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HomeGIFR 2019Islamic Social Finance: A Tool for Development and Economic Inclusion

Islamic Social Finance: A Tool for Development and Economic Inclusion

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The United Nations’ Sustainable Development Goals (SDGs) are assertive statements of intent to achieve the long-term well-being of people and planet. Beyond its religious foundation, Islamic social finance provides potential solutions in achieving SDGs. While the seventeen (17) SDGs are interconnected to each other, the main focus can be found in the alleviation of poverty, democratic governance and peacebuilding, mitigation of climate change and disaster risk, and balancing the economic inequality (UNDP, 2019). It is interesting to note that the SDGs are very much in line with the Shari’a principles and its underlying philosophy better known as Maqasid Al-Shari’a. The role of Islamic social financing in connecting potential donors with humanitarian issues; effectively supports the SDGs if this sector is properly developed, managed and utilized with transparency, accountability and efficiency.

Financial Instruments in Islamic Social Finance

Islamic social finance promotes financial instruments that provide and manage funds with the purpose of resolving societal needs while preserving and protecting the Maqasid Al-Shari’a. As such it advocates financial instruments that lead towards a socially responsible investment planning that are not only profitable but also brings beneficial contributions to the needy and society at large. Thus, Islamic social finance instruments can be utilized towards alleviating poverty, enhancing food security, mitigating disaster risks and climate change. Simultaneously, Islamic social finance is a tool to overcome economic inequality and has potentials to enhance democratic governance and peacebuilding. By considering Islamic social finance seriously, countries may have better opportunity in achieving the SDGs as aspired.

The instruments of Islamic social finance can be divided into two broad categories: (i) traditional instruments that are based on philanthropy and cooperation; and (ii) innovative modern instruments that are based on responsible investments. The traditional financial instruments are largely practised in Muslim countries and they are already in existence for hundreds of years since the beginning of Islam. Whereas, the innovative financial instruments are practised by Islamic financial institutions worldwide. The main traditional financial instruments are zakat, sadaqah, and waqf. Meanwhile, the innovative financial instruments include but are not limited to Islamic microfinance and Sustainable Responsible Investment (SRI) Sukuk. Comparatively, the traditional Islamic social finance instruments are simple and basic in nature, whereas the innovative Islamic social finance instruments are more complex and mostly hybrid in their structure.

However, with the advancement of Fintech and its application in Islamic social finance, it is envisaged that the future application of these instruments will be exceedingly sophisticated, addressing the existing challenges in calculation, poor collection mechanisms and inefficient distribution channels (Mahomed, 2017). Islamic social finance has the potential to be a crucial tool to offer governments a strong, non-traditional source of financing to advance their SDGs implementation, particularly in fragile and conflict-affected countries – many of which are also in Muslim-majority countries with significant Muslim population (Maierbrugger, 2018).

Islamic Social Finance and Wealth Circulation

Islamic social finance and its financial instruments are developed based on Shari’a principles, with in-built mechanisms that enable and encourage the circulation of wealth in the society. Whilst Islam encourages fair trade and wealth creation through just means, it also puts a lot of emphasis on the need for wealth circulation in order to ensure sustainable, balanced and inclusive economic prosperity. Islamic social finance instruments should be fully utilized as the tools for distributive policies and strategies to facilitate the flow of wealth and capital from the surplus segment of the society to the less fortunate segment who are living in poverty. By doing so, economic disparities can be mitigated, better and equal opportunities in economic activities are opened to all members of society, and consequently, the first goal of the SDG on poverty alleviation can potentially be achieved in the near future.

More specifically, of all the Islamic social finance instruments, zakat is the only instrument that is made compulsory on all Muslims whose wealth fulfils the requirements for zakat obligation in terms of minimum value (nisab) and time (hawl). The rest of the Islamic social finance instruments are voluntary in nature, based on the goodwill of the contributors as owners of the wealth. Both the compulsory and voluntary instruments of Islamic social finance are effectively distributive wealth practices. These instruments of Islamic social finance are built strategically to redistribute wealth to all segments of society, with a main focus on the poor and needy.

