Humanomics

Emerald Article: A comparative study of financing small and cottage industries by interest-free banks in Turkey, Cyprus, Sudan and Bangladesh Mohammed N. Alam

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To cite this document: Mohammed N. Alam, (2008),"A comparative study of financing small and cottage industries by interest-free banks in Turkey, Cyprus, Sudan and Bangladesh", Humanomics, Vol. 24 Iss: 2 pp. 145 - 161 Permanent link to this document: http://dx.doi.org/10.1108/08288660810876859 Downloaded on: 03-05-2012 References: This document contains references to 50 other documents To copy this document: permissions@emeraldinsight.com This document has been downloaded 1216 times.

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A comparative study of financing small and cottage industries by interest-free banks in Turkey, Cyprus, Sudan and Bangladesh
Mohammed N. Alam
Department of Accounting, Sultan Qaboos University, Muscat, Sultanate of Oman
Abstract
Purpose The purpose of this paper is to demonstrate a comparative study of financing small and cottage industries (SCIs) by interest-free banks in different countries like Turkey, Cyprus, Sudan and Bangladesh. Design/methodology/approach The objectives are achieved by analyzing data based on an institutional network theoretical frame of references. The methodological approach used in the research is of a qualitative nature. Findings The research result shows that the lenderborrower network relationship, especially in case of financing rural-based SCIs by interest-free banks, differ from one country to the other even though the basic principles of interest-free financing remains the same. Originality/value The ideas of interest-free financing system (IFS) and its specific mode of lending funds towards rural-based SCIs. The research is useful to both financing organizations based on interest-free principles also small and cottage industry owners in developing as well as developed nations, where the Shariah-based IFS is working. Keywords Financing, Small enterprises, Turkey, Cyprus, Sudan, Bangladesh Paper type Research paper

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1. Introduction In less developed countries, as in developing nations in general, small and cottage industries (SCIs) play significant roles in the elimination of the unemployment problem, which remains a serious impediment to a nations economic growth. Although the large-scale industries are involved in mass-production and invest large amounts of capital, these industries are mostly urban based. Consequently, large-scale industries fail to play a significant role in solving unemployment problems related to the rural people. This is exactly where SCIs succeed better (Anderson, 1982; Macuja, 1981). A number of researchers (Ashe and Cosselett, 1989; Little, 1988; Little et al., 1987) in their studies have highlighted the issue as to how and to what extent this sector of economy contributes towards the development of a nations economy. The main contribution of this industrial sector is that it creates job facilities for many unemployed rural people in the country. Skilled workers can thus contribute towards the development of the national growth. In spite of its contribution towards economic growth small and cottage industry owners in almost all developing nations lacks institutional credit. In recent year the interest-free banks in different countries have started investing funds towards small and cottage industry sector. These banks usually apply various interestPaper was presented at the International Conference on The Paradigm of Unity of Knowledge and Socio-Scientific Reasoning, Asian University of Bangladesh, Dhaka, Bangladesh, December 17-18, 2005.

Humanomics Vol. 24 No. 2, 2008 pp. 145-161 # Emerald Group Publishing Limited 0828-8666 DOI 10.1108/08288660810876859

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free modes of finance while giving loans to the rural-based SCI owners. The article is designed to highlight on how and to what extent interest-free banking activities differ from one country to the other. The result reflects in this article is an outcome of the analysis of data collected through an empirical studies carried out in different nations like Bangladesh, Turkey, Cyprus and Sudan where interest-free banks finance to ruralbased small and cottage industry owners. In order to study this particular phenomenon, I used the institutional-network theoretical framework (Alam, 2002a, b), developed to study the lenderborrower network relationships between different interest-free financing organizations and small and cottage industry owners. The theoretical framework is developed based on Whitleys (1992a, b) business systems institutional concept and Janssons (2002) network institutional model. Whitley in his study highlighted on differences between firms within different business systems in Asian countries while Jansson (2002) used his model in studying differences between different Multi National Corporations (MNCs) in India. The comparative study in this article, which is based on the institutional-network approach mainly concerned with the findings of differences in financing the rural-based small and cottage industry sector by interest-free banks in different countries like Sudan, Bangladesh, Turkey and Cyprus. The article consists of three different sections. The first section includes a brief description of the theoretical and methodological aspects of the study. The second section includes a brief description of various financing modes used by interest-free banks and also a short description of different interest-free banks studied in different countries. The final and concluding section includes the research findings that relates to the comparative views of interest-free banks finance to small cottage industry owners in different countries under different economic, social and environmental situations. A qualitative nature of research methodology was used to understand in depth the lenderborrower network relationships between SCIs and interest-free banks. Since case studies reveal various facts about a particular phenomenon and allow a researcher to get very close to his or her informants, I used a case study method while collecting data from the field and interviewed different interest-free banks and their clienteles; rural-based small and cottage industry owners, in different countries. 2. Theoretical and methodological approaches As mentioned above, based on Whitleys (1992a) business system institutional approach, I developed an analytical frame of references to study the lenderborrower relationships between different financing organizations and rural-based small industries. The theoretical model designed in such a way that like the business system (Whitley, 1992a) different SCIs as well as financing organizations of similar nature are grouped and institutionalized into different SCI systems (SCIS) and different financing systems (FS). The model is used to carry out a comparative study between financing organizations under different FS and to observe as to how these financing organizations in different countries under review differ from each other while lending funds to small and cottage industry owners belonging to particular SCIS. In order to achieve the said objectives, I developed the concept of four components of different SCIS and FS. These components for example, are nature of organization, market organization, employment systems and authority and control systems. Accordingly to Whitley (1992b) a comparative analysis of the business system is the systematic study of these configurations and as to how they become established in

