.إغل أ

ٍّ

ّ

ا اصّة ّ اٍ

ش ا ِ

ا ِ

ُ اػت ا ػ ذ و ٌ غِ

ا ّاو ا.واػت وادئ ارات ّة

ا اي ب اطد صا يدطا دا و مٍ

ّ

ا ّا زأ

ا نأ

خ اأ

ورو(اأ

ا و ُ ِ

أ

ا)غ ه

او ا تػ ُ ظ ٍ

ص د ِ

دزا.ا نإّاّ هإو ص ّا اػت

ِ

أ

ّػا واهطف. اول ا اِ

ا ّا سطث ا ت ِ

دطا ن أ

اِ

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ارات ا خأ

ا

ا ث ا ورا ةٍ

أ

او.ّا ِ

صث إ را ً ػ أ

ا ُ ضاػا ػ

ٌ

ّ

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ا ا ضغو ٌو.ّ

ًا اص ػ ا ث ل ا ُ شا ٍ

ا إن

ِ

ٍ

ا ّطر ّا و ؤت ِ

ا ّ و ةادأ

ثػ ا ا ا فاًأ

ا.ّ ى أ

ّا وا

ا ّر ا ذوي اة وا ةٍ

ا ةد ة ِ

غ ةرغ او اغ غا ِ

ػا ِ

ا ارد ٍ

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. ػا غ ّػاو مِ

أ

ا وأ

ا ػا ِ

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هػ

اػ واع س ت غ ٌارة ِ

ال ِ

ِ

او غا غ ّصا ا رو وىأ

ِ

داو

ة

ّ

.تِ

دطا ِ

ٍ

ّا ك ٍ

ّ ا ِ

اي ا ةِ

غ و ث تّ ا ً

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اًو

ّ

غا ة ٍ

أ

او ةاواو لػا ئد غ ا ّا ػِ

ا . ّو دئ ا ِ

ا نإ

ػا ً ش ّ ث غ ّت اغة ا ً دج واغة ِ

ا ن ٍ

ِ

ح

ا اً ػو ػ ٌثش.


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iii

Table of Contents

Cover Page

Abstract (English)………...…………………………………………………………......... i

Abstract (Arabic)………………………………………………………………………… ii

Table of Contents……………………………………………………………………….... iii

List of Table and Figures…..…………………………………………………………....... iv

1.

Introduction……………………………………………………………………

.... 11.1. Financial Crisis and Development Perspective……………………………… 1

1.2. Youth Employment in Islamic Countries……………………………………. 4

1.3. Social Role of Islamic Finance………………………………………………. 7

2. Discussion………………………………………………………………………… 10

2.1. Review of Existing Model……………………………………………………. 10

2.1.1. Indonesia……………………………………………………………..... 11

2.1.2. Malaysia……………………………………………………………….. 14

2.1.3. Bangladesh…………………………………………………………….. 16

2.2. Critical Review of The Three Models…………………………………………17

2.3. Special Purpose Vehicle (SPV)………………………………………………..25

2.3.1. Challenges of The SPV………………………………………………... 31

2.4. Shari’ a Retirement Village (SRV)……………………………………………. 32

2.4.1. Challenges of The SRV………………………………………………...36

3. Conclusion………………………………………………………………………… 38

Bibliography………………………………………………………………………………..42


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iv

List of Table

Table 1. Youth Unemployment in Selected Islamic Countries…………………………… 5

List of Figures

Figure 1. The World Population Pyramids……………………………………………...… 3

Figure 2. MFIs in Indonesia………………………………………………………………

.. 12

Figure 3. Mechanism of SPV as The Bridging Agent…………………………………..… 28

Figure 4. Mechanism of SPV as The Bridging Agent in Partnership Contracts ……………30


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1. Introduction

The recent financial crisis that hit U.S. and E.U. are expected to

sharply reduce economy growth globally and shift global economics

condition. Certainly, the crisis entails an increasing number of poverty and a

deepening to the current level of poverty in which it depends on the size of the

macroeconomic shocks that one suffers. Chen and Ravallion (2009) compared

the projected growth rate of consumption per capita (i.e. an expenditure-

weighted mean for the same set of countries), projected in 2007 for 2009

estimation, and post-crisis growth rate estimated on April 2009. It is found that

in 2007, the estimated growth rate of consumption per capita is 5.1%, while

for April 2009 it is only 0.7%. As comparison, The World Bank‟s forecast of

growth rate of consumption per capita pre-crisis was 5.1% for 2009. This

shows that the world‟s growth is in slow pace.

Moreover, the number of “working poor” is also increasing as the

result of the crisis (Habib et.al., 2010). As the global economy faces new

challenges and more attention is given to Islamic financial system as viable

alternative to current system, therefore, two issues are highlighted to

understand better the discussion of mobilizing idle resources towards

socioeconomic development. They are namely financial crisis and

demographic perspective, and social role of Islamic finance.

1.1. Financial Crisis and Demographic Perspective

The global financial crisis has proven to be the cause of deteriorated

labor market and economy recession. In the case of OECD i countries for

example, according to OECD‟s projections indicate that unemployment rate

among its countries will be increasing from 34 million in 2008 to 42.1 million

in 2010, and is believe to be the most rapid rise ever since 1990 (OECD,

2008). In minor perspective, take example of Spain. Aftermath of 2008 global

financial and economic crisis, the impact on the labor market, however, has

been much severe than in most of other EU countries. It is reported that, in

Spain, the unemployment rate stood at 21.3% that is over 13 percentage points

more than in 2008 whereby youth and workers with temporary contracts have


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been disproportionately affected by the increase (ILO, 2011). This has made

experts conclude that the world is currently in the eye of the hurricane with job

losses, financial market crashes, and losses in almost all asset classes, bailouts,

and bank failures – spreading lurking fear that it might be only the tip of the

iceberg (Ahmed, 2010).

The failures of “too big to fail” companies have also been affecting in

labor market. Besides that many have lost their jobs, supply of young

professionals is becoming abundant while lesser jobs are created. There are

plenty reasons for this to be happened. First is that many companies are out

from the market, making the demand for employee is not as much as before

crisis. Second, even if companies managed to stay, they are trying to increase

their level of efficiency in their activities, cutting their costs, and most

probably delayering their organization for the sake of efficiency and cost

reduction. Third, companies will prefer hiring “experienced” employee as

oppose to young fresh graduates that have zero experience in the business.

Hiring “experienced” employee brings advantage to the company as that

would help them to reduce the training and development costs, and achieve

their level efficiency of a company activity, as the “experienced” workers can

start working from the day zero. As reducing youth unemployment is an

exigent project, entrepreneurship can be the way out, as it promises to solve in

the demand-side; job creation.

Besides the impact of financial crisis towards deterioration of labor

market and economy recession, the population pattern has also shown that

youth is the main pillars to support the elder and care the younger. The

evidence has shown that today‟s world population pyramids and perpetually is

predicted to be in “rocket shape” in 2050 and 2100 – holding everything the

same (Figure 1). It implies huge implication for economics mapping, that the

world‟s economy will ultimately be dependent to the youth in order to

function properly. Young people have the obligation to support the upper layer

of pyramids and care the lower layer of pyramids. On 2006, more than 1

billion people are between 15-24 years and nearly 40% of the world‟s

population is below the age of 20 and it is estimated that 47% of all

unemployed persons globally are young women and men and 660 million

young people will either be working or looking for work in 2015 (ILO, 2006).


