Interest-free Loan as an Alternative to Traditional Credit: Evidence from Agriculture and SME Practitioners among Muslims in the Ampara District

Abstract

This study investigates the use of interest-free loans Qard Hasan (QH) as an alternative to traditional lending among Muslim agricultural and SME populations in the Ampara District of Sri Lanka, a major paddy production region. Many farmers of the region rely on pawning to cover capital shortfalls during farming seasons. Using qualitative method approach, based on primary field survey data and secondary empirical literature, the study discovered that farmers require significant amount of capital each season, with pawning loans providing the majority of the funding gap. A village-based microcredit institution, founded on Islamic social finance basis, has covered approximately 54% of this gap through interest-free loans. Evidence suggests that QH reduces the financial burdens of vulnerable people resulted from interest-based loans while also encouraging trust and cooperation, making it a viable, culturally appropriate financing option for entrepreneurs, particularly in the agriculture and SMEs sectors. The study shows that this methodology could be expanded to other regions to safeguard disadvantaged farmers from predatory lending markets and poverty traps.