markets. Like Whitleys (1992b) business systems, different financial systems for example; interest-free FS (IFS) that includes interest-free banks, market-based FS (MBFS) such as conventional banks, cooperative FS (CFS), and traditional money lending system, viewed as particular arrangements of hierarchy-market relations that become institutionalized and relatively successful in a particular context. Based on Whitleys (1992b) business systems concept the IFS in the present study is seen as a financing business system of its own, with a foundation based on religion, having its own rules governed by the Islamic laws. A similar arrangement is also done to institutionalize different rural-based SCIs. Different SCIs of similar nature under studies are thus, grouped into three different SCIS, such as grass-root level SCIS, like poultry and diary and handloom industries, season-based SCIS like fish industries, and semi-mechanized SCIS like salt industries and wood industries. Since, the network relationship part of the hierarchy-market relationships is poorly developed in Whitleys (1992b) business systems approach, concepts of Janssons (2002) network institutional model was also taken into consideration for developing my theoretical frame of references. In his network institutional model, Jansson (2002) highlights network relationships between the MNC in India and major external parties in the product/services market like customers, intermediaries, competitors and suppliers. Since one of the main objects of the research is to study network relations between financial organizations and other major external parties in the financial market, especially the small and cottage industry owners, regarding the use of the network approach among many others (for example, Rasmussen, 1988; Kuklinski and Knoke, 1988; Anderson and Carlos, 1976; Easton and Araujo, 1991; Elg and Johansson, kansson, 1993; Aldrich and Whetten, 1981; Emerson and Cook, 1992; Easton, 1992; Ha 1984.), I found the concept of Janssonss (2002) model appropriate for the present study. Thus, based on the existing theoretical models as mentioned above, I developed the institutional-network model (Alam, 2002a, b) for studying the lenderborrower relationships between economic actors in different FS and actors in different SCIS. The theoretical model also includes various background and proximate societal institutions (Whitley 1992a, b) or societal sector institutions (Jansson 2002), like country culture, legal systems, religion, family/clan, government, etc., that have direct or indirect influences on lending and borrowing activities between different financing organizations and the rural-based SCI owners. 2.1 Methodological approach The methodological approach used in the study is a combination of both deductive and inductive (Glaser 1978, Strauss and Corbin 1990, 1994; Jansson et al., 1995). Initially, the research design was based mainly on Whitleys Institutional theory (1987, 1990, 1992a, b), and Janssons network institutional theory (2002), and also the network theories of kansson (1993). Kuklinski and Knoke (1988), Johanisson and Nowicki (1992), and Ha Based on the data collected from the field, I modified the originally defined theories to suit my research and finally developed the institutional network theoretical frame of references (Alam, 2002a, b). The research methodology applied in the study is of a qualitative nature (Jick, 1979; Merriam, 1998; Sherman and Webb, 1988; Patton, 1985). A qualitative type of research is characterized by collection of data directly from respondents in the field. In-depth interviews with senior officials of different interest-free banks and conventional banks were conducted during the field work. A case study (Yin, 1994) method was adopted as a research strategy in order to focus on contemporary phenomenon within the real life

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context of different interest-free banks and their relationships with their customers especially small and cottage industry owners. In order to collect data from the field direct interviews were conducted with different rural-based small and cottage industry owners and officials of different interest-free banks in countries like Bangladesh, Sudan, Turkey and Cyprus. 2.2 Characteristics of the components of IFS It is mentioned in the above section that like Whitleys (1992b) business systems the IFS is outlined as distinct ways of organizing economic activities in a market society and identified the major characteristics, according to which FS vary between institutional contexts. The characteristics of the components of Whitleys (1992b) business system are developed while structuring institutional-network framework with a view to studying differences in the economic activities between organizations under IFS and SCIs under different SCIS. The components or major characteristics of these FS are: the nature of dominant economic activities and resources, the structure of market relations, the nature of authoritative coordination and control systems and employment systems. These components of the FS are again analyzed in terms of a number of sub-characteristics that forms the basis for comparison across institutional contexts. A brief description of these characteristics is given below. 2.2.1 The nature of the organization of the FS. The nature of the organization of the FS is characterized by certain institutional factors. These are, for example, managerial discretion from owner, managerial homogeneity, growth focus, risk management and ownership. A short description of these features is given below. Degree of managerial discretion from owners. Managerial discretion from owners indicates the degree of independence of a manager from the control of owners of a firm. It affects the overall management and control mechanism of an organization. Different financing organizations due to the nature of ownership differ in the managerial discretion from owners. This is influenced by the trust factor. In many financing organizations where owners have strong trust and confidence in the managers role, management is given more independence to take strategic decisions. Business specialization and managerial homogeneity. Regarding the managerial homogeneity, Whitley (1992b, p. 68) observes that where senior managers are promoted internally, this is closely related to their homogeneity of experience and skill. It indicates the degree of homogeneity or similarity in the managerial skill in the financing organizations. Integration of different activities. The degree of integration of different activities mainly relates to the authoritative control of particular units within the organizations. The more the financing organizations deal with different projects or units, the harder it becomes to integrate these activities. This is due to the fact that diverse activities are harder to integrate. Growth focus. Growth focus relates to various factors like long or short-term investments and profit goals. Some organizations are characterized by long-term investment policies while others follow short-term policies backed by short-term profit goals. Thus, owners of an organization motivated by short-term profit goals concentrate on rapid growth of their organization. Risk management. Risk management is closely related to risk sharing, which may be either, internal or external in nature. Externalization of risk by an organization may be done through developing close ties between suppliers, customers, and other interest