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As result, global labor market is occupied by the youth, thus making its

competition stiff. Meanwhile as the number of elder people is shrinking, the

number of experienced workers will also be shrunk. Coming back to Spain,

after 2008, it is reported that in Spain 45% of labor market participants aged

15-24 were unemployed in the first quarter of 2011 (ILO, 2011) while many –

most of them are from upper layer- have been given gold-hand shake from the

companies.

Moreover, the increasing number of population is not only occurring to

young people (> 15 years old) group, but also the number of senior citizen.

Though there is no exact standard for categorizing senior citizen, it is

commonly understood that senior citizens are those who have retired,

commonly in the age of 65 years old and above.

Figure 1. The World Population Pyramids

Source: United Nations (2011)

According to UN, the number of aging population (to refer senior citizen, -red)

is increasing perpetually. As it is delivered in 2001 UN Report that over the

next 50 years, the proportion of children (< 15 years old) is projected to

decline by almost one third, so that by the year 2050, the share of persons aged60 or over in the population will, for the first time in history, match that of


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persons younger than 15 (about 21% each) (UN, 2001). This prediction would

ultimately fetch economics problem as older people today are significantly

less likely to participate in the labor force than they were in the past. Another

social problem might also be coming from urban middle class where most of

them are potentially degraded to be working poor or even hardcore poor.

1.2. Youth Unemployment in Islamic Countries

Youth unemployment is defined as those unemployed between the ages 15

and 24. It is generally expressed as a ratio. The available data indicates the

scope of the youth unemployment problem in the Islamic countries. There are

more than 1 billion young people between the ages of 15 and 24, and 85 per

cent of them live in developing countries. Many of these young people are in

the process of making, or have already made, the transition from school to

work. According to the ILO, 160 million people in the world are unemployed,

and many more subsist on the margins of the economy or have jobs that do not

provide them with adequate means to ensure their survival. Nearly 40 per cent

of those without work are young people, and levels of unemployment tend to

be two to three times higher for this group than for the adult population. Forthose young people who are employed, many find themselves in low-paying

temporary jobs with few protectionsii.

Table 1 reveals that the youth unemployment is generally high in the

Islamic countries. The youth unemployment rates before the global economic

crisis were already high in Algeria, Albania and Tunisia, at this rate is high in

Turkey (25.28%) and lower in Bangladesh (9.27%). The youth unemployment

rates is low in Pakistan (7.73. %). The youth unemployment rate is higher than

the general unemployment rate, because young people have difficulties in

gaining access to the labor market and in finding jobs once unemployed.

Although young people tend to be unemployed for shorter periods than older

adults, the difference is not large enough to explain youth unemployment away

as simply a transition problem of frictional unemployment.

Another important feature of the youth unemployment in the Islamic

countries relates to its time trend. In general, the youth unemployment rates in


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these countries show an increasing trend over time, i.e., the problem appears to

be getting worse. During the last decade, the situation is deteriorating in

Indonesia, Egypt, and -although the youth unemployment problem rate is still

not higher than the unemployment rate- in Kyrgyzstan. The situation has not

significantly changed in Algeria, Burkina Faso and Pakistan but it has slightly

improved in Bahrain, Morocco, Niger and Turkey until recently. The

improvement has been generally due to decreases in birth rates and the share

of youth in population, and the diffusion of education and training

opportunities.

Table 1. Youth Unemployment in Selected Islamic Countries iii

Country Unemployment, youth ages 15-24 (%)West Bank 46.9

Albania 35.46

Tunisia 30.68

Saudi Arabia 28.24

Jordan 26.98

Turkey 25.28

Egypt 24.8

Algeria 24.3

Iran 23.01

Indonesia 22.2

Maldives 22.18

Lebanon 22.12

Morocco 21.88

Bahrain 20.12

Syria 19.09

Senegal 14.8

Kyrgyzstan 14.57Azerbaijan 14.44

United Arab Emirates 12.1

Malaysia 10.92

Bangladesh 9.27

Pakistan 7.73

Kazakhstan 6.7

Sierra Leone 5.15

Niger 3.16Qatar 1.62


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When the figures for the age composition (15-19, 20-24) of unemployment are

analyzed, the general picture is that, unemployment rates tend to fall with age,

which is true for the majority of countries. In some exceptional countries, such

as Germany and Turkey, the highest youth unemployment rates are recorded

for “young adults” (20-24).

Kyrgyzstan and Niger are among the few worldwide exceptional cases

(together with Germany, Cyprus and Central African Republic), which do not

have a youth unemployment problem (independent from the total

unemployment) i.e. youth unemployment rates are less than the total

unemployment rates in these countries. As a case illustrated frequently,

Germany operates a dual apprenticeship system offering a protected entry into

employment, and the ratio of youth to adult rate is typically right at 1.0. Ratios

are also relatively low (though above 1.0) in Austria and Switzerland, as both

countries operate systems similar to that of Germanyiv. On the other hand, the

exceptions from the developing countries can mostly be explained by the data

problem1. First of all, the information on unemployment for these countries

comes from the registered unemployment at the employment offices. It is to be

noted that the registered unemployment is likely to underestimate the scope ofyouth unemployment. These records mostly reflect only the cases of people

who are already in the labor market.

According to a survey on the Middle-East North African regionv, in most

countries, the unemployed are predominantly first-time job seekers. Those

entering the job market for the first time have very low tendency to go through

the employment offices. These people are likely to be active as hidden

unemployed in agriculture or active in the extensive informal sector. For

example, it was estimated that the informal sector constituted 76% of

employment in the urban Punjab area in Pakistan in 1984/85 vi. However, in

many countries, it is especially difficult to measure employment and

unemployment in agriculturevii and in the informal sector .

To précis, there is a need to reshape and innovate microfinance

industry in order to resolve the problem of increasing number of


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unemployment coming from young-educated population and urban lower-

middle class. In near future, young-educated population soon to be the

backbone of the world‟s economy, whereas its role is to support the survival of

senior citizen through high taxes while being the guardian for younger

generation. However, if this problem is remaining unresolved, it is not

impossible that the whole population will be endangered in near future.

Therefore, there is a need to stray from current practice of micro financing to

Islamic micro financing. It is believed that Islamic micro finance has great

potential to cater these challenges. Notwithstanding, it is a must to look at this

issue from Islamic perspective as out next discussion would be in the border of

Al-Maqasid Al-Shari‟a.

1.3. Social Role of Islamic Finance

Islamic finance is a part of an Islamic economic system in which is inspired

by Shari‟a. It is profoundly aimed to support the achievement of Al-Maqasid

Al-Shari‟a (the objective of Shari‟a) as the latter is the raison d‟etre of

Shari‟a. Thus the goal of the system is to realize the Maqasid al-Shari‟a

which should manifest in the economy as it enables growth and justice, and

ultimately the economic system would serve the interests of all human beings

( jalb al masalih) and to save them from harm (daf‟ al mafasid ) (Chapra,

2008). Nevertheless, Muslim scholars choose to define Maqasid Al Shari‟a

from different perspective (Dusuki and Bouheraoua, 2011). Al Ghazali defines

Maqasid by stressing the Shari‟a concern with safeguarding five objectives

that are 1. Preservation of faith, 2. Preservation of life, 3. Preservation of

intellect, 4. Preservation of posterity, and 5. Preservation of wealth (Chapra,

2008). Imam al-Shatibi defines Maqasid al-Shari‟a by emphasizing the

epistemological („aqidah) dimension that is;

“The primary goal of the shari‟a is to free man from the grip of his

own whims, so that he may be the servant of Allah by choice, just as he is His

slave [in matters about who he has] no choice.”

