AFRICA BEZA COLLEGE HAWASSA CAMPUSS

DEPARTMENT OF ACCOUNTING AND FINANCE

CHALLENGES AND OPPORTUNITIES OF INTEREST FREE

BANKING SERVICES: IN THE CASE OF COMMERCIAL BANK OF
ETHIOPIA FURRA BRANCH

A RESEARCH PROPOSAL SUBMITTED TO DEPARTMENT OF ACCOUNTING

AND FINANCE IN PARTIAL FULFILLMENT FOR THE REQUIREMENT OF BA
DEGREE IN ACCOUNTING AND FINANCE.

PREPARED BY ID NO
1 ZERIHUN BELAYNEH...................................……………...…079/14
2 ALEMU BOGALE...................……….........…….....……..……048/14

SUBMITTED TO: DEREJE (PhD)

DECEMBER, 2023 G.C

HAWASSA, ETHIOPA

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 TABLE OF CONTENTS
Title Page
Chapter one - Introduction --------------------------------------------------------------3
1.1 Background of the study ----------------------------------------------------------------4
1.2 Statement of the Problem --------------------------------------------------------------5
1.3 Objectives of the study -----------------------------------------------------------------7
1.3.1 General Objective -------------------------------------------------------------7
1.3.2 Specific Objective -------------------------------------------------------------7
Research Questions --------------------------------------------------------------------------7
1.4 Significances of the study --------------------------------------------------------------8
1.5Chapter Plan of the study ---------------------------------------------------------------8
Chapter Two: Literature Review -------------------------------------------------------9
2.1 Evolution of Interest free banking-----------------------------------------------------9
2.2 Empirical literature --------------------------------------------------------------------12
Chapter Three – Methodology----------------------------------------------------------14
3.0 Introduction -----------------------------------------------------------------------------14
3.1 Research Design -----------------------------------------------------------------------14
3.2 Sampling Techniques and sample frame -------------------------------------------14
3.4 Methods of data collection------------------------------------------------------------14
3.5 Methods of data analysis --------------------------------------------------------------15
3.6 Ethical issues: --------------------------------------------------------------------------15
4. References -------------------------------------------------------------------------------16
Time breakdown………..…………………………….………………………….18
Financial breakdown………………………………,…………………………….19

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 ABSTRACT

The purpose of this paper is to investigate challenges and opportunities of interest

free banking in commercial bank of Ethiopia in Furra branch. The main objective
of the paper is to identify the challenges and opportunities of the establishment
interest free banking service in Ethiopia particularly in Furra Interest free banking
is a new system in Ethiopia which needs a lot of effort and resource to increase the
knowledge of the users.
The researcher will use descriptive method of data analysis to draw conclusions
and inference this descriptive type will prepared due professional using
table,percentage, means, standard devation will be used to evaluate the
association between interest free banking and customer satisfaction level the
researcher will use chi square test for independence.

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 CHAPTER ONE
INTRODUCTION
1.1 Back Ground
1.11 Background of the study
The economic development of any country depends on the existences of well-
organized financial institutions. Financial institution refers to an establishment
dealing with financial transaction. Bank is a part of financial institution which
accept deposit from economic agents (liability to them) and then lend this funds
to make direct loans or invest in securities, stocks and bonds (Cambel
Harvey,2010). Banks operate by charging interests as well as operate without
interests. Interest has become part of financial institutionss. Interest is fee a paid
for use party money to the borrower. It is the cost of renting money to the lender;
it is income for lending the money or the fee charged by a lender to the
borrower for the use of borrowed money. In contrast the above description, a
bank operates without charging interests which means interest free bank.
Interest free bank derived from Islamic word; it is fundamental concept. It
operates primitive professional and ethical investing while elimination of
interest in all its forms is an important future of the Islamic financial system;
form of ethical investing or ethical lending except that no loans are possible
unless they are interest free. (Ibrahim warder)

These banks started to establish their centers in the major cities of the world;
they operate based on profit and loss sharing by performing such partnership
and then forming important economic function. They combined the three
important factors of production namely: capital, labor and entrepreneurship
lastly share accordance with rules and regulations. In this case, interest is
prohibited because interest is treated as excesses or increase. The objective for
establishment of interest free banking is its importance for development of
investment and saving so as to make positive contribution to the fulfilment of

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socio economic objectives of the society in all aspects including trade, industry
and agriculture.