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groups in an organizational field. Internalization of risk means that the financing organizations bear the risk. 2.2.2 Market organization of the FS. Market organization, the second broad component of the FS is characterized by certain institutional factors. These are, for example, information processes, duration of lenderborrower relationship, commitment to particular exchange partners, and scope of exchange relations. Information process. The information process concerns different techniques that exchange partners apply to collect information about their prospective clients. Different financing organizations apply different processes in collecting information, which mostly depend on the nature of customers and the types of business or production activities for which the money is borrowed. Duration of lenderborrower relationship. The specialization characteristic of the exchange partners develops the degree of interdependency between them. Long-term inter-firm relationships influence the scope of the exchange relations. The longevity of the lenderborrower relationships makes lenders become more familiar and known to the borrowers and vice versa. Thus, a long-term investment policy makes the extent of interdependency higher between organizations in the FS the borrowers. Commitment to particular exchange partner. While reporting different authors (for example, Gerlach, 1987; Orru et al., 1989), Whitley (1992a) argued that the risk-sharing between specialized enterprises implies a high level of inter-firm long-term obligations. The degree of commitment to particular exchange partners is related to the frequency of financial exchange. The commitment is also related to the reciprocity of the relationship. Scope of exchange relations. The scope of exchange partners relationships is closely related to specialization in particular exchange activities and degree of formalization of the relationships. The organizations in the Islamic FS due to their different financing techniques are characterized by a higher degree of business specialization, compared to those in the MBFS and CFS. Moreover, the informal type of lenderborrower contacts between organizations in the IFS intensifies the exchange partners relationships. 2.2.3 Employment procedures and staff relationships of the FS. The employment system consists of different features like bosssubordinate relationships, senioritybased rewards and incentives to employees. Like other business organizations, financing organizations are characterized by permanent or core workforce and seniority-based reward system and promotion. Size and ownership. The size of the financing organization in the present study is determined by the number of customers. Bosssubordinate relationship. This characteristic relates to the degree of the delegation of authority to subordinate staff. It is also influenced by control over the work of a subordinate by his or her boss. Incentives to employees. Incentives may be given by increasing salaries, giving prizes either in cash or kind, extra training and, by providing them with other necessary facilities. 2.2.4 Authority and control system of the FS. The authority and control system concerns the extent of coordination and integration of activities and capabilities within managerial hierarchies, (Whitley, 1992a, p. 13). This component of business system is concerned with various characteristics, like centralization of decision-making, delegation of authority system, and managerial involvement in working groups.

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Centralization of decision making. The centralization of decision making denotes the extent of the power and authority of the top manager in a firm. In some organizations, the boss may give authority to subordinates to make decisions, while in other cases the decision making lies in the hand of the top executives. Managerial authority may thus be centralized or decentralized; it depends on the nature of a particular organization. Delegation of authority. Delegation of authority is closely related to the centralization and decentralization of decision making. Managerial involvement. The managerial involvement in work groups denotes the degree of managers involvement in the activities of their subordinates. 3. Investment modes used by interest-free banks An interest-free bank may be defined as a financial intermediary whose objectives and operations as well as principles and practices must conform to the principles of Islamic law (Shariah); and, consequently, is conditioned to operate all its activities without interest (Alam, 2000a, b, 2002, 2003). The aim of Islamic economics, as observed by Molla et al. (1988), is not only the elimination of interest-based transactions but also the establishment of a just and balanced social order free from all kinds of exploitation. An Islamic bank is not only a financier but also a partner in business. The system essentially involves sharing of risk between the owner of capital and the entrepreneurs, as well as sharing the result of the collective efforts. Thus, it differs from an interestbased system in which the risk is mainly borne by the entrepreneur or by the user of capital. In other way we can call Islamic banking as participatory banking (Ahmad, 1981, 1994). Interest-free banks run their financing activities based on Islamic laws. The financing modes used by this type of banks are different from those in conventional banking system. This section includes a brief description of a few important financing modes or techniques used by interest-free banks while lending funds to customers (Alam, 2000a, b, 2003). 3.1 Mudaraba or capital financing Under the Capital Trust Financing or Mudaraba mode of financing interest-free banks supplies the entire capital of the business and the customer gives his time and expertise, which form a relationship between the supplier of capital and the user of capital. Thus the bank and the customer work together and share profits and losses. 3.2 Musharaka or partnership financing The word Musharaka means a profit sharing joint venture, designed to limited production or commercial activities of long duration. In this case the bank and the customer contribute capital jointly. They also contribute managerial expertise and other essential services at agreed proportions. Profit or losses are shared according to the contract agreed upon. An individual partner does not become liable for the losses caused by others. Due to this joint venture this technique is also known as equity participation mode of investment. 3.3 Murabaha (mark-up or cost-plus-profit-based financing) Khoja and Ghuddah (1997, chap. 1, p. 2), states that the mode of Murabaha sale connected to a promise is used by the interest-free banks which undertake the purchaser of commodities according to the specification requested by the customer. The bank then resell them on Murabaha to the one who promised to buy for its cost

price plus a margin of profit agreed upon previously by the two parties. Under the Murabaha mode of investment the bank agrees to purchase for a client who will then reimburse the bank in a stated time period at an agreed upon profit margin. The markup price that the bank and the buyer agree to is mainly based on the market price of the commodity. Thus the bank earns a profit without bearing any risk. 3.4 Bai-Muajjal or cost plus sale under deferred payment The Bai-Muajjal mode of investment is as like as a Murabaha mode of investment with an exception that the sale under this cost-plus sale modes investment is made on a credit basis rather than cash. The main feature of this technique consists in procurement of goods at the request of the client and selling it to him on credit. This mode follows the same conditions as Murabaha mode of investment except the following: (1) The bank transfers the possession of goods to the client before payment. (2) In order to cover the sale price of the goods the bank obtains collateral securities from the client. 3.5 Bai-Salam or advance purchase Under Bai-Salam mode of investment the bank purchases industrial and agricultural products in advance from their customers. The main features of this mode are: (1) The price is normally paid with the execution of an agreement. (2) According to the terms of agreement the bank receives the goods in due time. 3.6 Hire-purchase investment under Shirkatul Meelk Interest-free banks also invest funds under hire-purchase mode. Under this investment technique the bank sells building, transport and other valuable items to the client. The value of hire-purchase amount is payable in installments. When the client pays back the value of the goods including rent, the ownership is transferred to him. 3.7 Ijara or leasing The word Ijara indicates leasing. The leasing purchase is another technique followed by interest-free banks in financing customers. In this case the bank is called lessor and the customer is called lessee who wants to use the assets and pays rent. Zineldin (1990), in this regard argued that the leasing agreement is based on profit sharing in which the bank buys the movable or immovable property and lease it to one of its client for an agreed sum by installments and for a limited period of time into a saving account held with the same bank. These installments are invested in Mudaraba investment (venture) for the customers account. The accumulated profit generated from the payments, and the payments themselves are invested in the banks investment ventures over the time period of lease, contributing to eventual purchase of the leased assets. 4. Configuration of the hierarchy-market relations In order to see how the theoretical framework was developed in the present study it is necessary to study similar phenomena in different countries under different economical and cultural environments. The empirical data collected from field by direct interview with senior officials interest-free banks (see Appendix) in different nations under review were analyzed in accordance with their conformity to the institutional-network