Thus, it is the regulation set by Allah Subhanahuwata‟ala to regulate human

beings action in order to attain his well being by the preservation the necessary


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elements of well being, that may be hurt by human himself as he follows his

whims. Notwithstanding, this brings impact to Islamic financial system as it

should also cater the Maqasid al Shari‟a where social orientation is embedded

in the system.

Two conditions can be identified as requirements of fulfilling maqasid

al shari‟a in Islamic financial transactions, they are: first, relates to the legal

aspects of transactions, second, relate to the social requirement (Ahmed,

2011). The legal aspect of transactions comprises the structure of products

which is an imperative for IFIs to have Shari‟a compliant products. Shari‟a

compliant means that the product should meet the principles of Shari‟a, that

for example, no riba transactions, no gharar-maysir, there should be

exchanged of value in the transactions, etc, whereby according to Dusuki and

Bouheraoua (2011) these rulings by Islamic law are aimed at realizing the

preservation of wealth in both material and socio-psychological dimensions.

Dusuki and Bouheraoua (2011) further continue by saying that Muslim jurists

have asserted that preservation of wealth is to be achieved in at least five main

dimensions:

(1) Preservation of wealth through the protection of ownership;

(2)

Preservation of wealth through its acquisition and development;

(3) Preservation of wealth from damage;

(4) Protection of wealth through its circulation;

(5)

Preservation of wealth through protection of its value.

Align with that, Kahf (2006) in Ahmed (2011) asserts that maqasid at the

transactions level are achieved by fulfilling the underlying objectives of

exchange envisaged in Islamic law which include upholding property rights,

respecting consistency of entitlements with the rights of ownership, linking

transaction to real life activity, transfer of property rights in sale, prohibiting

debt sale, etc.

Second aspect of fulfilling Maqasid Al-Shari‟a in Islamic Financial

transactions is the social requirement. Social requirements depart from the

beliefs of Islam that encompass all aspects of a Muslim‟s life, determining the

articles of their faith and the relationships between man and God, betweenhuman beings, and also determining third moral and behavioral code as well


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as giving the framework for their daily activities (Ahmed, 2010). Therefore,

fulfilling this second aspect is not merely doing corporate social responsibility

activities. Furthermore, according to Ainley et.al. (2007) in Ahmed (2010),

Islamic financial framework stems from the principles developed within:

(1) Emphasizing fairness. This is reflected in the requirement of contract

agreement that any information should be disclosed, any closure will

automatically nullify and make the contracts become void.

On macro-economic level, this aims at social justice and the economic

prosperity of the whole community by eliminating adverse selection and

moral hazards of an economic man.

(2)

Encouraging and promoting the right of individuals to pursue personal

economic well-being, but makes a clear distinction between what

commercial activities are allowed and what are forbidden.

Here, anyone is given the same opportunities and access to formal

financial market and any activities of institutions that are detrimental to

society will be prohibited and thus any contracts or transactions related to

harmful activities would be void.

(3) Prohibiting riba.

This prohibition of riba makes Islamic banking developed mechanisms to

allow interest income to be replaced with exchanging values or assets

whereby cash flows from productive assets could give returns to capital

owner from wealth generating investment activities and operations. These

include profits from trading in real assets and cash flows from the transfer

of usufruct (i.e. the right to use an asset), for example, rental income

(Bahrain Monetary Agency, 2002 as in Ahmed, 2011).

Furthermore, the discussion of social requirements in Islamic financial

transactions under the shed of Maqasid Al Shari‟a is not only within the

border of examining IFIs contribution in social responsibilities activities,

but also on the vision of socio-economic development. All principles of

Shari‟a mentioned above do have direct impact on elevating the social


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well-being, and ultimately closing the social gap between the rich and the

poor. Nevertheless, overtime, due to the influence by the dynamics of

political and socio-economic circumstances, it is said that the implicit and

explicit intentions and goals change and affect the nature and structure of

Islamic finance and IFIs that exist today. Thus, as micro finance share the

same vision of eradiating gap between the rich and the poor, it has the

potential to be the saving grace of Islamic finance and rationalize its

existence beyond legal stratagems to provide a coherent picture (Sayd

Farook, n.d.).

2. Discussion

This research is intended to develop a microfinance model which

comply to Shari‟a in which it does not only mobilizing savings at the banks

and granting loans to the poor, but also to mobilize all idle resources in the

society, such as Islamic charities ( zakat, infaq, awqaf ) and to empower

unemployed people. To start, a brief review on the existing models is pertinent

as a departure point to understand the strength of the existing model. Second,

critical analysis of the existing model is done particularly under the three

perspectives namely the significance of the model in eradicating poverty,

sustainability of gender-based business model, and lastly ended by the Shari‟a

perspective. Critical analysis is intended to attain shortcomings of the existing

model in order to construct a new model concept which not only inherits the

strengths but also t overcome the shortcomings of the existing model under the

three areas mentioned. In due course, the suggested model is pronounced in

the following subsection. All of these are done by employing literature review

as the methodology of this research.

2.1. Review of Existing Model

To begin, it is imperative to review the current practice of micro

financing in three different countries, namely Indonesia, Malaysia, and

Bangladesh. The models applied in these countries are not only famous on

their success stories of alleviating the poor condition, but on top of that, these

models are applied in countries where the population are majority Muslim as

such they share nearly-the-same virtues and hold a strong believe to stand for


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Islamic rulings. Moreover, the number of Muslim population reflects the

potential market for IFIs to serve. Therefore, understanding the existing

models that are applied in these three countries is pertinent before developing

a new model concept.

2.1.1. Indonesia

In Indonesia, it is recorded that there are over 50.000 microfinance institutions

(MFIs) in which some of them are established for more than 100 years ago. This

reflects that at least two major points; first, it reflects numbers of working poor

that need to be served in which it implies the potential market of the MFIs; and

second, it reflects that Indonesia is a country which is extensively dependent on

the real sectors economy in which financing the micro has been the main focus of

government for some time. The MFIs have various aim of their existence, as some

aimed at promoting rural credit subsidies and some aimed at fostering independent

commercial financial institutions. The history of MFIs in Indonesia can be traced

back to colonial era, where the Dutch established a series of banks. These banks

were later forming the People of Indonesia Bank or Bank Rakyat Indonesia (BRI)

in which it became the spearhead of the micro finance movement in Indonesia.

Despite the influence of colonial government, the growth of Indonesian‟s

micro finance had just flourished on the 80s and in the 90‟s; the alternative

financial services had born remarked by financial deregulation policy of the

government. The alternative financial services were based on various forms of

banking arrangements, cooperatives, mutual benefit societies and solidarity

groups, whereby the overall objective was to accommodate the needs and

capacities of population groups which until then had been denied access to

traditional types of financing (The World Bank, n.d.). The poor exclusion from

financial system has caused them to have lack of working capital and investment,

hence they could not grow. The poor exclusion from financial system has caused

them to have lack of working capital for their businesses; hence their small

businesses would be difficult to expand.

