Microfinance has been an effective tool for poverty alleviation; as the World Bank report on financial inclusion asserts, availability of continuous access to finance can break the poverty circle (World Bank 2010). In particular, microfinance enables poor households to engage in production and service economic activities, and earn sustainable income (Robinson 2002). Microfinance not only provides cash injection through different kind of microcredit schemes, but it is also a means of saving by depositing excess income for further usages and emergency (Zeller and Sharma 2002).
Microfinance had been practised in Indonesia for more than a century when the Dutch colonial administration, with support from prominent Javanese Muslim aristocrat,5 established a microfinance institution that was adopted from the Raiffesien cooperative model. The primary mission of the microfinance institution was to counter massive
5 The birth of the first cooperative microfinance in the town of Purwokerto in the Central Java region was supported by Raden Aria Wiriaadmadja. For his significant role, he has been recognized as a founding father of Bank Rakyat Indonesia (BRI 2012).
moneylender and usury loan practices in the Javanese communities (Henley 2009;
Robinson 2002). Since then the microfinance model has evolved into several variants of institutional form, legal status and modus operandi (Charitonenko et al. 2004; Holloh 2001; Robinson 2001).
It is the government’s objective to adopt microfinance in the poverty alleviation framework to support rural-agricultural development, the microenterprise and cooperative sectors. People living under the poverty line, in particular the destitute or the poorest of the poor, as discussed earlier, the government intervenes through social security assistance and community empowerment programs. The nature of the microfinance approach is a two-pronged model: subsidized and market-based mechanisms6 and it comprises diverse financial instruments including microcredit and credit guarantee schemes. In addition, for specific target programs, there is additional technical assistance, supervision, and other policy interventions needed to ensure the program has a broad outreach among poor people and microenterprises.
The objective of subsidized microfinance is to finance un-bankable borrowers and the near-poor households that run microenterprises. The main feature of this microcredit scheme is lower interest rates. Usually the interest rate is set by the government and uses the central bank certificate interest rate as a benchmark. In many cases, the loan is specifically designed for particular government programs in the agriculture sector, family planning, cooperative development, disaster recovery projects, and other anti- poverty and community empowerment activities. In comparison, commercial microfinance is targeted to well-established microenterprises that are run by better-off poor households, but technically are regarded as un-bankable borrowers by commercial bank standards. As it adopts the market-based practice, individual microfinance institutions determine a loan interest rate without interference from the government or other financial regulators and its orientation is to gain profitability and sustainability.
Beside the above division, the microfinance system is also classified into formal, semiformal and informal sectors, which refers to the regulatory framework applying to each sector (Gallardo 2001). The formal microfinance sector comprises of commercial
6 In the literature the microfinance model is also called ‘Welfarist’ for subsidized microfinance, and ‘Institutionalist’
for commercial microfinance. (See the more detailed discussion in Chapter 2.)
and rural banks. The semiformal microfinance sector consists of cooperatives and other government microfinance institutions. The informal sector consists of unregulated microfinance providers, including moneylenders. A more detailed discussion of the microfinance sector will be found in Chapter 4.
In addition to the conventional microfinance models in the middle of the 1990’s, Islamic microfinance has been introduced by a group of Muslim intellectuals and entrepreneurs in association with the initiation of an Islamic bank (Bank Muamalat Indonesia or BMI). The microfinance model is called Baitul Maal Wat Tamwil (BMT).
The initiative is inspired by pioneer of Islamic microfinance in Egypt in the 1960s (Abdul-Rauf 2010; Antonio 2004), and a non-interest-based cooperative system that was established by Islamic student activists in 1980 and the Linkage Program Between Bank and Community Group (Program Hubungan Bank dan Kelompok Sosial Masyarakat or PHBK) in 1988.
Similar to its counterpart, the Islamic banking system, the BMT approach is a faith- based microfinance system, and it adopts a profit-sharing financial intermediary system.
Azis (2004) points out that the origin of the BMT system is developed from an idealistic concept of an Islamic economy and religious teachings about poverty. Thus the BMT system employs a unique modus operandi by combining profit-oriented microfinance (Baitul Tamwil) and a philanthropic (Baitul Maal) mission. In addition, although it possesses distinctive Islamic microfinance characteristics, the BMT platform is a typically cooperative system and it is regulated under the Cooperative Law No. 25/1992.
By design, the BMT system is not affiliated with the government microfinance agenda;
it is linked to Islamic organisations, mosques, and Muslim communities. In the absence of government support, the BMT developed slowly until Indonesia was hit by the economic crisis of 1997–98. Since then the government has recognized the system and its approach was adopted to strengthen the post-crisis recovery and the poverty alleviation programs. Recently, the BMT sector has become one of the important players in the microfinance landscape. Its presence has been well recognized by the majority of Muslim societies and its distinctive financial methodology is also well accepted by Muslim clients. In short, the BMT demonstrates a promising development as an alternative microfinance institution for poor Muslim households.
To understand the dynamic phenomenon of the BMT approach, this study explores the development of the BMT system since its initiation and examines its role as an Islamic community-based microfinance system in the Special Region of Yogyakarta. This research is a case study in nature and Yogyakarta is selected because it is critically important to the BMT movement and the development of faith-based microfinance.