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theoretical frame of references. The theoretical implications of the research show differences in many respects between the financing organizations within the Islamic FS. This section presents a summarized view of major differentiating characteristics of Islamic FS under four broad heading mentioned in the earlier section; the nature of economic actors (interest-free banks in different nations) and their development, market organization, employment system and the internal co-ordination and control systems of managerial hierarchies. The influences of the background institutions that influence the lenderborrower relationships also differ from country to country. A configuration of various characteristics under four components of the IFS in different countries under review is shown below in Table I. 4.1 Analysis of differences in hierarchy-market relation and institutional influences A brief description of differences as noted in the above table is given in the following paragraph before highlighting in detail, about the similarity or dissimilarity among various components of hierarchy-market relations and the institutional influences on the activities of interest-free banking organization in different countries under review. With regards to the contact with customers the study observes that interest-free banks in Sudan, Cyprus and Bangladesh maintain a direct contact with their
Bangladesh Market organization Information process Interdependence of lenderborrower Commitment to particular exchange partner Exchange relations with partners Reliance on personal ties and trust Employment systems Boss subordinate relationship Job training for staffs Importance of seniority based rewards Incentives to employees Authority and control systems Centralization of decision making Reliance on formal co-ordination and control procedures Delegation of power and authority system Importance of managerial involvement Importance to staff morale Influences of societal sector Characteristic Religious faith Political systems Legal system Country culture Sudan Turkey Cyprus

Formal/informal Formal/informal Formal High High Medium High High High High High High Medium Medium Medium Formal High Low High High High Medium Low Medium

Formal Low Low Medium High Mixed Low Low Low High Medium Medium Low Medium

Formal/ informal Mixed High Medium High Low High Medium Medium High Medium High Medium Low Low High Medium High

Table I. Configuration of the hierarchy-market relations of IFS in Bangladesh, Sudan, Turkey and Cyprus

High effect Medium effect Medium effect High effect

High effect Low effect Low effect High effect

Low effect High effect High effect Medium effect

Low effect High effectHigh effect Low effect

customers. In Turkey, apart for direct contact the bank uses various media to reach the ultimate customers. The bank customer relationships in Cyprus and Turkey are more formal than that of Sudan and Bangladesh. Interest-free banks in Turkey and Cyprus like other conventional banks in the country follow various formalities while lending funds to their customers. Like Bangladesh interest-free bank in Sudan also thinks that if rural customers are educated with regards to their moral behavior and spending and saving habits, etc., it might help in promoting public savings and its proper utilization towards productive sectors. Thus the banks may also be assured of the proper use of their borrowed funds. In Turkey and Cyprus interest-free banks do not consider much on the aspects of moral teaching, rather these banks are mostly concerned with customers economic conditions and the ability to give collateral securities for borrowing funds from the bank. It is also observed that the loan administration tendency of the interestfree bank in Cyprus and in Sudan is much more intense than those in other two countries. It is reported by respondents that at the initial stage customers misused the partnership (Musharaka) mode of lending funds of the IFS. Due to that the bank stopped lending funds on this particular mode of investment. In Sudan the interest-free bank lends funds to customers on the partnership mode of finance. In compare to Sudan and Bangladesh the reliance on bank-customer personal network is not as high as in the case of interest-free banks in Turkey and Cyprus. It is due to the fact that in Turkey and Cyprus interest-free banks mostly maintain formal relationships with their customers. A detailed description of the research findings is highlighted in the following section. 4.2 Musharaka (profit and loss sharing) mode of financing in Sudan It was found from the study that among all financing organizations in the IFS interviewed, only the Sudanese Interest-Free Bank (SIB) in Sudan uses the Musharaka (profit and loss sharing) mode of financing while lending funds to the rural-based SCI sector. This type of FS works in Sudan in a way that the SCIs owners with the help of the bank officials determine the amount of capital they require to start SCI production. The borrowers contribute a certain percentage of the capital and the bank pays the remaining. Thus, the lender and borrowers establish a relationship as partners. This method of lending stipulates that financing organizations and borrowers together contribute capital and share profit and losses according to the exchange agreement (Sudanese). Conversely, in Turkey and Cyprus, the Islamic financing organizations mainly follow the Murabaha (cost plus profit) mode of finance. The single Islamic financing organization in Cyprus and a few in Turkey tried to introduce the profit and loss sharing method of the IFS, but they could not realize the desired objectives since they had an environment that could not sustain business potentials for partnership systems. Since they faced various problems in lending funds in the Musharaka mode of finance, these financing stopped practicing this financing technique. The Musharaka mode of financing that the financing organization in the IFS in Sudan use is almost like a supervisory system of crediting. My findings were that, according to the policies of the financing organizations in the IFS in this country, the partnership manager known as the Musharaka manager arranges that their staff pay regular visits to customers premises to supervise their activities. Apart from that the bank officials help their clients in maintaining books of accounts and prepare periodical income statement for determining profit or loss of the business. The