In fact, the prevention of wealth monopoly by the rich is one of the objectives of the prescription of zakat in Islam, as mentioned in the Qur’an, Surah Al-Hasyr: 7. Through Islamic social finance, the surplus segment practices responsible investments as well as charity, in a way that contributes back to the society at large. Through the channelling of liquidity and capital to the deficit segments of the society, the less fortunate members of society are able to participate in the economic activities as well as fulfil their basic needs. Proliferation of such distributive practices of Islamic social finance may eventually lead to a sustainable, balanced and inclusive prosperity.

Practices of Islamic Social Finance Across the Globe

Muslims constitute 24% of the global population, with 1.8 billion Muslims as at 2015 (Pew Research Centre, 2017). Among the member countries of the Organization of Islamic Cooperation or OIC, Indonesia stands out with the largest Muslim population. Islam is also acknowledged as the fastest-growing religion among other major religions, where it is estimated that the Muslim population will exceed the number of Christians by the end of the 21st century (Pew Research Centre, 2017). By 2050, India is expected to have 300 million Muslims; whilst in Europe, it is estimated that Muslims will make up 10% of the region’s population (Pew Research Centre, 2017). Inherently, the wealthy among this huge number of Muslims are obliged to pay zakat in one way or another. Additionally, they are also encouraged to volunteer further as a part of religious activism to participate in other Islamic social finance initiatives, based on their individual or collective capacities. This indicates the potential flow of continuous wealth that may be utilized in the Islamic social finance space for the purpose of achieving poverty alleviation, equality in economic participation, developments and other relevant SDGs. Thus, it is important to look at the current practices of Islamic social finance across the globe.

Traditional Islamic Social Finance Instruments

Traditional Islamic social finance instruments are already in practice since time immemorial. They are highly religious-motivated and continued to be practised across countries and jurisdictions.

1. Zakat

The collection of zakat is estimated to reach US$200 billion to US$1 trillion globally (Washington Post, 2018). It is recorded that approximately US$600 billion from zakat surplus has been distributed annually for humanitarian actions (Mohd. Zain and Engku Ali, 2017; Mahmud, 2015; Islamic Social Finance Report, 2015, pp.: 8-9; Islamic Social Finance Report, 2014, pp. 14-15). The zakat collection in Britain alone was estimated as high as £20 million (US$28 million) in 2017 (The Economist, 2018).

From the perspective of legal implementation, zakat may be enforced through state regulations as an obligatory payment, which must be made by Muslims annually. This obligatory payment generally consists of 2.5% of the total value of a Muslim’s financial asset. In Muslim-majority countries, they usually have specific religious bodies that are authorized to collect zakat from the public. In countries where Muslims are the minorities, no formal authoritative bodies to collect zakat exists and the role to collect zakat is normally placed under-recognized Muslim charities or mosques administrators. Sometimes, such role is placed under an established council or foundation that are majorly recognized by Muslims (National Zakat Foundation (UK), 2019; National Zakat Foundation Australia, 2019; Canada Zakat, 2019). Basically, there is no standardization of zakat collection.

The Islamic Social Finance Report 2017 published by Islamic Research and Training Institute (IRTI) reported a positive trend in zakat collection in the Russian Federation with a steady growth of 30% to 40% of zakat collected by institutional charities. Furthermore, based on a report made by the Spiritual Administration of Muslims from Kyrgyz Republic, there was a significant increase in zakat collection with 30% to 40% higher during the sacred month of Ramadan (Islamic Social Finance Report, 2017). Zakat is not only paid by individuals but also corporations including Islamic financial institutions. For example, Bank Islam Malaysia Berhad is said to be the highest-paying bank in Malaysia for zakat contribution (Badarulzaman et al, 2016). Regardless of such available data and statistics, the exact total of zakat collection globally is unknown due to the absence of proper reports from majority of the countries.