There are at least two grounds that are analyzed for the poor exclusion from

financial institutions. The first is that the poor are lacking of record history of

financial services. In addition to that the poor also lack of physical collateral as

such any commercial financial institutions will have less interest in serving the


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poor. Together, lack of history and collateral, will represent the high credit risk of

the poor perceived by the financial institutions. Second is the problem of financial

illiteracy amongst the poor due to lack of education amongst themselves causing

their low self-esteem amongst society in general. These problems are realized by

the government; as such the recuperative action was taken. The MFIs were then

allowed to set their own interest rates on most loans and savings account, and

PAKTO 88 (and its continuous amendments) liberalized restrictions on opening

new domestic banks and bank branches and encouraged autonomy and

competition in banking industries. The later resulted in hundreds – even thousands-

of MFIs birth both private and public sectors, for profit and non-profit status. As a

result, today there are 54,444 units of MFIs, banks and non-banks, and are serving

9,479,268 creditors with credit as much as Rp. 28 trillion. Robinson (2002) then

declared that this fact of history has made Indonesia as the home of the world‟s

largest financially self-sufficient micro banking system and many smaller

commercial microfinance institutions. Figure 2 shows the types of MFIs in

Indonesia.

Figure 2. MFIs in Indonesia

Source: Ismawan and Budiantoro (2005)

Despite the big numbers of MFIs in Indonesia, many of them could not sustain

in the industry, many are still survive yet less aggressive movement and programs

are done due to the limited capital have. These kinds of MFIs need to be

subsidized by third party such as local government to survive yet it is not

sufficient for them to become healthy and independent by the third party‟s source


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of funds. Often, they become politicized by certain party to win the vote of the

society. Robinson (2002) noted that one of causes of failure of LDKPs of Western

South-East Nusa district were subject to political pressures from local politician or

state leader. Furthermore, other shortcoming is the lack of management skills and

leadership. Management skills among the leader of non-formal MFIs,

cooperatives, and BPRs is critical for the development of their leaded organization

as well as is imperative for the successful of their mission. Good management

matters as it promises transparency and accountability of people money they used.

Depart from that, the phenomenal success of micro financing practice was

done by BRI Unit Desa after being “rejuvenated” in 1984. It is the establishment

of BRI which is regarded as the beginning of Indonesian rural banking. It was

firstly meant to help indigenous people (pribumi) out of debt from Chinese

moneylenders and loan sharks. It is later reorganized into a cooperative

organization, thus enabling this institution to serve segments of the population

which had not being served by the formal commercial sectors. However, BRI

attracted world‟s attention through its Unit Desa achievement. The

achievement was because BRI has successfully transformed BRI‟s Unit Desa from

loss-making unit to profit-making unit, proved the world that BRI Unit Desa can

be sustainable and viable with the poor. It is recorded that in 2000, through its

KUPEDES program, BRI Unit Desa yields profit of 1,160 billion rupiah with only

1.9 percent of long term loss ratioviii. This is indeed a huge achievement for

them, as history records that in 1983 (when it first launched to support BIMAS

programix), it suffered from loss -12.6 billion rupiah and 55 percent default rate

in wet season.

BRI‟s Unit Desa was revamp and began to transform from the loss-

making institution to sustainable microfinance institution through KUPEDES

(Kredit Umum Pedesaan or General Rural Credit). In essence, KUPEDES is a

general-purpose individual loan instrument whereas the underlying activities (or

consumption) must exist and mentioned by the applicantx. Credit officers will then

have full authority to assess credit worthiness of the applicant. It is identified that

KUPEDES could receive success due to its characteristics namely attractive loan

pricingxi, relatively small loan sizexii, incentive for prompt paymentxiii, and

relatively short maturity termxiv

.


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Notwithstanding, KUPEDES‟s commercial success also demonstrated the

greatest triumph of micro financing as it is proven that poor households can be

reliable bank customers. KUPEDES was a commercial financial institution which

was meticulously designed by involving all necessary elements of study, from

financial product developer to anthropologist, in order to understand the needs of

market and the characteristics of market. It has succeeded to re-model the overall

orientation of micro financing, from non profit to commercial mindset in which it

proves that micro financing is commercially appealing to commercial players and

investors. Moreover, credit should also be given to overall performance of BRI

Unit Desa in which despite the crisis, their system has managed to control,

continue to grow, and ensure that the program working. This resulted their

financial ratios reflected the soundness of their business. It was indeed improved

after 1998, when the financial crisis reached its deepest (Lieberman et.al., 2007).

BRI Unit could set off the insolvent BRI due to its poor portfolio investment and

thus salvage BRI from bankruptcy and merger.

2.1.2. Malaysia

Malaysia may be the wealthiest country in the study using GDP comparison.

In comparison with Indonesia and Bangladesh, it is recorded that Malaysia has

the highest GDP (real growth rate) at 7% in 2010, whereas Indonesia and

Bangladesh have equal number of growth rate; 6%xv. In 2009, number of poor

household counted as much as 3.8%% out of 6.2 million households, or as much

as 228,400 households can be classified as poor (according to government‟s

standard). In 2010, it is relatively small in comparison with Indonesia and

Bangladesh in which it has 13.3% and the later has 40% (2005 census) out of

each total number of populations. As such, The World Bank 92011) classifies

Malaysia as Upper Middle Income nation, where Indonesia is being put under

“Lower Middle Income” category and Bangladesh as “Low Income” countr y.

The history of micro finance was begun in 1971 when Malaysia Prime

Minister, Tun Abdul Razak, set up NEP (New Economic Policy) to combat

against poverty in Malaysia. The program was mainly intended for the Malays

ethnic group only (or known as well as Bumiputera) in order to close the gap of

welfare between the Malays and the immigrants, particularly the Chinese who

were controlling the country‟s economy. The program was also including:


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improving income and productivity of Malays agricultural producers, and

opening more access to basic amenities and the quality of life of low-income

householdsxvi, including the settlement of FELDA (Federal Land Development

Authority) in which the government resettled the poor Malays to a new prepared

land in order to cultivate rubber or oil palm at the destination area. As the number

of Malays poor people was decreased and overall economy was better off,

Malaysian government then begun to develop programs focusing on hardcore

poor xvii. Together with the other programs, AIM ( Amanah Ikhtiar Malaysia) also

plays continuously important role in supporting government‟s agenda of

combating poverty.

AIM is a government program to finance the poor with the objective of

poverty eradication. To reach the objective, AIM adopted Grameen Bank ‟s

approach to reduce number of poor in the rural area by granting more access to

micro-credit (AIM, n.d.) . It was firstly established in 1987 in north-western area

of Selangor state involving 373 poorest households which comprises 232 male an

141 female, whose received their first welfare loan. The result of the credit was

90% of repayments were made including the loan capital and cost of financing,

i.e. only 10% NPF (Non Performing Financing) were made. This was considered

a success for AIM and believed that the program should be carried on in a greater

scale in order to achieve the goal. It was analyzed that AIM‟s success was due to

the attribute of the program in which it does not need physical collateral or a

guarantor or legal action for obtaining repayment. It was also stated that AIM is

free from fraud as it used tax-payers money, subsidized program from the

government.

AIM practice of “group-based-lending” is similar to Grameen Bank in

Bangladesh. AIM substitutes financial collateral with non-physical collateral such

as peer-pressures as social collateral and reputational collateral of the borrower to

the group. The group-based-lending is a concept in which it ensures the members

of the group constantly and continuously repay the loan/financing via peer

monitoring. Peer monitoring will give a pressure to the borrower who is the

member of the group to repay the loan/financing. Another important feature of

group-based-lending mechanism is potential to reduce transaction costs in credit

delivery and disbursements (searching, monitoring, and enforcement) of the

lender by shifting onto the groups (Dusuki, 2008). Nevertheless, AIM has a


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centre meeting which is compulsory for all members to meet every week. The

centre meeting is vital as the program can be evaluated, monitored, and thus can

guide members throughout difficulties of the members, in which it will eventually

guarantee the success to all members (AIM, n.d.).

