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IOS Minaret Vol-1, No.1 (March 2007)
Vol. 4    Issue 24   01-15 May 2010

Financial Inclusion: A Comparative Study of Conventional and Islamic Approaches

By Dr. Sayed Afzal Peerzade
Chairperson, Department of Economics
Karnataka State Women’s University, Bijapur

An attempt is made in this paper to study conventional and Islamic approaches towards financial inclusion in a comparative framework. The paper has a two-fold objective. First, it seeks to demonstrate that Islam has an in-built mechanism of financial inclusion. Secondly, the paper argues that financial inclusion in Islam is not an after-thought of pro-poor role of modern governments. The paper is divided into three sections. Section I deals with the meaning and salient features of financial inclusion. Section II focuses on the Islamic perspective on financial inclusion, while Section III discusses the Islamic strategy of financial inclusion.

1. What is financial inclusion?

Since the launch of 11th Five Year Plan in India, inclusive growth has become a catch world of planners, policy makers and academicians. The goals of growth and the strategy for growth are interpreted and assessed in term of inclusion and exclusion. The realization of the need for inclusive growth is an indication of the lopsidedness or failure of the planning process in the sense that though economic growth has been fairly satisfactory in quantitative terms, it has not delivered the desired results in qualitative terms. The pursuit of the model of economic growth has not made much difference to the lives of billions of poor and marginalized people.

Very recently, the Government of India constituted a Committee on Financial Inclusion under the chairmanship of C. Rangarajan. The Committee, which submitted its report in January 2008, defined financial inclusion as “the process of ensuring access to financial services and timely and adequate credit, where needed by vulnerable groups such as weaker sections and low income groups at an affordable cost”. A careful perusal of the report points to four important dimensions of the definition of financial inclusion: (1) access to financial services (2) provision for timely and adequate credit (3) assistance to vulnerable sections of society ( 4)extension of assistance at an affordable cost.

It is worthwhile to examine, against the backdrop of this definition, the Islamic perspective on financial inclusion and its similarity or difference from the conventional view.

What is the need for financial inclusion?

It is now widely recognised that a substantial section of the population, particularly the economically disadvantaged or vulnerable groups, continue to remain excluded from mainstream society and economy and that the benefits of development have bypassed them. As a result, their lives are characterized by hunger, disease, squalor, deprivation and suffering. It is, therefore, necessary that the whole issue of economic growth should be approached in a holistic manner.

Access to affordable financial services enlarges livelihood opportunities and empowers the poor and downtrodden sections to take charge of their lives effectively. Such an empowerment, over a period of time, adds to social and political stability. Hence, financial inclusion is considered crucial for achieving inclusive growth, which in turn ensures overall sustainable growth in the country.

Financial inclusion rectifies many of the shortcomings and pitfalls associated with the system of financial exclusion. Financial exclusion may be thought of in two ways. First, it involves exclusion from the payment system, that is to say, not having access to any type of banking facility. Secondly, exclusion from the formal credit markets leads the excluded individuals and groups to depend on informal and exploitative markets. In the informal market, the moneylenders charge exorbitant interest rates, which are generally known as “scissors interest rates”. The commonly excluded sections are marginal farmers, agricultural labour, self-employed, urban slum dwellers and small enterprises in the unorganized sector. On account of their exclusion, their difficulties get compounded day in and out.

2. Aspects of Financial inclusion.

There are three principal dimensions of financial inclusion: (i) inclusion through the banking services (ii) inclusion through the state-driven direct intervention (iii) through the voluntary effort of the community. The government may facilitate financial inclusion by making available financial services at affordable cost through the banking system. Inclusion through direct and non-refundable means may be envisioned in the sense of direct cash assistance and or heavy subsidy on goods and services consumed by the poor. Voluntary efforts at the community level may involve both the individual institutional levels.

1. Islamic Perspective on financial inclusion

The conventional and Islamic economic systems agree that there is always a room for financial inclusion in the face of poverty, unemployment, hunger and exploitation. While there is a broad agreement in respect of the need for financial inclusion, there are certain perceived differences in respect of methodology. The emphasis in the conventional approach is on inclusion through financial intermediation, that is, through the banking and credit system. The emphasis in the Islamic system, on the other hand, is on the pro-active role of the government signifying direct cash transfers in favour of the poor and the needy.