1.1.2 Background of the organization

The former commercial bank of Ethiopia was the state bank of Ethiopia which
received its charter by decree on Nov 30, 1943 in Addis Ababa. The bank was
established with capital of one million Maria Theresa Dollar
(http://www.combanketh.et)

The bank acted as the country’s central bank with power of issuing bank notes
and paper money on behalf of the ministry of finance
(http://www.combanketh.et)

In May 1945, the bank was granted the sole right of issuing currency and after
the legal proclamation of 1945, an issue department was established in July of
that year (http://www.combanketh.et)

Later in July 1949, the bank was made the sole authority to deal in foreign
exchange. The bank was also engaged in wide range of commercial activities,
and introduced saving accounts in January 1946. (http://www.combanketc.etc)

The state bank of Ethiopia during its two decades of existence opened 21
branches in country, as well as branch office in Khartoum and Djibouti. It
started operations with a staff of only about 40 persons, but this had grown
twenty years later to little short of monetary sectors (http://www.combanketh.et)

Up on the declaration of the new banking proclamation issued on July 23 of

1963, all previous regulation which governed the banking and monetary sector
were replaced and consequently the function of central and commercial banking
separately (http://www.combanketh.et)

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Accordingly the split of the previous state bank of Ethiopia in to National Bank
of Ethiopia and Commercial Bank of Ethiopia new chapter in the history of
commercial bank of Ethiopia (http://www.combanketh.et)

The bank has started to deploy banking technology recently. ATM (Automated
Teller Machine) has been installed in Addis Ababa and some city branches have
been committed in on line banking. Commercial bank of Ethiopia annual report
for the 2011 shows that total assets of 86.5 billon birr. It has about 547 branches
(2011)(http://enwikipedia).

At present board of management and five executive managements authorize the

bank. The number of workers has reached over thirteen thousand (from manager
of the bank)

Commercial bank of Ethiopia extended its branch to many district of the

country. Commercial bank of Ethiopia Furra branch is one of branches
established in different areas. Commercial bank of Ethiopia Ambo branch was
established in 1963 with few employees and limited amount of capital. At the
present time branch has about 60 employees. It has been performing according
to the rules and regulations delegated to it from the central bank. The services
given by the branch is rendering demand deposit, saving deposit, VISA branded
debit card, credit services, trade services which facilitate international trade,
local transfer and foreign exchange service including western union planer
transfer, and other in bond and out bond foreign services (Manual of the
organization in 2018)

1.2 statement of the problem

The low level of investment in developing countries largely attributed to the low
level of saving (Rodney Wilson,1986). It is unquestionable that investment
plays a leading role for the growth of a countries economy, but this requires
the accumulation of capital and appropriate allocation of accumulated capital.

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There are religious as well as economic reasons, which have contributed to the
emergence of interest free banking as an alternative to its interest charged
banking system in counterpart. It is the prohibition of interest which is believed
to be religious reason. The basic intention behind establishing interest free bank
to the desire of Muslim is to recognize their financial activity in a way that do
not contradict the principle of Islamic rule and enable them to conduct their
financial transaction without connection in to interest payment and received.
The economic reason derived from avers of principles providing inspiration to
device an interest free financial system has been substantiated in the way that
interest concentrates wealth in the hands of few. Thus, interest free banking
emergence will predict positive contribution to both religious as well as
economic factors.

Lack of advice ,lack of promotion as well as Lack of supportive regulatory and

policy regimes in Ethiopia that facilitate the establishment of Islamic financial
institutions there was no alternative banking systems for those have problem
with existing banking system until the NBE‟s directive has allowed Ethiopian
nationals to establish a bank exclusively engaged in interest-free banking
which come in to force in October 2011, but started in September 2013. The
introduction of Islamic banking Window alongside with conventional
operations in 2013 has generated new dimension and phenomenal in banking
sector in Ethiopia.