Although AIM adopts concept of Grameen Bank (GB) in Bangladesh, there

are few things that distinct AIM with GB. GB was initiated by its founder, Prof.

Muhammad Yunus, to lend out money to selected poor using money obtained

from his pocket. As the movement grew, Prof. Muhammad Yunus and few of his

students started to mobilize the repayment funds and opened saving accounts to

lend more poor people in the village. This nature is in contrast with AIM, as it has

full support from the government and educational institutions to run the program

– making it as a fully subsidized program. The source of operating funds is

coming from government grants and soft loans from third party such as Islamic

Economic Development Foundation of Malaysia, and Asia-Pacific Development

Centre, and state government and management fees (or administrative charge) in

which some say that the rate of management fees is as high as the interest rate. It

is the only microfinance institutions that are under reviewed, yet in the surface,

no interest-rate charged mentioned as it claims to be Shari‟a compliant. This is to

ensure AIM‟s donators that concern on Shari‟a prohibition of interest.

2.1.3. Bangladesh

GB (Grameen Bank) is mostly the most famous of micro financing institutions

in the world. It gains more of the world‟s attention especially after the founder,

Prof. M. Yunus, won the Nobel Prize in 2006 due to GB efforts in creating

economic and social development from below; that signifies a key to create

peacefulness in the world. GB is also often called the bank of village as the word

„Grameen” means “of the village”. Although the movement was firstly initiated in

1976, it became an independent bank in 1983 under special law that was passed

for its establishment. It gives loans to the rural poor, especially women who make

up around 97% of its customers. This is then called as Grameen type microcredit

or “Grameencreditxviii” by Prof. Yunus. Although microcredit generally shares the

same purpose, i.e. the disbursement of money as loans to targeted selected poor

people, Prof. Yunus claimed that Grameencredit is unlike with other “types” of

microcredit due to its distinctive features.


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Grameencredit has a simple mechanism in nature. It is based on five people

who are voluntarily forming small groups. This small group is intended to make

supervising and monitoring activity easier while it is simultaneously ensuring free

adverse selection and moral hazard members in the group. The small group has

also effective peer pressures, which then known as “social” collateral. Social

collateral does not imply that the group shall bear the loans of the member when

the member could not satisfy his/her obligation. Yet, social collateral signifies

that the group ensures that the member fulfills his/her obligation, otherwise the

other members would not be able to obtain a loan before his/her repayment.

Grameencredit works under the assumption that the borrowers will use the

proceed to viable income-generating activities, instead of consumption act ivities.

This assumption might be true as it is based on GB‟s record which found that

women are proven to be astute entrepreneurs. Subsequently, the loan is given

after potential borrowers and theirs projects are chosen with repayment scheme of

50 weekly installments. Furthermore, GB provides not only microcredit service to

its borrowers, but also saving services.

Despite its success, there are numbers of people doubting on GB success of

attaining the goal. Some criticized on high rate of interest charged for the poor,

burdensome weekly installment, fraction created in group-based-lending which

disunity the village, and many other criticisms. These concerns are not without

evidences. However, as it was informally initiated in 1976 and attains its legal

establishment in 1983, GB has been serving more than 7 million borrowers

members (2008), or 4.8% out of total population of Bangladesh in 2008xix. GB

success is not only due to its commercial success that is proven by profit up to

USD 1.56 million in 2006, but also due to its success in improving the quality of

life of the poor, and most important achievement is empowering women which

are proven to be economically feasible and proficient clients in repaying credits.

These all resulted in one goal that the poor then have the capital and invest it in

productive activities, creating more small enterprises in the village.

2.2. Critical Review of The Three Models

In this section, the three models, which are taken from three countries above,

is critically reviewed employing literature review. In order to make a concise and


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relevant critical review to the development of Islamic microfinance, Shari‟a

aspect of these three models is also pondered. To avoid redundancy in the

discussion, this review is discussed not based on countries but based on three

aspects of discussion. First discussion is based on the significance of the model to

eradicate poverty. Here, the significance of being sustainable without being

mission drifting, viability of self-sufficient or fully-subsidized organization,

would like to be pointed. Second, on the significance of being gender-biased,

would the MFIs be sustainable by being gender-biased? Would there be any of

effect of focusing only to a certain gender? Thirdly, the discussion will be on the

shari‟a aspect, as many of MFIs employ interest-based lending, which is

incompliance with Shari‟a.

Model to Eradicate Poverty

It is important to review the significance of these three models in alleviating

the burden of the poor. Nevertheless, one must understand and well known to the

object of the discussion. To synchronize the idea, it is pertinent to briefly define

the word “poor” by taking general measurement of poverty in this discussion,

without leaving respect to countries definition and measurement of poverty.

Depart from this; the discussion of MFIs mission drift would be embarked.

Figuring the appropriate model of self-sufficient or fully-subsidized institutions

using the assessment of the reviewed model is done in the following section.

The phenomenal success of BRI Unit Desa, AIM, and GB in micro financing

industry has proven to the world that the poor are also commercially potential

customer or financial services. The poor are indeed can be reliable customers –

promising a significant return, lower risk of NPL than any customers segment,

building a good long-term customers based on strong foundation of trust, and

moreover serving the poor could bring extra benefit for positioning of the IFIs;

depicting good portray of the IFIs concern of their social role in the society. The

later would result in customer loyalty of other segments due to their virtue, ethical

values, and individual attachment to the society. The working poor would also

enjoy the advantage of more capital used in their microenterprises and

investments. As the microenterprises become larger, the entrepreneur will be

likely to continue their relationship with the IFIs and ultimately the IFIs willenjoy loyalty from customers which reduce transactional costs, and minimal


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adverse selection and moral hazards of the clients. Ultimately the poor would

ashtray away from poverty, and the IFIs would earn tantalizing profit. To be

successful, what to do is to find the suitable model to serve the poor.

Nevertheless, a question aroused, who is the “poor”?

It is often said that the poor are those who are deprived and are seen to be lack

of resources to meet their needs. Ravallion associated “resources” as food energy

intake with requirement of 2,100 calories per person per day as the threshold of

needs of an individual (Ravallion, 1994 in Pradhan et al., 2000). This

measurement might imply that the poor are often associated with famine and

malnutrition. However, this poverty measurement could not be a good universal

measurement as in some part of the world; the poor can also arrive to the caloric

standard by eating the cheapest possible sources of calories while the people are

still deprived in carrying out their need. For example, the poor in Indonesia still

can eat 2,100 calories per day by consuming dried-chopped cassava (tiwul) but

living in improper shelter, bad sanitation, lack of clean water, and poor health and

education. Embark here, the conventional view of “resource to meet the needs”

then shift to monetary terms. It is then used the unit values for food price

estimation, not calories, plus with non-food expenditure which is calculated as

equal as the amount of spending in food. Poverty is then measured by comparing

individual‟s income or consumption with defined threshold by authority. This

measurement is more flexible than the later, as income and consumption do

reflect the welfare of an individual. Nevertheless, should be noted that the

difference in threshold makes disparity in measuring poverty. Each nation has its

own threshold of income and consumption, yet majority of nation are holding

the food plus nonfood poverty line. Acknowledging that, the threshold of the

hardcore poor (or absolute poverty) set by World Bank is used here. World Bank

defines hardcore poor (or absolute poverty) as people living on less than US $

1.25 (Purchasing Power Parity) per day, and moderately poor as people living on

less than US $ 2 a day.