The present system of conventional banking is at variance with Islamic principles. The conventional system favours the provision of credit to the poor and marginalized groups at an affordable cost. The affordable cost, howsoever small it may be, assumes the form of interest, for which there is no place in the Islamic system. Furthermore, in the conventional system the borrowers are asked to repay the loan amount. This is not required under the Islamic system because the inclusion is achieved by the way of direct cash transfers. It should be, however, noted that in the conventional system the amount lent is heavily subsidized and more often than not the loans are waived and repayment is not insisted upon. In principle, this approach comes closer to the Islamic approach.

At this point, it is necessary to define the Islamic notion of financial inclusion. It may be defined as a process whereby funds are made available to the poor and marginalized groups in such a way that they are able to tide over their economic difficulties and are financially rehabilitated. In this process, they have to pay neither the cost of provision of credit nor the principal amount lent to them. Funds are made available to the poor by the state as well as by endowments, voluntary organizations and individuals.

Origin of Financial Inclusion in Islam

It should be noted here that the notion of financial inclusion in Islam is not an after-thought of modern welfare and pro-active role of the government. Islam envisaged financial inclusion at a time when there was no governmental intervention to make things better for the poor and marginalized. Before the advent of Islam, the poor never enjoyed the state support. More often, they were left to fend for themselves. Even today in the absence of assured assistance from the state, the poor and marginalized sections of the society find themselves at the mercy of market forces.

Historically, the mechanism for financial inclusion in Islam may be linked to economic exigencies in the early period of the Islamic era in particular and the moral and ethical obligations of the Islamic state in general. Before the migration of the Prophet from Makkah to Madinah in 622 CE, the economic condition of Muslims, except in the case of a few, was far from satisfactory. They were subjected to one or the other type of humiliation and exploitation. On the slightest pretext, the poor in general and slaves in particular were tortured and humiliated by Jews who were engaged in money lending. Charging 50 percent interest rate was considered normal.

When the Prophet migrated to Madinah and decided to settle there, a large number of his followers followed suit. The economy of Madinah and material resources of Madinan Muslims came under a great stress. Even though the poor ansar (helpers) themselves were victims of Jewish financial exploitation, they voluntarily came forward to help their migrant brothers (muhajirun). These included a few rich persons who had come empty handed, leaving behind all their belongings at Makkah.

At Madinah, the Prophet faced two serious problems. First, it was necessary to find a way of accommodating the migrants into the city’s economic system. Secondly, the Makkans in their frustration had sent an ultimatum to the Madinans, saying “Our enemy is amongst you. Kill him or drive him out, otherwise we shall take the necessary steps”. The Prophet met these two challenges bravely. He succeeded in overcoming almost every odd before him. Using his farsightedness and economic wisdom, the Prophet in due course of time changed the course of history of the world.

The Prophet summoned the ansar and muhajirun and paired every muhajir with a nasir as his brother. The ansar readily accepted the arrangement and shared their property, movable and immovable, with their brothers-in-Islam. The Prophet also appealed for donations for distribution amongst the needy and deserving migrants. The early Islamic history is full of examples of generous contributions, both in cash and kind. It should be, however, noted that the donations were mainly occasional and there was no arrangement for a regular flow of funds. The poor followers of Islam continued to suffer at the hands of Jews. Thus, in the backdrop of above-mentioned factors, the Prophet of Islam thought of the financial inclusion of poor and marginalized sections of his followers.

2. Means of financial inclusion

The Prophet arranged for the financial inclusion at two levels, at the state level and secondly, at the individual and community level. At the first level, a regular flow of funds from rich to the state [public treasury] and then from the state to the poor and needy was arranged. This entire process was given the place of ibadah and termed as zakah. For the first time in the history of world religions, Islam accorded made the financial inclusion of the poor and needy into a religious tenet.

The second means of financial inclusion is the practice of infaq, where there is a regular and compulsory transfer of funds in favour of poor and needy all though the year. The volume of transfer is voluntary but transfer per se is compulsory. In fact, in Quran, the word infaq is repeated more than zakah. The Islamic means of zakah and infaq, on one hand improved financial position of the poor and marginalized, on the other, these two inflicted a severe blow to the financial monopoly enjoyed by the Jews.

1. Who is poor/ who needs financial inclusion?

Without regard to the system, it is a universally acknowledged truth that the poor and marginalized are ever in need of financial inclusion. It is necessary to understand who really are the poor and who really are in need of financial inclusion. Precautions are necessary as the funds at the disposable of authorities, monetary or otherwise, are normally in short supply whereas requirements are huge. The Islamic notion of the poor is integrated and dynamic. It has adopted a holistic view. A detailed study of different traditions of the Prophet brings to the notice three different perceptions:

    I. A person is not poor when he has food sufficient for two meals for himself and his family.
    II. A poor person is one about whom three sane and well-informed persons belonging to his own clan should come forward to
        testify that the person concerned is really poor and starving.
    III. A person who is in possession of assets worth four dinars or one uqiah is not poor.

