Abstract
PurposeThe purpose of this paper is to investigate the link between the financial performance of Islamic finance and economic growth in all of Malaysia, Indonesia, Brunei, Turkey and Saudi Arabia within the endogenous growth model framework.Design/methodology/approachThis study applied dynamic panel system GMM to estimate the impact of the financial performance of Islamic finance on economic growth using quarterly data (2014:1-2018:4). CAMELS system parameters were employed as variables of the financial performance of Islamic finance and gross domestic product (GDP) as a proxy of economic growth. The sample contained all Islamic banks working in the five countries.FindingsThe findings demonstrated that the only significant factor of the financial performance of Islamic finance, which affects the endogenous economic growth, is profitability through return on equity (ROE). The experimental findings also indicated the necessity of stimulating other financial performance factors of Islamic finance to achieve a significant contribution to economic growth.Practical implicationsThe analysis in this paper would fill the literature gap by investigating the link between financial performance of Islamic finance and economic growth, as this study serves as a guide for the academians, researchers and decision-makers who want to achieve economic growth through stimulating Islamic finance in the banking sector. However, this study may well be extended to investigate the link between the financial performance of Islamic finance and economic growth over the Z-score model as another measure for the financial performance of Islamic finance.Originality/valueThis paper is the first that investigates the link between financial performance of Islamic finance and economic growth empirically using CAMELS parameters within the endogenous growth model to provide robust information about this link based on a sample of the top pioneer Islamic finance countries.
Highlights
Islamic finance has been one of the fastest rising industries over the last ten years, which was estimated to be worth US$2.4 trillion in 2017 and forecast to grow by 6% CAGR to reach US$3.8 trillion by 2023 (Reuters, 2020)
Concerning earning ability in CAMELS model, we have focused on this parameter by using three major indicators since most studies have focused on the profitability by using three earning indicators of return on assets (ROA), return on equity (ROE) and net profit margin (NPM) as proxies for the financial performance of banking and finance, ROA and ROE based on the literature (Yazdani, 2011; Khan et al, 2014; Adekola, 2016; Djalilov and Piesse, 2016; Rabaa and Younes, 2016; Zarrouk et al, 2016; Alharbi, 2017; Olson and Zoubi, 2017; Setyawati et al, 2017; Tabash, 2019), in which higher ratios of ROA and ROE indicate better performance (Zarrouk et al, 2016)
Concerning the impact of return on equity on economic growth (GDP), the impact is statistically significant and positive (p-value of ROE: 0.029 is strongly fewer than 0.05) reliably with what Bourke (1989) had confirmed that banks with high profitability remain well-capitalized which cause an increase in capital stock due to the banking profitability, which leads to economic growth according to the endogenous growth theory (Romer, 2011), besides, both studies of Rabaa and Younes (2016) and Tabash (2019) demonstrated the same significant positive link between ROE and gross domestic product (GDP)
Summary
Islamic finance has been one of the fastest rising industries over the last ten years, which was estimated to be worth US$2.4 trillion in 2017 and forecast to grow by 6% CAGR to reach US$3.8 trillion by 2023 (Reuters, 2020). This optimistic tall growth degree of Islamic finance assets year after year attracts the attention of all policymakers, bankers and financial academics to look into the Islamic finance industry. JEL Classification — C23, G21, G32, O47. KAUJIE Classification — I3, I5, L4 © Mohammed Ayoub Ledhem and Mohammed Mekidiche.
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