Coming back to the discussion of three models (BRI Unit Desa, AIM, and

Grameen Bank), the customer profile of three models need to be reviewed.

Starting from BRI Unit Desa, according to BRI Annual Report in 2001, regular

BRI Unit Desa borrower‟s average monthly regular income is Rp. 495,731 ($

55,22 or $ 1.84/day); with average total business assets reaching to Rp.


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49,482,056 ($ 5.512,09). This implies that BRI Unit Desa borrowers, in average,

are moderately poor people or economically active poor. Moreover, in terms of a

general portrait of the respondents, the most dramatic differences are between

regular KUPEDES borrowers who have a viable enterprise and respondents

without a viable enterprise who had never borrowed from a BRI Unit (20.7

percent vs. 3.8 percent), widowed (14.8 percent vs. 3.8 percent), over 60 years of

age (42.6 percent vs. 21.0 percent), did not complete primary school (37.1 percent

vs. 17.8 percent), and cannot speak Indonesian (25.0 percent vs. 7.0 percent). The

first and the later shows that KUPEDES has successfully attract the working

poor in rural area, and empower widow and encourage senior citizen to

becoming more independent from the society through micro financing. Two

conclusions are reached; (1) this model is appropriate only for working poor

(economically active poor), and (2) this model could not be used to empower the

hardcore poor, thus the hardcore poor remain to be served by money lenders or

worse – loan shark.

However, it is not an easy task to find the customers profile of AIM and GB.

Taken from Grameen‟s website, Grameen Bank only depict borrower‟s success

story, while the general overview of customer profile could not easily be found.

The only information known is that 97% of Grameen Bank‟s members are

women. Portray of borrower‟s success story was to promote the products of

Grameen Bank. One of the success stories is Begum‟s story, promoting the

struggling (beggars) member program. Moving to Malaysia, to find customer‟s

profile of AIM is even harder. The only valid and reliable information found

is from AIM website about basic qualification of AIM Members. To become

AIM Members, someone must show that his/her household income must be

below the current government‟s poverty line (RM 800/month or around USD $

228/month). As AIM is known to replicate the model of Grameen Bank, the

participation rate of female members is higher than male members. It is recorded

that the rate of repayment among female members is 95 percent, while the male

counterparts is only at 75 percent.

The importance of “who the borrowers are” is to identify the significance

contribution of the model to its objective of eradicating poverty. The propaganda

of GB, for example, mentioned many times of 97% of its members are women.

But gender is not (and could not be) the only information we need to measure the


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success of a model, as a model is said to be success when the model reach

significant percentage of objective‟s fulfillment. It is because the raisons d‟etre of

these three models are to ambition and eagerness to eradicate poverty by serving

financial services to the poor. But as these three models grow, their commercial

success has also “successfully deviated” them from their reason of existence.

Robert Cull et al. (2009) also mentioned that the lack of sharper data on the

poverty levels of customers limits the broad conclusions that can be drawn with

confidence, and the evidence lags far behind some of the rhetoric on the potential

for microfinance to reduce poverty. One or two examples of fascinating success

stories should not stray our focus to appraise contribution of models to its

objectives. The constant appraisal on “who the borrowers are” will also help the

MFIs to stay focus in the industry without being mission drifted by shareholders

pressure.

It is true that pressure from shareholders might have impact on the

performance of MFIs. Full-subsidized MFIs, for example, would be most likely

to be driven by political agenda of leaders in charge, straying MFIs from the

track to eradicate poverty to the track to gain more support for particular political

parties or leaders. On the other side, self-sufficient MFIs might be free from political agenda, but should balance from pursuing commercial objective, i.e.

profit, and reaching the poorest. Debates on the extent to which trade-offs

exist between pursuing profit and reaching the poorest customers is ongoing. The

concern is that efforts to reach a significant scale by securing financial

sustainability may lead to a tendency to provide larger loans to less poor clients

and to employ stricter loan screening procedures (APPG, 2007). BRI Unit Desa

and Grameen Bank are examples of successful self-sufficient MFIs, but lack of

evidence that it has reached the poorest of the poor. From its annual report, BRI

Unit Desa shows that their model is appropriate for people living in moderately

poverty. Grameen Bank, however, claimed that they have succeeded to reach the

poorest, yet there is lack of data and information on their average typical

borrowers. Public only knows that Grameen Bank serves the poor, but how poor

is the poor they are served is unknown. Moving to Malaysia, AIM is the

example of full-subsidized MFIs and most successful credit and anti poverty

programs in the country, whereby it is heavily dependent to government. In


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Malaysia where the deliveries of development inputs are already highly

politicized, government provision of funding can impinge upon AIM‟s political

neutrality and autonomy in credit delivery (Nair, 2010). Of course it is not good

news for MFIs in which its mission is noble. Henceforth, if such of data exist, it

could be used as weapon for MFIs to evaluate their products, and if they are

succeed, they could eliminate some hard criticism thrown to MFIs, especially to

commercially-successful MFIs.

Gender Biased

GB is the pioneer of microfinance institutions in which targeted women as

their market. Due to the success story, the model is being replicated to all over

the world – including AIM. It is noted that majority of GB and AIM clients are

women. Many studies have shown that women are characterized by its

dedication to family that they are eager in improving the living standard of the

family and also known as astute entrepreneurs. Women are diligence and

discipline borrowers as based on past recorded history; their repayment rate is

higher than men. However, there are some uneasy allegations sent to GB, while

other institutions – particularly who adopted GB model- should be alert and

aware of.

In 1999, Aminur Rahman, an anthropologist, examined GB‟s success and

failures by utilizing four distinct bodies of scholarship to enable his ethnographic

assessment. They are namely: “public” and “private” texts of James Scott and

tools of subversion in hierarchical structures; Bourdieu‟s “practice theory”;

Gramscian hegemonic theory; and Amartya Sen‟s theory o f “entitlements”.

Rahman utilizes these theoretical insights to address the hegemonic nature of

patriarchal ideology in Bangladesh, and the ways in which it permeates Bank

client (i.e. women), client-client, and intra-household interactions; the

everyday subversions used by women in a process that often infantilizes

them and reproduce hierarchical social relations in which their entitlements are

minimal and the ways in which GB ideology adjusts to the “practical reality of

the field” (Chowdhry, 2000). To keep the discussion brief and concise, Rahman

further concludes that “loans alone (which are also debt liabilities), without

viable opportunities for women to transform the power relations and create theirown spaces in the prevailing power structure, make equitable development and


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the empowerment of women unattainable in society.”

GB initiative to serve poor women in rural areas of Bangladesh must be

appreciated; above all the objective of GB is to eradicate poverty. Yet, the

tendencies of serving only the women might raise the issue of social imbalances.

