Sustainable Islamic microfinance institutions in Indonesia : an exploration of demand & supply factors and the role of waqf

Whereas Indonesia is the largest Muslim country in the world, the growth of Islamic microfinance institutions (MFIs) has being sluggish and far behind their conventional MFIs. Islamic MFIs are struggling to survive amid the fierce competition in the provision of microfinance services, from both the conventional and Islamic institutions. Meanwhile the high unemployment rate in Indonesia calls for searching for ways in which financing can be provided to the jobless and poor. One way to resolve this is to provide MFIs with low cost funds that can be used to finance viable micro-businesses. The aim of this thesis is to examine the demand and supply side factors related to operations and growth of Islamic MFIs. It also investigates the scope of integrating microfinance and waqf to enhance the social mission of providing access financial services and opportunities to the needy and the poor. A survey was conducted to explore the perceptions, understanding and preferences of 581 MFI’s borrowers from four MFIs—two Islamic (BMT and BPRS) and two conventional (BRI and BPR) in Indonesia. A total of 18 MFIs’ managers and two waqf managers/nazirs were interviewed. Secondary data, case-study and a focus group discussion (FGD) were also conducted in order to understand the problems. The results show that while the majority of MFI’s clients indicate preference for Islamic MFIs, in reality their choices of MFI are based on economic/finance (low interest rates and size of loan) and non-economic/non-finance factors (quality of services variables easiness, promptness, nearness, method and loan officers’ profile). While the MFIs clients prefer Islamic MFI compared to conventional, in the end, the practical and economic reasons became dominant factors in their choice of MFI. Therefore, the demand for Islamic microfinance can be enhanced if the level of their economic and non-economic factors can be brought to the levels of conventional MFIs. The research reveals that there is still a gap between needs and knowledge of Sharia’h financial products and services. When the practice of murabahah product is considered, there appears to be no difference in substance between conventional and Islamic MFIs. In order to understand the operational structure of each type of MFI, their performance was assessed by using the balanced scorecard (BSC) with four perspectives. A balanced non-financial and financial performance is extremely important to create sustainability for microfinance institutions. The relationships between the different components of BSC indicate strong significant correlations between the internal process and customer’s perspectives. There are also significant correlation between customer’s perspectives and learning-and-growth and slightly significant correlation between learning-and-growth and financial performance. Overall scores of the Balanced Scorecard from the four perspectives for MFIs cemented BRI as the best performer, BPRS in the second place, followed by BPR and BMT in the third and fourth place respectively. The advantage of BRI is partly due to robust government support which makes it difficult for other smaller MFIs to compete. In contrast, BMT showed a weak institutional structure in terms of internal processes, learning-and-growth and customer satisfaction. It seems that BMT is not managed well according to BSC’s key performance indicators. This thesis also proposes to add one more perspective i.e, Social Perspective, for ‘The BSC based Islamic MFIs’ Model’ to help waqf institutions to appraise and choose a MFI in a more balanced and comprehensive way. Social perspective comprises the social mission of Islamic MFIs which can be reflected in providing qard hassan and giving more opportunities to the needy, jobless and the poor to start their own micro business. Indicators of the social perspectives can be the amount of funds contributed for qard hassan, how many needy clients are being served, and how many months a MFI permits clients to use the qard hassan loan. Islamic MFIs such as BPRS and BMT are expected by Muslims to perform more social functions than others. Therefore, one way to implement the social mission is to incorporate qard hassan in BPRS and BMT’s operations to help the poor and jobless with the low cost loans to start their viable micro-businesses.