Moreover, interest-free banking is a new system in Ethiopia which needs a lot

of effort and resources to increase the knowledge of its adopters for proper
awareness and better perceive about interest-free banking products and to
publicize of the products and services in the banking industry for privileged
investment and encouraging other banks from opening up the separate window.

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1.3 OBJECTIVES OF THE STUDY

1.3.1 General objective

The main objective of the paper is to identify the challenges and opportunities
of the establishment of interest free banking services in Ethiopia particularly
in Hawassa town.

1.3.2 Specific objectives

The specific objectives of this study are: -

 To asses customer (Muslim community) to increase awareness about the

importance of interest free banking service in Hawassa town.
 To describe the problem associated with interest free banking service.

 to asses the need of interest free banking establishment in Ethiopia.

RESEARCH QUESTIONS

 What are factors affecting to increase awareness of customer about

interest free banking service?
 What are factor associated with interest free banking system?
 What are the problems associated with interest free banking service?

1.4 SIGNIFICANCE OF THE STUDY

This study would be relevant to business organizations and individuals to high
light about the need for the establishment of interest free banking, especially, to
those who does not involve in interest charged banking system. It may also give
general understanding (customer awareness) about interest free banking to
success for achieving its goal. This study may serve as a reference for future
research on the title. In addition to the above explanation, the results found from
the study can be one input for banks that are interested to involve in interest free
banking system.

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1.5 SCOPE OF THE STUDY
The study will be bound by both area coverage and problem address there are
many financial product and service provided by commercial bank of Ethiopia
furra branch and the researcher will emphasize on the interest free financial
products and services in Hawassa there are many more branches of commercial
banks provide interest free banking system . There are also other banks
providing interest free banking service such as Oromia international bank s.c,
awash bank s.c, cooperative bank of Oromia s.c, nibe bank s.c and dashin bank
s.c.

1.6 ORGANIZATIONS OF MAIN PAPER

This paper is organized in to five chapters: Chapter one contains general
introduction, statement of problem, objective of the study, research question,
significance of the study, organization of paper, and scope of the study.
Reviews of related literature collected from different sources are presented in
Chapter two. Chapter three embraces description of the study area, source and
types of data, method of data collection, target population and sampling method,
method of data analysis. Chapter four deals with data presentation,
interpretation and analysis. The last chapter contains conclusions and
recommendations about the overall study and findings.

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 CHAPTER TWO
LITERATURE REVIEW

2.1 Evolution of Interest free financing

Interest-free finance is growing at a galloping pace in more than 56 countries of
the world including Ethiopia. Many financial institutions are working well and
contributing in the form of providing interest free banking service along with
other formal financial services across the world. This article focuses on
appraising the interest free banking service provision experience in Ethiopia.
According to the Association of Ethiopian Microfinance Institutions (AEMFI)
the commencement of interest-free financial products in Ethiopia is a very
recent phenomenon counting back to the year 2011. Till now, eight banks
obtained license from the NBE to provide interest-free banking products
through their windows (Zelalem, 2019).

The contribution of interest-free products is found at its early stage attributing to

the fact that only three banks have currently started the delivery of interest-free
products and the scheme is also new. It was on September 2013 that the
National Bank of Ethiopia (NBE) granted the first interest-free banking service
license to Oromia International Bank using a separate window along with other
banking services.

This was later followed by the Commercial Bank of Ethiopia and the United
Bank on May 2014. Finance and Investment Consultant Eliyas Luha told The
Ethiopian Herald that interest free banking mainly targets individual and
institutional customers that do not want interest on their deposits for religious or
other reasons. Islamic finance has grown dramatically in our regional and
around the world in the last decade. As a fully Shari’ah-compliant institution,
the East Africa Bank (EAB) is part of this global phenomenon.

EAB has operated eight branches in East African countries, and recently
inaugurated its headquarter in Djibouti. EAB’s CEO Ibrahim Rashid Jaffar says
over the past few years, Dahabshiil Group Holdings, together with our partners
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and agents, has succeeded in building a modern regional bank, East Africa Bank
(EAB), to provide a wide range of financial services to our customers in the
Horn of Africa. According to him, EAB has demonstrated strong capabilities in
serving an increasingly demanding customer base consisting of individuals,
businesses and international organizations operating in the region.