In Bangladesh where society acknowledge patriarchal norm, sudden focus to

women‟s “empowerment” creates a reverse reaction from society. Society

become reluctant to the idea, and if they not, society put pressure to the

women‟s to balance their “business activity”, hus band and their children. Social

imbalances is created not by women‟s human right must be erected, but by the

hard pressure to repay the loan (weekly), managing business, serving husband,

and taking care of children (without taking into account their participation in the

center meeting). Furthermore, it is found that women participating in credit

program are likely to receive more violence, as the husband was beating the wife

and threatening to ask for further dowry payments if she did not bring in more

credit (Hunt and Kasynathan, 2002). This implies women at GB may enjoy their

economic empowerment, but they would be infantilized in social and

political empowerment. It is not only the men (or society in general) who needs

to be educated on gender equity but also the women‟s mentality to accept the

new role given to them in the society. When the women are not mentally-

prepared for the pressures, psychological distress would be harmful for them

(and their household) and destroy our objective to see the society improving their

selves. Thus, to receive good reception from patriarchal society, promoting

gender-equity while the noble objective to eradicate poverty is the main focus,

there should be no gender tendencies in giving loan, i.e. both poor men and poor

women should have the access to financial services, and to whom money lenders

should give loan should not be based on gender, but based on individual‟s

determination-motivation-and his or her plan for business/investment to move

out from poverty line.

Shari‟a issue

Among all aspects, one might be obvious that, the discussion on interest

(riba) would be discussed here. It is obvious that three models above allow the

practice of riba, though AIM may use different term, i.e. administrative charge,

to replace the word riba. The practice of riba to assist-empower-and-improve the


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poor might be impossible, as riba will only create more burdens for the poor. In

the eye of Shari‟a, riba will only create social injustice, whereby poverty would

be impossible to alleviate if there is social injustice exist in society. It is so

because social injustice is indeed the main cause of poverty. It is social injustice

which excludes the poor from financial services. And it is social injustice which

creates segregation between the rich and the poor, thus the wealth is

never healthy circulated. Thus, practice of riba in these three models would not

be advantageous for the poor. Indeed, unconsciously, it creates debt trap for the

poor.

Notably, microfinance industry is characterized by high transactional cost,

and high credit risk. Both financial institutions and poor clients face high

transactional cost due to high asymmetrical information problems, which

naturally appear in the financial transactions (Dusuki, 2008). Transaction

cost relate to cost of searching, monitoring, and enforcement costs, due to

inability to know the ability of the poor in meeting future obligations,

whereby previous credit history is unknown, and only for small sum of loans.

Furthermore, high credit risk does not occur due to the poor inability to provide

collateral, nor guarantor, thus leaving MFI is exposed by the risk of defaulting.

Nonetheless, some banks also dislike the nature of business risk of certain

industries, such as agricultural or livestock, which are seen to be vulnerable

due to its dependence to the nature (flood, drought, livestock disease, etc).

Thus, a common response for MFIs facing high costs is to raise interest rate, at

least to levels much higher than bank charge (Cull et al., 2009).

Some scholars have been addressing this problem, that high interest rate

charged is exploitative-in nature and cannot be justified in any means. Some

justifications for this pract ice are often, first is the comparison between interest-

rate charged by MFIs and other non-formal money lender or loan shark, second

is providing financial services to the poor could not be cheap. The first reason

often used as propaganda for MFIs in promoting their programs. Cull et al.

(2009) mentioned that it holds that small loans are costly for banks to administer

but that poor households can pay high interest rates. The evidence is that the

poor could meet their obligation to moneylenders where their annual interest rate

charged is over 100 percent, thus anything lower must be a benefit. CGAP(1996) in Cull et al. (2009) further articulates that access to finance is more


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important that its price. Nevertheless, to create ethical and socially responsible

perception, the excessive interest rate is shaped and calculated in such a way that

it shows a significantly small amount of money installment. GB, for example, if

the poor borrows Tk 500, he/she should pay for as much as Tk 5 every week

until it reached the total amount of borrowed money. One may think that Tk 5 is

a cheap installment, but the poor might think differently as they need to prepare

Tk 5 every week or Tk 20 every month. While the second justification, is a

natural consequences due to industry characteristics which have been mentioned

previously.

BRI Unit Desa, and GB particularly are more obvious in practicing riba,

whereas AIM is less obvious. Although AIM is less obvious in charging riba,

three models have shared one thing in common, that is the installment is

perceived to be cheap due to number of installments made by the poor. This

three models benefit from weekly, biweekly, or monthly installments. Most of

GB and AIM clients tend (and are encouraged) to pay weekly installment,

where BRI Unit Desa borrowers tend to pay it monthly. So to say, that BRI Unit

Desa may serve less poor customer segment in comparison with GB and AIM

customers. The ruse to build small amount installment is to have short

installments, such as weekly, biweekly, monthly, and if they are allowed – they

might consider having daily installments.

2.3. Special Purpose Vehicle (SPV)

Notwithstanding on the discussion in previous section, it is felt that new

model which reflects innovation in financial services as well as to answer

today‟s challenges needs to be introduced. The innovation in financial services

departs from the concern to cover up the shortcomings of the current practices.

On top of that, today‟s challenges remains to be unanswered by current

practices, as from time to time, the problem is found to be more complex than

the previous years. Notably, the new model should comply with Shari‟a as

Islamic finance is believed to have great potential to cater the challenges that

emerge due to new social phenomena and acute financial crisis.

The shifting from rural-working poor to urban-working poor has shown that

micro financing should be extended to also urban areas. Unlike rural population,


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urban population is often characterized by relatively high educated and have

high financial awareness. They also have past historical financial records, as they

might have, at least, savings account in the bank. These characteristics, of

course, benefit the banks as it reduces both, banks and urban- working poor,

asymmetrical information which ultimately lower both of their transactional

costs. Nevertheless, the banks might have higher risk of adverse selection and

moral hazard in serving the urban compared to serving the rural. This might

imply risks that banks do not want. Unlike financing the rural, whereby peer-

pressure could be used as social collateral that is effective tool to reduce the

credit risk, urban people is characterized as more individualistic, thus

making the social collateral might be less effective tools.

Due to the characteristics of MFIs potential customers and also learning

lessons from three models that is previously mentioned (BRI Unit Desa, AIM,

and GB), i.e. the urban- working poor, it is foreseen that bank type of MFIs

could be the potential services providers. There are at least two reasons for this.

They are: first, bank type of MFIs has plenty of branches and offices in urban

areas. This shows sophisticated networking of the banks which implies two

meaning. First meaning is that, with sophisticated network at hand, banks must

not establish new branches or units, so it incurs almost no costs for the banks.

Second meaning is that sophisticated network of the banks might be desirable for

entrepreneurs as it transmits the message that banks could share some business

opportunities and business networks in another areas they covered. Thus the

more sophisticated the network, the more appealing the bank is for

entrepreneurs. Second, unlike NGOs, bank type of MFIs is demanded to be self-

sufficient and profitable, which is desirable for entrepreneurs as they will be

motivated to perform sound and professional in order to earn profit so the

business could grow through retained earnings and as well as maintain their

relationship with the banks, as banks assess the entrepreneurs based on its

repayment as well as its business performance.

Current financial crisis that was severely hurting global economy has resulted

in slow pace of growth of world‟s economy. The impact could be felt in all

joints of markets, i.e. from financial markets to the real market in the street,

where transactions are less happened. Prices dropped everywhere, making

people loss their value of business and investments and thus more people


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keep their money at home instead of doing business and invest. Meanwhile in

micro levels, middle-class entrepreneurs are struggling to develop new business

ideas to be executed, yet they might be lack of working capital and also lack of

business channel/network to distribute and market their products and services.

They understood that buying services from non-bank moneylenders with

excessively high interest rate is their lender of last resort. However, they could

not sell their business idea to banks as banks could not foresee the value of their

business ideas and perceive it to be too riskious to do. Often, these entrepreneurs

also sometime oversee their business value due to their lack of knowledge in

arranging financial proforma. Ultimately, banks reject to finance them. Or if

banks are willing to finance, banks would demand financial collateral and must

charge the entrepreneur high interest rate to reward them in taking all possible

risks. Else, there is no word “interest” in Islamic banking dictionary, thus its

application in Islamic microfinance is forgotten.