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financing organization also assists SCIs owners in creating marketing facilities for the SCIs products[1]. This arrangement builds a close and trust-filled network relationship between the exchange partners, strengthens the exchange partners commitment to one another, and provides opportunities for the financing organizations in the IFS to get to know their customers and their behavior well. Since the credit policies of the financing organizations in IFS in Sudan are characterized by long-term lenderborrower relationships, the levels of interdependency and commitment to ones exchange partners in these countries were found to be higher than those in Turkey and Cyprus. 4.3 An informal way of processing information It is understood from the study that the financing organizations in the IFS in Sudan contact various interest groups and local leaders in the locality to collect information about potential SCIs customers before they will lend funds to them. The financing organization uses more informal means of collecting information about borrowers. In Turkey and Cyprus, the financing organizations in the Islamic FS collect information about their borrowers following the same principles as the other conventional financing organizations. However, in many cases they go beyond formal procedure to collect information about their customers. The study then concluded that although the Islamic financing organizations in Turkey and Cyprus mostly follow formal lenderborrower network relationships, the process of collecting information about customers consists of both formal and informal types. 4.4 Usage of medias In Turkey and Cyprus, the Islamic financing organizations spend huge amounts of money to inform the general public about the newly developed FS in these countries. It was known from the study that almost all Islamic financing organizations in Turkey and Cyprus use several methods to do this. They will regularly arrange interviews with TV personalities, advertise in special newspapers, and publicise in various national news medias, economic magazines, television, and on the radio to get the message out. Conferences are also hosted in various hotels and public places; seminars and lectures are arranged to be held where leading businessmen, members of parliament, leading personalities, well known scholars, bankers, and journalists working for news media are able to attend. Thus, it was concluded that the information technology used by financing organizations in Turkey and Cyprus regarding the collection of information about potential customers together with information distributed to the general masses about financing organizations differs from methods used in Bangladesh and Sudan. 4.5 Correspondence banks an exception to the IFS in Turkey It was found from the study that in Turkey, financing organizations in the IFS assist customers by providing necessary services through the correspondence banks. These services were not found in any other countries under review. This sort of arrangement is done mainly for the people who are interested in becoming customers of the financing organizations in the Islamic FS in an area where there are no branches of such organizations. The financing organizations the IFS make an arrangement with the countrys different conventional banks in their area to assist customers financing organizations in the IFS with carrying out lending and borrowing activities. These conventional banks work as Correspondence Banks for the financing organizations

in the IFS and charge fees for their services. The exchange functions that the financing organizations in the IFS accomplish through the Correspondence Banks indirectly develop the lenderborrower relationships between the financing organizations in the IFS and in other FS and also the rural-based SCI owners. 4.6 Subsidiary companies for financing organizations in the IFS According to the laws of the state, the financial systems in Turkey and Cyprus do not allow any financing organization to lend funds to customers other than cash. The countrys financial systems prohibit the exchange transactions between lender and borrowers in-kind or materials based. The lending and borrowing of funds must be carried out with cash. It is known from the study that the Murabaha and the BaiMuajjal (cost plus profit) modes of lending funds of the financing organizations in the IFS do not give loans to customers in the form of cash; rather, the bank uses the loan amount to buy the raw material for customers. We mentioned earlier that in Turkey and Cyprus, the financing organizations in the IFS mostly follow that Murabaha mode of lending funds. Due to the restrictions placed on them by the government, every financing organization in the IFS in Turkey has its own subsidiary companies. Customers of these financing organization who borrow funds on either the Murabaha or Bai-Muajjal (cost plus profit) mode are required to bring pro-forma invoices for goods from a supplier. In that type of situation, the subsidiary companies of the lending organizations act as suppliers for the customers. In order to accomplish this exchange function legally, the financing organizations pay their subsidiary companies cash and the particular customers account are debited with the amount paid based on the proforma invoice. The study made it apparent that this system of buying goods from the subsidiary companies owned by the lending organizations often frustrated customers. This was due to the fact that customers were bound to buy goods from the specific subsidiary company but they did not have any options to borrow funds. 4.7 Different views of the government in Turkey In Turkey, although Islamic financing organizations are privately owned organizations, the government has indirect control over their activities. For example, financing organizations in the IFS in Turkey are not formed in accordance with the countrys normal financial regulations. Rather, these are established with the nations Special Decree. Even though these financing houses are rendering services according to the Islamic Sharia (Law), they are not allowed to call themselves interest-free banks or Islamic banks. They are called OZEL FINANS KURUMLARI meaning Special Finance House. These Finance Houses have been established in accordance with the Special Decree of the government, dated December 16, 1983 (No. 83/7506) for the formation of a Special Finance House and are commonly refereed to as interest-free banks. The legal systems in Turkey and Cyprus are lengthy and costly. It is thus concluded that the financing organizations in the IFS in Turkey and Cyprus experience limitations from legal and political systems while carrying out the exchange functions. 4.8 Personal trust not a prime requirement in Turkey and Cyprus The study revealed that neither the financing organizations in the IFS nor the SCIs in Turkey and Cyprus relied much on personal trust and ties between each other. As mentioned above, the financing organizations in Turkey contacted customers in a formal way and the lenderborrower relations are mostly of formal types. The

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financing organizations do not rely on the personal ties and the trust of their customers in doing business. Since the financing organizations in the IFS in Sudan use the Musharaka mode of financing while lending to the SCIs in different SCIS, more importance is given to the personal trust of their customers because it ultimately intensifies the lenderborrower relationships. 4.9 Differences in working environments It was revealed from the study that hierarchical working relationships within the Sudanese financing organizations consist of both a formal and informal types. It was noted that, in many cases, senior staff members maintained close and informal relationships with their juniors. In the Cyprian Interest-Free Bank, the head office and the branch offices do not hire very many people. This facilitates better contact between staff members since there are less people to go through to reach the person you need to speak to. This in turn improves the network of the relationships. On the other hand, the Turkish financing organizations in the IFS maintain formal supervisor-staff relationships. However, they do possess unique methods of meeting each other informally. They like to meet for lunch within bank premises and pray together. These sorts of activities create a greater understanding between workers at all levels. 4.10 Matters of religious faith It was revealed from the study that the customers of the financing organizations in the IFS in Sudan are more concerned about religious faith and their dedication to it than the other countries under review were. This results in the promotion of trustful relationships between the lender and the borrowers. It was also found that many people in Turkey were also conscientious of their religious faith since they refuse to save money or to carry out any financial transactions with any interest-bearing financial organizations. The financing organizations in the IFS accepted huge idle finds as deposits from the public soon after they started their interest-free financing activities and thus assisted the country in mobilizing public savings towards productive sectors[2]. A few customers of the bank informed that in many cases financing organizations in the other FS could not provide satisfactory services that they normally received from the financing organizations in the Islamic FS. In Cyprus, the religious faith has very little effect on the exchange functions of the IFS. 4.11 Attitudinal differences in social culture A countrys social culture, like its religious systems, norms and habits, influences the exchange activities of its financing organizations in the IFS differently in different societies. The study demonstrated that in Sudan the rural people were fond of passing time without work and enjoyed gossiping with friends. They love to spend hour after hour in marriage ceremonies and other cultural activities. It is part of their cultural beliefs to entertain guests by spending a great deal of time with the person. As a host, it is considered wise to make the guests happy by giving them time. The financing organizations in the Islamic FS in Sudan started teaching their customers to make proper use of the time and advised them to devote themselves in productive activities. 5. Conclusions The Islamic FS is a recent innovation in the money market of many developing nations. The financing organizations under this FS are yet to develop many of their policies.