Backed by the strength of the Dahabshiil Group, EAB thrive on playing a key
role in the development process engaged in helping businesses, rebranding new
technologies, attracting major corporate financing, and expanding support to
SMEs, the CEO explained. “Since licensed in 2010 by the central bank of
Djibouti, the Bank has been offering a broad range of supports to businesses in
Djibouti trading in Ethiopia.

The Bank eyes Ethiopia’s growing market niche for both cooperative and
individual services.” He said, “We are now embarking on the next generation of
banking in the region, providing quality service and innovative products. We
recognize our customers’ business requirements are becoming increasingly
complex and the range of options available are constantly widening.”

In this regard, Mawerdi Abdurahman, working in the Association of Ethiopian

Microfinance Institutions, noted that lack of awareness in the society and
unavailability of skilled human resources that has the expertise on interest-free
products are the major challenges so far observed in the interest-free banking
sector of Ethiopia. According to Mawerdi, the other challenge faced by the
sector not only in Ethiopia but also worldwide is lack of a suitable financial
performance measure that has inhibited banks from identifying their financial
position, detecting problems and to settle concerns about the safety and
soundness of investments (Mawerdi, 2019).

“Other factors that contribute to low outreach of interest-free microfinance

products in Ethiopia as well as globally are shortage of Islamic-finance
providers including funders and donors, underdeveloped Islamic microfinance
industry and lack of understanding of the generic Shari’ah models by clients and
policy makers.”

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As to Mawerdi, the AEMFI is attempting to promote interest-free microfinance
in Ethiopia with the intention of creating awareness and further promoting the
development of the products. In this regard, it is true to say the contribution of
EAB to the growth of the banking and financial sector in Ethiopia as well as in
East Africa will be advantageous of providing innovative and dynamic services
to its customers (AEMFI, 2018).

Abdirashid Duale, CEO of the Dahabshiil Group, revealed that EAB has
regional presence providing shari’ah based services for a decade in Uganda,
Kenya, Rwanda, Djibouti, and Somalia. As the EAB was previously named as
Dahabshiil International Bank, it has also global presence in increasing financial
access to the banking communities whether through remittance, supporting
finance for SMEs, and providing mobile payment services across the world.

As the Shari’ah principles, any predetermined payment above the actual

amount of principal is prohibited. In addition, making money from money is not
acceptable in Islam. The most common types of interest-free finance models
operated by East Africa Bank includes Murabaha, Istisnaa, Ijara, Islamic
covered drawings and other Shari’ah compliant products. Above all, Shari’ah
urges the borrower to be generous when he repays.

The borrower is encouraged to return more than the original amount borrowed
as a gift and is permissible as long as it is not demanded by the lender. Once the
penalty is collected, it must be donated to charity and cannot form part of the
income of the lender. A country with a good share of Muslim population having
an interest-free financial system in addition to the conventional one has a
positive impact for the financial sector development, Elias Lula also agreed on.

Since the interest-free financing scheme is based on a business deal amid the
client and the finance provider, it encourages business and contributes for
economic progress. The financial institution supports the client in undertaking a
certain business activity and in acquiring the commodities that need financing.
The interest-free financing scheme minimizes risk since it is mostly shared
between the finance provider and the client.

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The system does not lead to loss of livelihood of the poor since both the
financier and the client would share the loss when the project fails in a situation
that is beyond the control of the client. As to Eliyas, the presence of EAB in
Ethiopia will have significant importance to facilitate the business and trade
relations between Ethiopia and Djibouti interlinked through the port of Djibouti.
In fact, the Bank has been offering remittance services to the household
economy and the food security of many Somalis in Ethiopia.

