Taleesan Abdullah

Pakistan is currently facing a historic poverty crisis, with 29% of the population being under the poverty line and unable to meet basic needs. A large majority of people from rural and informal areas still lack basic financial services, so at the same time, there is also a problem of financial exclusion, which leads to excessive poverty in Pakistan. Conventional finance has attempted to address this gap, but it often traps lower-income groups in cycles of high interest rates, hindering our goal of alleviating poverty. In this regard, we will examine the role of Islamic Microfinance, based on risk sharing and ethical financing, and interest-free principles, as a tool for poverty alleviation in Pakistan. Islamic Microfinance is based on Shariah principles and prioritises social welfare and productive loans over high-interest traps. It provides a culturally aligned pathway for Muslims to enter the formal economy with dignity by eliminating Riba (Interest). 

                                                  Source: State Bank of Pakistan (SBP) Financial Inclusion Data, 2024-25

Problem Statement: Traditional Microfinance reinforces cycles of indebtedness. It keeps the people in a “Debt Trap”. Conventional microfinance bank services affect nano-entrepreneurs, preventing them from moving up the economic ladder, and people who fear “Riba” for religious reasons, thereby excluding them from the formal economy.

Source: State Bank of Pakistan 2026

Background: Following the 2008 global financial crisis, the banking system of Pakistan saw a pivot from the conventional microfinance banks, due to being interest-based, to Islamic microfinance based on the principles of Muakhat (Brotherhood), and involves shariah-compliant contracts like: Murabaha (Cost-plus-profit), Ijarah (Leasing) and Qard-al-Hasan (Interest-free loans). 

However, despite growing public preference for IMFs (Islamic Microfinance Banks), they account for only about 23% of the total microfinance share in Pakistan.

               Source: Market Analysis and State Bank of Pakistan Reports (2025-26), Research Gate

   Source: Riphah Journals 2024

 Analysis: If we analyze the reasons for conventional microfinance banks failure in alleviating poverty and why Islamic Microfinance should be the new way, we look at the following 3 points: 

High Cost of Capital

Traditional microfinance banks borrow from commercial banks at high cost, while the Islamic banks emphasise risk-sharing and utilise models like Zakat (Almsgiving) and Waqf (Endowments) to subsidise operational costs.

Social Stigma

A significant portion of people avoid the Riba system for religious purpose keeping them out of the formal economy and increasing financial exclusion

Asset Ownership

Interest-based loans provide cash, used for emergency purposes while models like Murabaha of Islamic finance emphasize ownership of actual assets like

Source: Pakistan Microfinance Network (PMN) Annual Reports, State Bank of Pakistan (SBP), The journal of Asian Economics, Social Policy and Development Centre (SPDC), Pakistan.

Compared to conventional microfinance banks, some important benefits of the Islamic microfinance banks to society also include:

1). Gender Uplift


Provides a safer entry point for risk-averse female entrepreneurs,

2). Per Capita Income Growth.

By providing interest-free loans, the household acquires a productive asset, and the entire surplus remains with the household, thereby increasing per capita income and reducing poverty.

3). Educational Uplift


There is also a positive correlation between Islamic loan cycles and increased school enrollment among borrowers’ children, thereby improving human capital and alleviating poverty in the long run.

Policy Recommendations: The following policy recommendations are to be taken to improve the microfinance banking system of Pakistan and tackle poverty:

Conclusion: The Islamic microfinance model is a superior choice and more tailored to the Pakistani mindset. It provides loans to the needy without interest to help them remain at ease from a religious point of view. Evidence from Pakistan demonstrates high repayment rates of up to 99.99% for Islamic loans, while supporting vulnerable populations. Strengthening our Islamic microfinance and making it an integral part of our financial system will help us achieve maximum financial inclusion and alleviate poverty in the nation. If Pakistan wants to improve its financial system and pull the 28.9% people out of poverty and above the poverty line, then it must shift from “lending to poor” to “investing in poor”, by acting on Islamic principles.

  Disclaimer: The views expressed in this article are solely those of the author and do not necessarily reflect the official stance of The Himalayan Research Institute Pakistan (THRIP)

_________________________________ 

Taleesan Abdullah is a researcher at Rethinking Economics Islamabad, an economics-based think tank. He provides insights into global economic issues and their implications for Pakistan, accompanied by relevant policy recommendations. He is currently a third-year BS Economics student at Bahria University, Islamabad.