Islamic finance has various products that could be used to work together with

the working poor. Partnership models such as Musharakah and Mudarabah could

be viable to finance new businesses ideas of working poor entrepreneurs, thus

ensuring risk-sharing – instead of risk-transfer- concept is applied. It signifies

that Islamic MIFs type banks would not only finance the business ideas but also

ensuring that the business works and sounds through equity-financing. Even

more, with current challenges coming from social phenomena (identified through

population projections) and financial crisis, the growing number of this type of

customer segment could not be avoided nor ignored by banks. The approach in

financial services industry is that it is peculiar customers come to the bank, but

banks should come to customers. Silicon Valley is the example for this. Venture

capitalists in Silicon Valley have been using Mudharabah-type of contract since

Silicon Valley firstly established. The venture capitalists disburse loan to the

entrepreneurs who have sounds and promising business ideas without any

interest at all. Later, once the business has succeeded and firstly listed in capital

market (IPO), the venture capitalists would be repaid by shares with the agreed

proportion.

However, banks might argue that it may seem feasible but incur more costs

and resources. It might be argued that bank does not have function as partner of

business. Bank is well-known as financial intermediary, thus any activities out


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of intermediating financial services might be seen as exhaustive and costly.

Therefore, the establishment of SPV could be the way to resolve the issues. SPV

is a legal entity which has been set up for a specific, limited purpose by another

entity, the sponsoring firm and many be a subsidiary of the sponsoring firm, or it

may be an “orphan” SPV, one that is not consolidate with sponsoring firm for

tax, accounting, or legal purposes (Gorton and Souleles, 2005). SPV could be the

correct legal entity for the bank to mitigate the risks that are inherent involving

the poor and small entrepreneurs. SPV could be given task to screening the

business ideas of the entrepreneurs, giving recommendation to the bank of the

feasibility of the ideas to be financed, and monitor the use of money. SPV could

also be the agent, i.e. wakeel, of the banks in partnering with the entrepreneurs.

The banks, via SPV, could be the business partner of the entrepreneurs.

Acknowledging that SPV needs the bank as the sponsoring firm, it is

recommended for banks to build an off-balance sheet SPV that must be an

existence firm as it has an added feature of bankruptcy-remoteness, thus

freed the SPV if the IFIs from entering a bankruptcy procedure. So does

whenever SPV face insolvency, SPV‟s creditor could not claim on the sponsor ‟s

assets to recover the loss caused. Figure 3 is the illustration of mechanism of

SPV as the bridging agent.

Figure 3. Mechanism of SPV as The Bridging Agent

Source: Swastika and Kusuma (2012)

With the existence of SPV as the bridging agent, the tasks and activities of

SPV should be clearly pronounced. The fail of doing so might entail the failure

1.b/4


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of SPV to perform well. Following are the suggested tasks for SPVs: (1)

promoting financial awareness to economically active poor, (2) equipping

entrepreneurs with skills and knowledge required, (3) via shirkah contracts;

two-tier Musharakah and two-tier Mudarabah contract, SPV becomes the

bank‟s wakeel or agent to be the partner of the entrepreneur or to be owner of the

capital. With a set of business partners, SPV would have the precious business

information that allows entrepreneurs to have faster reaction to reduce the

business risks in the real market, (4) being pool of business networks, the

yellow page of business information, which then assist entrepreneurs widen

their business network and coverage, and (5) screening, supervising,

monitoring and evaluating business performance, thus reducing Islamic

bank‟s transactional costs, and credit risks. The suggested tasks, however, is

adaptive to changes; allowing the Islamic banks to be freely in identifying

necessary tasks of its SPV. Nonetheless, ones should bear in mind that SPV

must assist and guide the entrepreneurs in implementing their ideas; i.e.

Whenever entrepreneurs encounter difficulties in business processes or

marketing their products, SPV should be able to assist them in solving their

business problems. Worth to be remember that the

The mechanism of SPV is illustrated in Figure 3 for contracts which have

credit implication, such as Murabaha, BBA ( Bay Bithaman Ajil ), or AITAB ( Al

Ijarah Thumma Al Bay‟ ). Firstly (1.a), the entrepreneur approaches the SPV to

consult his business plan, including the financial proforma. The entrepreneur and

the SPV will discuss on the plan and projections and the later will become a

business consultant by giving feedback to the entrepreneur (1.b). Here, the

feasibility study on the business is done by the SPV before it is communicated

with the bank. Since the entrepreneur might be not well-informed about the

several of Islamic contracts, finding one that appropriate to the nature of their

business might be cumbersome unless someone helps the entrepreneur to do it.

As such, the SPV will be also advice what contracts of sale that appropriates

with the business risks and opportunities for the entrepreneurs to start developing

the business. Next level, the SPV communicates the business with the sponsors,

elaborating the strengths, weaknesses, threats, and opportunities of the business

(2). As such, the bank would be well-informed on the risks and potential profits

of the business that seek for financing. As such, it will ease the bank to make a


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decision and ensure lesser good opportunities are eliminated. After receiving

feedback from the SPV, the entrepreneur will have more self-esteem in

proposing the business plan to the bank to ask for financing. The entrepreneur

approaches the bank for financing, submitting the proposal (3.a), and if

succeeded, the entrepreneur will be financed by the bank (3.b). Furthermore, the

supervising and monitoring the business as well as evaluating the business are

done by the SPV until the entrepreneur completed the obligation to the bank. As

such is to mitigate moral hazards of the entrepreneurs (4).

For the contracts that involve partnership, the mechanism would be slightly

different from the above, as it is illustrated in Figure 4.

Figure 4. Mechanism of the SPV as The Bridging Agent in Partnership Contracts

Source: Swastika and Kusuma (2012)

As partnership contracts reflect riskier type of business, the SPV would become

the partner of the entrepreneur once after the business proposal is agreed and both parties (the SPV and the entrepreneur) enter the contracts. Nevertheless, as

a firm that is under the sponsorship of the bank, the SPV must have the approval

from the bank to precede the proposals with partnership contract with the

entrepreneur. Firstly, the entrepreneur approaches the SPV (1.a). After assessing

the business plan and proforma, the potential entrepreneur‟s proposal will be sent

to the bank in order for more assessment and consideration from the bank as the

sponsor of the SPV (1.b). As such is made to ensure that all the risks are

perceived, calculated, and anticipated. Afterwards, the assessment result is given


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back to the SPV. Approval or further considerations will be spelt out by the

sponsor as a recommendation to the SPV (2.a). Furthermore, once the proposal is

approved, the SPV will enter a partnership contract with the entrepreneur with

all shari‟a principles and conditions must be known by both of transacted parties

(2.b).

2.3.1. Challenges of The SPV

There are numbers of studies regarding on the application of an off-balance

sheet SPV. According to Gorton and Souleles (2005), the latent issue is on the

accounting of the firms that whether the transfer of receivables from the sponsor

to the SPV is treated as a sale or a loan for accounting purposes. This is pertinent

as it affects the balance sheet of both the sponsor and the SPV. The true sale, if

the conditions are met, will affect the profit or loss of the transferor as the seller.

Financial Accounting Standard No.140 has two broad requirements

islamic approaches towards poverty alleviation_spv&srv

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