2.2 Empirical Literatures

Jemal (2018) argues that currently knowledge of bankers and customers on

Interest free banking and IFB products is low. Moreover a of customers’
sampled show they are skeptic about Interest free banking window of
commercial banks’ ability manage their fund and Shari’ah compliance these
windows. Furthermore, the compliance of theses windows merely depends on
maintaining separate records and accounts which lacks Shariah advisor and
management commitment to ensure fully compliance with requirements for
adopting interest free banking within the bank. In addition the result indicates
lack of supervision by NBE, lack of confidence and trust of clients, lack of legal
support from government, lack of qualified human resource, lack of cooperation
among Islamic windows, lack of infrastructure suitable for Interest free banking
operation, and doubt of clients identified by the practitioners as major
challenges in the process of offering interest free banking services in Ethiopia.

2.3 Islamic banking system

Islamic banking do not charge interest. Riba(interest) is an unjust return interest

or usury.The term applies to any financial gain by the lender as a condition of a
loan and in a commodity trade. It also applies to any disparity in a quantity or
time of delivery as such transactions are illegal under Islamic law

Zero return loans. Prohibits the charging or receiving of interest.A unique

feature of Islamic banking is its profit and loss sharing paradigm which is
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mainly based on Mudarabah(profit-sharing) and Musyaraka(joint venture)
concepts of Islamic (chong&Liu 2008)

The principal stakeholder is God the aim is to serve God while the stakeholders
are the client and the general public.Clients are partners and the decisions are in
the interests of the society.

Shariah law places restrictions on business activities.the law further prohibits

trading in alcohol tobacco product that contain pork defense and weapon
production and certain entertianment activities like gambling ang pomography

Give loans to those who needs loans.do not need collateral to get a loan.

Islamic principles advocate for an economic system in which all forms of

exploitation are eliminated. The other principle is mudarabah(trust financing) a
profit sharing agreement between two parties in which one provides the finance
and the other provides entrepreneurial and management skills

Islamic banks have an interest in how the money borrowed is used.the Islamic
banks have a stake in the financial activities so that money is not used for
economic activities that are injurious to the society.those who lend to the
Islamic banks expect the banks not to invest their money in the business
activities that are not sharriah-compliant.islamic banks invest only in business
activities that are shariah compliant.

Islamic banks share profit and losses. Murabaha(cost-plus financing)is acontract

sale between the bank and its client for the sale of goods at a price that includes
a profit margin for both parties.

2.4 Evolution of modern interest free banking

Islamic banking has a recent origin as compared to its conventional counterparts

although scholars have discussed and analyzed issues with regard to a system of
banking that is interest free based earlier much exclusive attention to the subject
matter a 20 century phenomena(bala 2004) as bala the history of interest free
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banking could be divided into two parts first when it still remained an ideal
second when it become a reality by private initiative in some countries and by
the law in others.

2.4.1 interest free banking as an idea

Bala (2004) indicated as the earliest reference to the reorganization of banking

on the bases of profit sharing was written by Anwar Qureshi (1946), Naiem
Siddiq(1948) and Mohamed Ahmed(1952)the have all recognize the need of
commercial banks that use profit and loss sharing mechanism and have
proposed a banking system based on concept of Mudarebah (profit and loss
sharing). In 1960 interest free banking attracted more attention because of
emergency of young Muslim economists.The first idea emerged in that of
Mohamed vzair(1955)

2.4.2 interest free banking as practice

The institutional governmental involvement led to the application of theory to

practice and resulted in the establishing of interest free banking.the practice of
modern Islamic baking formally began in 1963 with a pioneering experiment.

2.5 interest free finance in Ethiopia

Over the last 22 years the Ethiopian economy has demonstrated sustained
growth.The Ethiopian banking sector has expanded in the few past decade and
benefit only some part of the community so that introducing interest free banks
which is the way to improve the poor and the disadvantaged segments of the
society is a logical next step.The national bank of Ethiopia directive came into
force in October 2011 about first Islamic institution in Ethiopia however the
implementation of this banking system was started only in 2013 by few
commercial banks like Oromia international banks S.c,commercial bank of
Ethiopia united bank S.c customers who are interested in the interest free
banking are assured that they will obtain that all the service that they would get
from a fully fledged interest free banking.

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 CHAPTER THREE
RESEARCH METHODOLOGY

3.1 DESCRIPTION OF THE STUDY AREA

This study will be conducted in Hawassa town, which is located 273 Km south
of Addis Ababa via Bishoftu, 130 KMs east of Sodo and 75kms north of Dilla.