The implementation of zakat as an Islamic social finance instrument can be considered as a success since the zakat collection is majorly used and distributed back to the society in variety of forms. Not limited to providing food and shelters, zakat collection is used for education, health care, disaster mitigation, poverty alleviation schemes, welfares, and many others. Zakat collection is also used to support orphanages, needy widows, refugees and other segments of the society. In Pakistan, a total of Rs. 161.00 million (US$1.15 million) worth of zakat collection have been distributed to 48 hospitals (The Nation, 2019). In lessening the adverse impact from the loss of lives of Indian soldiers, the education of children of these officers is supported through zakat collection made by the Zakat Foundation of India (The Siasat Daily, 2019). In Indonesia, a zakat fund of US$350,000 was used to finance the construction of a Micro Hydro Power Plant in Jambi, thus providing electricity to households, schools and clinics; benefiting at least 4,448 people directly and many more businesses and services indirectly (Abdul Aziz and Zhang, 2019).

As a social finance tool, zakat has the potential to close the funding deficit faced by agencies involved in humanitarian aid, valued up to US$16.7 billion; in addressing the global refugee crisis with an estimated 22.5 million refugees. In 2018, the United Nations High Commissioner for Refugees (UNHCR) in cooperation with the Abu Dhabi-based Tabah Foundation launched the global zakat digital platform as a mechanism in collecting zakat for the needs of refugees globally (UNHCR, 2019). Leveraging on technology, this platform ensures an efficient, trusted and compliant route to fulfil zakat obligations while at the same time ensuring transparency throughout the process. In 2019, UNHCR restructured its zakat programme and unveiled its global Refugee Zakat Fund in April that year. The decision was made due to the high donor turnout UNHCR has witnessed in the past years.

Focusing on the border between Macedonia and Serbia with arrivals of 20,000 to 30,000 refugees and immigrants, Zakat Foundation of America takes a progressive effort to provide reliefs and basic needs such as cooked meals, dry clothing, raincoats and warm blankets (Zakat Foundation of America, 2019). However, the increase of Islamophobic attitudes among politicians may have a negative impact on the establishment of proper zakat collection channels.

Furthermore, the increasing use of Islamic Fintech is encouraging zakat collection and distribution globally (Malenko, 2019). The digitization of collection and disbursement of zakat proceeds will not only provide greater convenience to customers, but also strengthen public trust and confidence in the system while eliminating asymmetric information, fraud, and distrust between counterparties. With limitless borders, zakat can be contributed through digital platforms directly to the individuals or segments of the society who are in need, regardless of their nationalities. Recently, an artificial intelligence chatbot platform known as PayZakat was introduced where zakat contributors can pay their zakat through a website, mobile digital application, and online messenger. Through this platform, zakat contributions may now be directly received by charities in different countries (PayZakat, 2019).

2. Sadaqah

In contrast to zakat, sadaqah is a voluntary donation and is charitable in nature. However, similar to zakat, the participation in sadaqah is religiously motivated. Although there is no available statistics on the total amount of sadaqah collected globally, it is estimated that the total collection of sadaqah is more than the zakat collection since it can be made at any time without limitations (Mohd. Zain and Engku Ali, 2017). In practice, sadaqah can be made directly to the people who are in need or through recognized charitable institutions established by the states, charitable associations or foundations.

In conflict areas such as war zones, sadaqah is channelled through recognized humanitarian bodies such as the International Committee of the Red Cross and UNHCR. Recently, we have witnessed the rise of crowdfunding platform as a means of collecting funds for social conscious, philanthropic and non-profitable projects. Charity-based crowdfunding platform assists funders to search for various charities campaign, perform online donations and set up fundraising pages and monitoring of progress towards the projects’ fundraising goals (Alam and Gupta, 2018). Ethis Ventures, a Singapore-based Islamic crowdfunding company, launched a digital platform to collect sadaqah for educational, social, and religious projects in Indonesia. The said established platform was used to raise funds for building a bridge for a small village in Sulawesi and purchasing 40,000 copies of Qur’an for students in 806 schools across Indonesia (Salaam Gateway, 2017). Another Islamic crowdfunding platform, Global Sadaqah, launched an emergency relief fund for Indonesia’s tsunami and earthquake victims in Lombok in collaboration with a local based fundraising platform Kitabisa. The sadaqah collection was channelled to the reliable Indonesian authorities responsible for the rescue efforts (GlobalSadaqah, 2018).