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The study reveals the fact that, although with trial and error basis these organizations are trying to work along with other financing organizations in the country, they need strong government support so that their financing policies may work well at all levels of economy.
Notes 1. During the field study in Sudan while I visited some SCI owners in Omdruman, a suburb of Khartoum, it was noted that the SIB preserves various types of SCI products within a show room on the bank premises that is reserved for and belongs to their SCIs customers. This arrangement was as the bank manger said is an attempt to market customers products. Thus, the bank creates marketing facilities for their different customers who borrow funds from the bank in Musharaka financing mode. 2. The report of the interview with the Managing Director of Ihlas Finance (one of the interest-free finance houses) revealed the fact that in Turkey, soon after different finance houses started operating financing activities, an estimated amount of USD 70 million in gold or money was collected from public who kept their money under the proverbial mattress to avoid interest. Interest-free finance houses in Turkey thus allowed Turkish brokers to successfully utilize idle funds in the financial sector by offering interest-free services to their customers. References Ahmad, K. (1981), Towards a Monetary and Fiscal System of Islam, Institute of Policy Studies, Islamabad. Ahmad, K. (1994), Elimination of Riba: concepts and problems, in Ahmad, K. (Ed.), Elimination of Riba from the Economy, Institute of Policy Studies, Islamabad, pp. 33-53. Alam, M.N. (2000), Islamic banking systems: a challenge in the modern financial market, International Journal of Islamic Financial Services, Vol. 1 No 4, pp. 10-28. Alam, M.N. (2002a) Financing small and cottage industries in Bangladesh by Islamic banks: an institutional-network approach, PhD thesis, University Press, Lund. Alam, M.N. (2002b) Institutionalization and Promotion of Saving Habit Through Bai-Mujjal Mode of Financing (A Unique Means of Mobilizing Rural Savings Towards Productive Sources), Alternate Finance, ITDG Publishing, London. Alam, M.N. (2003), Institutionalization and promotion of saving habit through Bai-Mujjal mode of financing (a unique means of mobilizing rural savings towards productive sources), Managerial Finance, Vol. 29 No. 2-3, pp. 3-22. Aldrich, H. and Whetten, D.A. (1981), Organisation sets, action sets, and networks. Making the most of simplicity, in Nystrom, P.C. and Starbuk, W.H. (Eds), Handbook of Organizational Design, Vol. 1, Oxford University Press, Oxford, pp. 385-408. Anderson, D. (1982), Small industries in developing countries, Staff Working Paper No. 518, World Bank, Washington, DC. Anderson, B.O. and Carlos, M.L. (1976), What is social network? Power and control, social structures and their transformation, Studies in International Sociology. Annual Report, ABBL (1995), Al-Baraka Bangladesh Bank Limited, Dhaka. Annual Report, IBBL (199-1996), Islami Bank Bangladesh Limited, Dhaka. Annual Report, SIBL (1995, 1996), Social Investment Bank Limited, Dhaka. Annual Report, IFH (1996), Ihlas Finance House, Istanbul. Annual Report, FFI (1996), Faisal Finance Institution, Istanbul. Annual Report, ABTFH (1996), Al Baraka Turkish Finance House, Istanbul.

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Annual Report, KTEF (1996), Kuwait Turkish Evkaf Finance House, Istanbul. Annual Report, AFI (1996), Anadolu Finance Institution, Ankara. Annual Report, AFH (1996), Asiya Finance House, Istanbul. Ashe, J. and Cosselett, C.E. (1989), Credit for the Poor: Past Activities and Future Directions for the United Nations Development Programme, UNDP Policy Discussion Paper, United Nations Publications, New York, NY. Easton, G. (1992), Industrial networks: a review, in Axelsson, B. and Easton, G. (Eds), Industrial Networks. A New View of Reality, Routhledge, London, pp. 1-36. Easton, G. and Araujo, L. (1991), Language, metaphors and networks, paper presented at the 7th I.M.P. Conference, International Business Networks; Evaluation, Structure, and Management, Uppsala. Elg, U. and Johansson, U. (1992), Samspelet mellan Struktur och Agerande i Dagligvarukedjan. En tverksperspektiv, Lund University Press, Lund. Analys ur Ett Interorganisatoriskt Na Emerson, R.M. and Cook, K.S. (1984), Exchange network and the analysis of complex organisation, Research in the Sociology of Organisation, Vol. 3, pp. 1-30. Glaser, B.G. (1978), Theoretical Sensitivity, Sociology Press, Mill Valley, CA. kansson, H. (1993), Industrial Network and Technological Innovation, Uppsala University, Ha Stockholm School of Economics, Stockholm. Jansson, H. (2002), International Business Management in Emerging Markets. Global Institutions and Networks, Book Manuscript, Baltic Business School, University of Kalmar, Kalmar. Jansson, H., Saqib, M. and Sharma, D. (1995), The State and Transnational Corporations. A Network Approach to Industrial Policy in India, Edward Elgar, Aldershot. Jick, T.D. (1979), Mixing qualitative and quantitative methods, triangulation in action, Administrative Science Quarterly, Vol. 24, pp. 602-11. Johanisson, B. and Nowicki, K. (1992), Using networks to organise support for entrepreneurs. A graph analysis of Swedish contexts, paper presented at the Babson College Entrepreneurship Research Conference, Fontainebleau. Khalifa, M.U. (1992), Musharaka finance: an optimum risk management approach to small farmers, paper presented at the Risk Management Workshop held in Damascus, 24-27 May. Khoja, E.M. and Guddah, A.S.A. (1997), Instrument of Islamic Investment, Research & Development Department, Al-Baraka Investment & Development Co. Islamic Bank & Finance, Banking & Finance, available at: www.albaraka.com/Islamicinfo/IslamicBooks/ Instrument Kuklinski, J.H. and Knoke, D. (1988), Network Analysis, Qualitative Applications in the Social Sciences, Sage, Beverly Hills, CA. Little, M.D. (1988), Small manufacturing enterprises and employment in developing countries, Asian Development Review, Vol. 6 No. 2. Little, I.M.D., Mazumdar, D. and Page, J.M., Jr. (1987), Small Manufacturing Enterprise, Oxford University Press, NY. Macuja, P.C. (1981), Small scale industry development in the Philippines, Small Industry Bulletin for Asia and Pacific, No. 21, pp. 182-9. Merriam, S.B. (1998), Qualitative Research and Case Study Applications in Education, Jossey-Bass Publishers, San Francisco, CA. Molla, R.I., Moten, R.A, Gusau, S.A. and Gwandu, A.A. (1988), Frontiers and Mechanics of Islamic Economics, University of Sokoto, Sokoto.