3.2 SOURCES AND TYPES OF DATA

The researcher would use two types of data. These are primary and secondary
data. The sources for primary data are questionnaires and interviews from
customers and employees of CBE, Furra branch.

3.3 METHOD OF DATA COLLECTION

For this study, the data is collected from both primary and secondary types. The
primary data collection method includes questionnaires, personal interviews. On
the other hand, secondary data collection methods include: books, internet
materials, published materials are employed.

3.4 TARGET POPULATION AND SAMPLING TECHNIQUE

3.4.1 TARGET POPULATION

The researcher will collect data from customers and employees of CBE, Furra
branch.

3.4.2 SAMPLING TECHNIQUE AND SAMPLING SIZE

The researcher will use probability & non-probability purposive sampling for
customers of CBE, furra branch and simple random sampling for employees of
CBE, Furra branch. The total population of CBE, Furra branch is 60 employees;
since it is difficult to give questionnaires for all employees the researcher selects
5 employees by using simple random sampling technique and 10 customers
through purposive or judgmental samplings.

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3.5 METHOD OF DATA ANALYSIS
The researcher will use descriptive method of data analysis to draw conclusions
and inferences. This descriptive type is preferred due professional using table;
percentages, mean, standard deviation will be used. To evaluate the association
between interest free banking and customer satisfaction level, the researcher
will use chi square test for independence.

3.6 Ethical issues:

A number of ethical issues to be taken into account are as follows:

1. Informed consent: it is important that the researcher explains the nature

and purpose of the research to the respondents before the actual research
takes place. It is important that the respondents agrees to the terms and
conditions and are willingly participating in the research process.

2. Right to privacy: it is the duty of the researcher to keep the identity of

the respondent anonymous. In most cases where the respondents are
concerned that the exchange of information will affect their status, will
refrain from providing true facts. Therefore, the researcher will not force
the respondents to be obliged to give their identities.

3. Right of protection from any harm: it is the duty of the researcher to

ensure that the exchange of true information by the respondent will not
harm the respondent in any form. This might include the harm of threats
by others along with the physical harm to the respondents.

4. Overt nature of research: it is completely unethical for the researcher if

he/she indulge in the secret recording of the data in any form. This might
include secret recording, taking unannounced notes, picture taking, etc.
Nothing of this sort will be done in any case during the course of the
study.

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REFERENCES

Abdullah Saeed (1999) Islamic Banking and Interest.

AEMFI (2019) Significance, challenges and opportunities of Interest free micro financing
in Ethiopia.

Elaine Housby,(2011) Islamic financial services in UK, Edinburgh University press

Ibrahim Warde (2010) 2ndedition, Islamic finance in global economy, Edinburgh

universitypress

Cambel Harvey (2010)

Jemal Nasir (2018). Practices and Challenges of Interest Free Banking Windows of
Commercial Banks in Ethiopia

Mawerdi Abdurahman (2019). Interest free banking in Ethiopia: the case of micro finance
institutions

MohamadTaqiUsmani Karachi (1996) Islamic Banking

Zelalem Girma (2019). Significance of interest-free finance in Ethiopia: Ethiopian

Herand, April 20/2019

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 TIME BREAKDOWN
Time plan

S.N Activities Duration Remar

k

1 Developing research proposal December15th_November

15th, 2023

2 Reviewing related literature November 16th _January

30th,2023

3 Instrumental development February 1st _ January,

30th 2023

4 Data collection, organization, analyzing March 1st _ 30th, 2023

and intrepretation

5 Writing final Research report and April 1st_May 20th, 2023

binding

6 Presentation and submission of the According to the college

finalized research report program

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FINANCIAL BREAKDOWN

S.N Items Quantity Single price Total price

In Cents In ETB Cents
ETB
1 Paper A4 80g 1 1200 00 1200 00
2 Photocopy, print,& 100 1 00 1000 00
binding pages
3 Refreshment 35 100 00 3500 00
4 Data collection 6000 00
5 Transport cost 2000 00
Total Budget 13700 00
Contingency(10% of the total cost) 1370 00
Grand Total 15070 00

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