Charitable associations also play an important role in the collection and distribution of sadaqah globally. Such can be seen from the efforts made by Syria Care and Aman Palestine, both based in Malaysia. Online social media and networks such as Facebook are usually used to invite participation for voluntary sadaqah from the public. In one of the sadaqah campaigns by Syria Care, a minimum on RM1 (US$0.25) was accepted for sadaqah. In the UK, Muslim Hands is active in collecting sadaqah for charitable activities. Muslim Hands, which was established in 1993 to provide help for victims of the Bosnian war, has now evolved to become an international aid agency and non-governmental organization that actively participates in charitable efforts across 50 countries. They are also active in providing 12,000 tube wells, sponsoring 20,000 orphans, and successfully collecting £115 million (US$195.96 million) of sadaqah and donations globally (Muslim Hands, 2019).

3. Waqf

Generally, waqf can be referred to as the holding and preservation of certain properties and their benefits for the purpose of philanthropy with a prohibition of disposal except for some specified purposes. The vast practices of waqf are recorded since the early 8th century with the advancement of Islamic civilization where the majority of waqf properties were made on cultivated lands across the countries. Based on a research conducted by the Islamic Development Bank (IDB), waqf properties are estimated to value from US$100 billion to US$1 trillion in 2014 (IDB, 2014) and such value may increase annually. However, it is difficult to know the exact total value of waqf properties globally. Unfortunately, certain waqf are lost from records due to administrative weaknesses, political changes, prejudices towards Islamic social finance’s financial instruments, and etc. In many countries, waqf are used not only for religious purposes, such as for mosques and graveyards; but they are also utilized for social well-being, medical care, environment, education, infrastructures and community service. As recognized the by United Nations Educational, Scientific and Cultural Organization (UNESCO) and Guinness World Records, the University of Al-Qarawiyyin in Morocco is the oldest educational institution in the world that was built based on a waqf made by Fatima al-Fihri in 859 A.D. (Al-Hasani, 2019).

In Southeast Asia, examples of good governance for waqf administration can be seen, where it allows such waqf to be utilized in an efficient manner that benefits the society at large and not just the Muslims. Such waqf administration is supported by local legislations and enforcements. In Malaysia, there is a positive trend among Islamic financial institutions to participate in waqf initiatives as part of their corporate social responsibilities (CSR) due to their perpetual nature that supports sustainable development. Moreover, their participation is encouraged by the Central Bank of Malaysia within the value-based intermediation framework for the Islamic financial services industry. In 2017, six Islamic banks in Malaysia entered into a waqf fund strategic collaboration agreement to boost their roles in value-based intermediation through the waqf mechanism (News Straits Times, 2017). The participating Islamic banks were Affin Islamic Bank Bhd, Bank Islam Malaysia Bhd, Bank Muamalat Malaysia Bhd, Bank Kerjasama Rakyat Malaysia Bhd, Maybank Islamic Bhd, and RHB Islamic Bank Bhd. Such positive trend towards enhancing waqf development for sustainable public good and poverty alleviation in the society is very encouraging. Furthermore, such initiative also encourages other corporations to participate in waqf.

Commendable efforts to revive waqf properties can also be traced in the Russian Federation. In Tatarstan, the Waqf Fund of the Republic of Tatarstan has been active in the revival of waqf properties as well as the creation of new waqf. There has been steady development and progress where three objects of immovable property were successfully possessed and another 12 are in the process of transfer. In Kazakhstan and Kyrgyzstan, the number of religious waqf such as mosques and Islamic centres have been steadily on the rise with many recent instances of private initiatives endowing assets for assisting the community (IRTI, 2017).