The first explanation is a narrow view of the poor where as the third explanation is relatively broad. The first one is an indicator of ‘absolute poverty’ whereas the third one explains the notion of ‘relative poverty’. The Islamic wisdom is that financial inclusion should be prioritized; preference should be given to those who are living under near-starvation condition. Secondly, preference should be given to those who are not starving and yet are poor and about whom three sane persons of the same clan provide witness. Emphasis is placed on "witness" in order to have a clear distinction between poor and non-poor.

2. The strategy of zakah

As pointed out above, it was for the first time in the history of religions of the world that Islam institutionalized the entire process of transfer funds from rich to the poor through the state. It was accorded the place of ibadah and termed as zakah. The most significant aspect of zakah, from the viewpoint of financial inclusion, is that it is an earmarked levy. The Almighty Allah Himself has identified the beneficiaries of zakah. Its proceeds are spent on eight heads, which are: 1) poor; 2) needy; 3) zakah collectors; 4) persons who hearts need reconciliation; 5) freeing of slaves; 6) debtors; 7) in the cause of Allah and 8) wayfarers [Quran 9:60].

A close examination of above-mentioned heads makes it abundantly clear that the poor and needy are accorded top priority in government spending and thereby financial inclusion. This is a “divine arrangement” representing the essence of Islamic concern for poor and needy. Equally more important is the inclusion of debtors. It is to the credit of economic wisdom of Islam that debtors were considered for state help to clear their liabilities so that they remain zakahpayers, provided other conditions are satisfied. State level support to the debtors instills confidence in lenders whose lending is safe during any period of financial crisis. In the recent past, several countries have announced huge stimulus packages to bail out their financial institutions in the context of non-repayment of loans by the debtors. This particular approach of Islam needs to be seriously highlighted at different levels.

3. The strategy of infaq

Infaq is a frequently used word in the Holy Quran. It appears at sixty different places whereas zakah and sadqat that are mentioned in thirty and fifteen places respectively. It is clubbed with the belief in the “unseen” and offering of prayers [2:3]. Thus, it becomes an integral part of Islamic faith. It may be defined as faith-based non-zakah expenditure in the cause of Allah. The Prophet used the practice of infaq in three different ways:

  1. He nominated a certain person or group of persons to bear the physical or monetary cost of an assigned task.
  2. He made a general appeal for “volunteering” by some persons to do a certain job.
  3. He made a general appeal for “compulsory and maximum” physical and monetary contribution by all.

Although the situation has changed, the challenges before Muslims community largely remain same. Poverty is deep, unemployment is rampant, sufferings and subjugation are universal. The victims of these evils are poor only. The Islamic practice of infaq can be conveniently used either individually or collectively to provide financial assistance to the poor and marginalized.

3. Salient Features of Infaq

Certain important features of infaq are noted as under:

  1. A quantitative and proportionate relation between the ownership of means and amount of spending is not established.
  2. Infaq does not establish any quid pro quo relation between the transferor of funds and transferee. This also holds good in the case of zakah.
  3. The practice of infaq does not go without a reward. Undoubtedly, there is a heavenly reward both in this world and in hereafter.

5. Conclusion

Islam has presented before the world a very well thought-out strategy of financial inclusion. The target-based approach is followed whose primary beneficiaries are the poor and the needy. The onus of extending financial inclusion is greatly on the shoulders of the state. The state under the Islamic setup makes use of zakah and infaq in order to ensure financial inclusion of poor, needy and other marginalized groups.


Government of India: Report of the Committee on Financial Inclusion, 2008.

Peerzade, Sayed Afzal: Islamic Public Finance and Policy, Idarah i-Adbiyat i-Dilli, Delhi, 2004.

Peerzade, Sayed Afzal., "Infaq and the Notion of Merit Sector", www.iosminaret.org, [online Islamic magazine], Volume No. 3, issue No.22, 1-15th April 2009.

Siddiqi, Muhammad Nejatullah: Islamic Public Economics, Idarah i-Adbiyat i-Dilli, Delhi, 2000.

Thorat, Usha: “Financial Inclusion: The Indian Experience”, Reserve Bank of India Monthly Bulletin, July 2007.

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