Patton, M.Q. (1985), Quality in qualitative research: methodological principles and recent development, invited address to Division J of the American Educational Research Association, Chicago, IL, April. Rasmussen, J. (1988), Goodbye theory hello reality? Recent trend in social and regional theory its consequences for network studies in Africa, Centre for Development Research (CDR) Working Paper 88.3, Roskilde University, Roskilde. Sherman, R.R. and Webb, R.B. (1988), Qualitative research in education: a focus, in Sherman, R.R. and Webb, R.B. (Eds), Qualitative Research in Education: Focus and Methods, Falmer Press, Bristol, PA. Strauss, A.L. and Corbin, J. (1990), Basics of Qualitative Research, Grounded Theory Procedures and Techniques, Sage, Thousand Oaks, CA. Strauss, A.L. and Corbin, J. (1994), Grounded theory methodology: an overview, in Denzine, N.K. and Lincoln, Y.S. (Eds), Handbook of Qualitative Research, Sage, Thousand Oaks, CA. Whitley, R.D. (1987), Taking firms seriously as economic actors: towards a sociology of firm behaviour, Organization Studies, Vol. 8, pp. 125-47. Whitley, R.D. (1990), Eastern Asian enterprise structure and the comparative analysis forms of business organization, Organization Studies, Vol. 11 No. 1, pp. 47-74. Whitley, R.D. (1992a), Societies, firms and markets: the social structuring of business systems, in Whitley, R. (Ed.), European Business Systems. Firms and Markets in their National Contexts, Sage, London. Whitley, R.D. (1992b), Business System in Asia: Firms, Markets and Societies, Sage, London. Yin, R.K. (1994), Case Study Research, Design and Methods, Sage Publication, Beverly Hills, CA. Zineldin, M. (1990), The Economics of Money and Banking: A Theoretical and Empirical Study of Islamic Interest-Banking, University Press, Stockholm University, Stockholm. Further reading Annual Report, FIBK (1996), Faisal Interest-Free Bank Kibris, Lefkosa, Nicosia. Annual Report, SIB (1994), Sudanese Interest-Free Bank, Khartoum. Appendix. A brief description of different interest-free banks interviewed in Bangladesh, Sudan, Turkey and Cyprus Interest-free banks in Bangladesh. Islami Bank Bangladesh Limited (IBBL) Based on Islamic principles and Shariah (Islamic law) with an authorized capital of TK. Five hundred million (12.5 US million dollars) the interest-free bank in Bangladesh, called IBBL was incorporated on March 13, 1983 as a Public Limited Company under the companies Act. 1913. The bank started its financial activities with effect from March 30, 1983. This is one of the first interestfree bank in South Asia and South East Asia. The opening of interest-free bank in Bangladesh brought a new era in the history of the countrys financial market. With the introduction of the countrys first interest-free bank a long cherished desire of many Muslims in the country was realized. The total number of branches of the bank as on December 1995 stood at 83. The bank had taken steps to spread its activities towards rural areas of Bangladesh (Annual Report IBBL, 1995). Al-Baraka Bank Bangladesh Limited (AL-BARAKA). Four years after the establishment of the IBBL the Al-Baraka Bank Bangladesh Limited, commenced its banking business as a scheduled bank in the country in May 1987. This bank is the second largest interest-free bank in the country. It is a joint venture enterprise of Al Baraka Investment and Development Company, a renowned financial and business house of Saudi Arabia, Islamic Development Bank (IDB), a group of eminent Bangladesh industrialists and the Government of Bangladesh (Annual Report ABBL, 1995).