Another form of waqf is the cash waqf. The origin of cash waqf can be traced back to the 8th century and was practised extensively during the Ottoman empire in the 15th century. Later, cash waqf was treated as an important form of waqf throughout the Anatolia and Balkans (Islamic Market, 2019). It has since evolved into an important engine of economic growth and poverty eradication for many centuries. The modern recognition of cash waqf can be found in 2004 from the OIC Fiqh Academy meeting that was held in Oman. The development in the Fintech space has given boost to the application of cash waqf via digital platform and blockchain technology. This can be seen in Finterra’s model of waqf chain that accepts cash waqf as contributions to develop waqf projects (Finterra, 2019). Finterra has also developed a crowdfunding platform that uses digital ledger technology or blockchain to create ”smart contracts” that would be tied to specific waqf projects. The waqf projects made possible through cash waqf could be geared towards socially impactful programmes that can empower communities as well as help to alleviate poverty and other social ills. Such potentials indicate opportunities in achieving SDGs through waqf as a powerful Islamic social finance instrument.

Islamic Social Finance Innovative Instruments

The innovative instruments of Islamic social finance have emerged in tandem with the expansion of the Islamic financial services industry. While they are built upon the principles of Islamic law of transactions, these innovative Islamic social finance instruments are introduced to provide better financial inclusion and social impact to the people and planet. Some of these instruments are also suitable for funding disaster reliefs, rehabilitation programmes as well as environmentally friendly initiatives. Most of these instruments also have in-built structured governance that can better protect investors and mitigate unnecessary risks. They are not limited to Islamic microfinance and sukuk per se, though both are the most prevalent forms of modern Islamic social finance in practice.

1. Islamic Microfinance

Islamic microfinance is a financial mechanism that provides smaller-scale financial services to segments of society that are in need and are otherwise non-bankable due to their weak credit standing. The amount allowed under this financial arrangement is usually lower than the normal financing facility. Islamic microfinance uses Shari’a-compliant underlying contracts, which can be based on benevolent loan (qard hasan), cost-plus-profit financing structure (murabaha), or even profit-sharing contracts (the likes of mudaraba or musharaka). Islamic microfinance may include a variety of innovative products such as micro-credit, micro-equity, micro-savings, micro-takaful and micro-transfers. It is reported that despite the impressive growth of the Islamic finance industry globally, Islamic microfinance only stood at less than 1% of global microfinance (Global Islamic Finance Report, 2012). Nevertheless, Islamic microfinance is still a good mechanism in promoting financial inclusion, where it provides an alternative for conventional microfinance in reaching out and empowering the less well to do (Rhule, 2016).

In Pakistan, Akhuwat, an Islamic microfinance initiative premised on Islamic brother-hood has been successful in providing Islamic microfinance facilities to the poor and needy, especially women with a return rate of 99.83%, without having to go through any litigation process (Institute of Policies Study Islamabad, 2019). The participants of Akhuwat are given entrepreneurial trainings and encouraged to contribute back in helping others. In Indonesia, Islamic microfinance has successfully empowered women through Misykat programme under the Dompet Peduli Ummat of Daarut Tauhid and BAZNAS in Bandung (Yaumidin et al, 2017). Their involvements in the Islamic micro-finance programme allowed women to have their own independent income, improved their position within their households, and have a certain control over their savings and credit use. A positive trend also can be seen in Sudan. An initiative to introduce Islamic microfinance is led by Agricultural Bank of Sudan Microfinance Initiative (ABSUMI) through Shari’a-compliant micro-credit, savings and micro-insurance (Ahmed and Ammar, 2015). The said Islamic microfinance is offered particularly to empower women.

2. Sukuk

Sukuk is another innovative financial instrument that can also be used for the purpose of Islamic social finance. Its application today is quite diverse and complex, especially to fit into the different jurisdictional requirements of each country where sukuk is being issued. The global sukuk issuance in 2018 was worth US$94.4 billion (RAM Ratings, 2019). While Malaysia maintains the top spot with US$32.8 billion of global sukuk issuance, it is closely followed by Saudi Arabia with US$21.4 billion and Indonesia with US$15.5 billion. Strong growth in the sukuk market can also be observed in the United Arab Emirates with sukuk issuance worth of US$9.1 billion and Kuwait at US$3.6 billion (RAM Ratings, 2019).