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Social Investment Bank Limited (SIBL). The SIBL, one of the four interest-free bank in Bangladesh, is a three sectors unique model joint venture bank working together for a caring society in Bangladesh. The three sectors of the bank activities are consist in formal, non-formal and voluntary sector. The bank was incorporated in Bangladesh in the year 1995 as a banking company under the Companies Act, 1994. The bank performs all types of commercial banking services that are provided by the bank within the stipulation laid down by Banking Companies Act, 1991 and directives issued by Bangladesh bank from time to time (Annual Report SIBL, 1995, 1996). Interest-free banks in Turkey Although Islamic principles dominate the entire activities of FOs in the IFS in Turkey yet, it is constitutionally prohibited to use the word Islam before any financial organization. Due to this reason all-financing organizations in the IFS that are rendering financial services based on Islamic Shariah (law) are called OZEL FINANS KURUMLARI meaning Special Finance House. These finance houses have been established in accordance with the special decree of the government, dated December 16, 1983 (No. 83/7506) for the formation of a Special Finance House and are commonly refereed to as interest-free banks. There are five such financing organizations in Turkey. A brief description of these financing organizations is given below. Ihlas Finance House (IFH). In Turkey, IFH is very much popular as a group of companies in the industry, trade, media and finance sectors. The Ihlas Finance Kurumu A.S, also known as an interest-free financial organization, belongs to the IHLAS group. Shareholders and percentage of shares of shares of Ihlas Holding, in 1996, was Ihlas holding A.S 64.77 per cent, public 15 per cent, Trkiye Diyanet Vakf 8 per cent, others 2.23 per cent (Annual Report IFH, 1996). Faisal Finance Institution (FFI). FFI was incorporated by the Decree of Turkish Council of Ministers, dated June 11, 1984, which is based on an earlier decree of the council of Ministers December 1983. On receipt of the Operation License from the Central Bank of Turkey FFI commenced its financial activities on April 2, 1985. Major shareholders of this finance house is consists of Dar Al Maal Islami Trust 64.23 per cent, Faisal Islami Bank of Egypt 18.57 per cent, Faisal Islami Bank of Sudan 2.08 per cent, and MFI Bahrain 5.00 per cent (Annual Report FFI, 1996). Al Baraka Turkish Finance House (ABTFH). ABTFH, known as Al Baraka Turk started rendering banking services to the public in June 1988, after the bank was registered in Istanbul Stock Exchange. This is the first interest-free bank in Turkey. The bank was established in the year 1983, with a special decree of the government of Turkey. The Al Baraka Turkish Finance House received its official permits to operate financial activities, from the central bank of Turkey on January 21, 1985. Individual and institutional investors residing in the Gulf and Saudi Arabia possess 80 per cent of the capital. In total the company has 221 shareholders (Annual Report ABTFH, 1996). Kuwait Turkish Evkaf Finance House. Kuwait Turkish Evkaf Finance House (the Institution) (KTEFH) was formed on December 16, 1983, in accordance with the provision of special decree the Government of Turkey, relating to the establishment of Special Finance House in the country. In February 1989, the institution obtained permission from the central bank of Turkey and started their financial activities on March 1989. Major holders of share of the KTFFH are Kuwait Finance House 49.99 per cent, Turkish Foundation General Directorate 29.95 per cent, IDB 9 per cent and The Public Institution for Social Security Kuwait 9 per cent (KTEFH, Annual Report KTEFH, 1996). Anadolu Finance Institution (AFI). AFI was established in November 1991. AFI is the first special financial institution founded by 100 per cent domestic capital (Annual Report AFI, 1996). Asiya Finance House (AFH). Besides the above FH, AFH is one of the newly started interest-free banks, which started its activities a few months before my visit to Turkey in the year 1997.

Although I interviewed a few senior officials of the bank yet no detailed data was available for which this bank is not included in the present discussion (Annual Report AFH, 1996). Interest-free bank in Cyprus Faisal Interest-Free Bank Kibris (FIBK). In T.R.N. Cyprus, the Faisal Interest-Free Bank of Kibris (FIBK) was established in late 1982 (under the name of interest-free bank of Kibris). The bank started its operation in March 1983 in Lefkosa (Nicosia) with an authorized capital of US $ 350,000. Arab subscribers paid the entire amount of capital. At present the bank is having three branches including the principal branch located in the head office building, in Lefkosa. One branch is in Gazi Magusa (Famagusta) and the other is in Girne (Kyrenia). In the year 1996 the branch in Gazi Magusa reduced their banking activities due to the cut down of many productive activities in that locality. Interest-free banking services are mainly based on commodities rather than cash, but as in the case of Turkey in Cyprus also the laws of the state do not allow banks to deal in commodities. For that reason, Faisal Interest-Free Bank set up a subsidiary, in 1984, especially for its Morabaha (mark-up trading) transactions, called Faisal Islamic Investment Company. The paid up capital of the bank and the Investment Company together was raised to 1 million US dollars in 1984 and 2 million US dollars in 1985. In addition to these, in 1993, the Mercedes Local Agency has been acquired and consequently, a separate subsidiary company, namely Dunya Oto Ltd. has been put into operation. Interest-free bank in Sudan SIB started giving credit in early 1988 to small farmers and rural SCI owners on a Musharaka (partnership financing) mode of investment. To assists rural-based small farmers and SCI owners SIB started many pilot projects based on Musharaka financing principle of interest-free banking. One of these projects is called The productive family project. Sudan is basically an agricultural country. But to develop this sector of economy the government did not take sufficient steps. The Agricultural Bank of Sudan (SAB) is the only government agency that supplies capital to farmers. Small farmers normally are deprived of using facilities from this bank. They traditionally, get their finance from private and family sources. SAB failed to succeed in rendering its proper services towards small farmers in rural Sudan. The failure was due to various reasons such as, lack of providing comprehensive financing, small farmers inability to afford to provide grantor, slow procedure of giving loan, high cost of credit and interest on loan that religious farmers reject to pay. While highlighting on the role of conventional banks in Sudan, Khalifa (1992), argues that the formal financial market failed to function efficiently and to reach the small farmers in the agrarian sector. It is basically due to the failure to accommodate the risk aversion attitude of the small farmers in their finance model. The authors further argue as; consequently, the small farmers resorts to the informal financial markets (village merchants). The informal market is characterized by quick response to the small farmers credit needs, in addition to no collateral requirement. However the informal finical market charge externally high monopoly rents amounting to over 300 per cent, thus defeating the sole purpose of credit objectives. To overcome this problem the SIB started giving loan to agricultural and other small manufacturer on a Musharak mode of Islamic FS. Corresponding author Mohammed N. Alam can be contacted at: nurul@squ.edu.om, mna5@rogers.com, mna3@ hotmail.com

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