The inaugural issuance of the world’s first green Sukuk in Malaysia has expanded the narrative for the synergy between Islamic finance, which values socially responsible investment, and the global trends of incorporating the Environmental, Social and Governance (ESG) principles in financing SDGs (The World Bank, 2019). In Malaysia, the first SRI green Sukuk related to renewable energy, Tadau Energy Sukuk worth RM250 million (US$61.44 million), was issued in July 2017 (MIFC, 2017). This was followed by a RM1 billion SRI green Sukuk issuance by Quantum Solar in October of the same year (Malaysian Reserve, October 8th 2017). June 2015, Khazanah launched Malaysia’s inaugural RM1 billion SRI Sukuk programme for a period of 25 years, with the first tranche of RM100 million. The second tranche of the SRI Sukuk valued at RM100 million including a retail portion of RM5 million was launched in 2017. The proceeds from this tranche will be utilized for Yayasan Amir Trust Schools Programme.

Sukuk for humanitarian purposes first made its debut in 2015 when the International Finance Facility for Immunization issued the world’s first humanitarian sukuk, worth US$500 million, to finance projects for the Global Alliance for Vaccines and Immunization (Gavi). A year later, it issued another US$200 million sukuk facility for the immunization and vaccination programmes of Gavi. The world’s first platform for smart-Sukuk was launched by Blossom Finance in 2018. Leveraging on blockchain smart contracts, this smart-Sukuk platform not only increases the efficiency and reach of Sukuk issuance globally; it also standardizes and automates much of the legal, accounting, and payment overhead of conventional Sukuk offerings. It is hopeful that such smart-sukuk platform is able to facilitate faster, more secure and efficient system of fund-raising for social causes by utilizing digital transaction and blockchain technology.

3. Hybrid Forms of Islamic Social Finance Instruments

It is evident that there are huge potentials in Islamic social finance instruments (either traditional or innovative) as a tool for development and economic inclusion. It is believed that the achievement of the SDGs may be facilitated by the effective implementation of these Islamic social finance instruments. There is an emergence of hybrid forms of Islamic social finance that combine traditional and innovative instruments to further enhance their efficiency and impact. A research done by Mohd. Zain et al (2018) finds that a combination of sukuk structure together with waqf arrangement can be beneficial to mobilize funds for refugees or to provide other humanitarian aids. Moreover, technology can be used to speed up fund collections for any social based programmes. Instead of collecting sadaqah manually before Friday prayers in mosques, payments through QR codes as well as cryptocurrencies may be utilized via smartphone applications to provide flexibility in giving sadaqah at any time or place preferred by the do-nor. Using technology can also enhance security of the money donated since they are not exposed to theft incidences that occasionally occurred in relation to physical donation boxes in mosques. Such use of technology has been practiced in Shackwell Lane Mosque in London, United Kingdom (Richardson, 2018).

Islamic Social Finance: A Way Forward

As opposed to capitalism, profit-making is not the sole objective of investments in Islam. It is a legitimate objective, but not the sole objective. Profit can be earned, but in a just and fair manner. The prohibition of riba and promotion of risk-sharing arrangements reinforce Islam’s emphasis on equitable arrangement in the use of capital. In addition, Islam focuses on responsibility and accountability in the creation, acquisition and use of wealth. This includes responsible and ethical investment as well as philanthropic wealth distributive tools that naturally can be found in Islamic social finance instruments. For instance, to ensure proper circulation of wealth to every segment of the society, especially to the poor and needy; Islam puts in place a redistributive system through the imposition of zakat on the wealthy and other productive segments of the society. All of these, taken together, make for a better financial system that ensures a just and equitable socio-economic framework for all.

Nevertheless, proper governance and management are necessary to ensure the success of programmes or projects that utilize Islamic social finance instruments. Without good governance, even a good project can fail. In addition, strong supports from governments and facilitative regulatory frameworks are essential for their effective implementations. Finally, public awareness and market education must continue to dispel misconceptions and prejudices. With all of these in placed, the dream to realize the noble SDGs through Islamic social finance will hopefully become a reality in not too distant a future.

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