Profit- and loss-sharing partnership: the case of the two-tier mudharaba in Islamic banking

PurposeThe purpose of this paper is to examine the relationship between Islamic bank margin (BM) and its determinants. It also compares the BM behavior of Islamic and conventional banks in the Indonesian dual banking system.Design/methodology/approachThe paper employs a time series approach under the dealership framework of Ho and Saunders. The autoregressive distributed lag model is used to inspect cointegration between BM and its determinants for the period of January 1996 to February 2006 of five sample banks (two Islamic banks and three conventional banks).FindingsThe result confirms that there exists a long‐running relationship between the Islamic BM and its determinants. In particular, as interest rate volatility increases, Islamic BM responds negatively while that of conventional banks responds positively. The findings differ from most of the other studies as they found a positive relationship between BM and interest rate volatility. This paper also shows that the margin behavior changes as the basis of bank operations changes from conventional to Islamic principles.Research limitations/implicationsThe paper uses a relatively small sample of three (out of 150) conventional banks as a comparison to two sample Islamic banks. However, as they come from the same peer with the Islamic banks, it is believed that the finding is valid. Islamic banks in Indonesia are not remote from the interest rate volatility in their presence under a dual banking system. It is the displaced commercial risk that threatens Islamic banking profitability in a changing market interest rate situation.Practical implicationsUnder a dual banking system, the stability of interest rates and the financial system is of great importance for the policy maker in developing the Islamic banking industry in Indonesia. As long as the BM is still a major source of income to the Islamic banks, it is necessary for Islamic banks to have prudent risk management to mitigate the negative effect of displaced commercial risk and maintain its profitability. Implementation of profit equalization reserves concept is a possible measure for Islamic banks to shield their operation.Originality/valueThis paper is believed to be the first study on Islamic BM behavior in Indonesia. It is expected to provide useful information for policy makers and Islamic bank management to develop a sound and profitable Islamic banking industry in Indonesia.

Malaysia proved to be at the forefront of Islamic banking and finance by adopting a dual banking system where the conventional and Islamic banking systems co-exist. The Islamic banking has been in operation since 1983 and offers a variety of Islamic financial instruments. In such a multi-ethnic and multi-religious country, customers get the financial products and services they like. In the early 1980s, the government encouraged all Malaysians to be involved in the fast-track development process with a vision to make Malaysia a fully industrialized country by the year 2020. Actually, the development of Malaysias dual banking system is tied up with its social and economic policy and that is why it was fully supported by the countrys top leadership in addition to the Central Bank, the Parliament, and the public in general. Islamic banks can motivate Muslims to increase savings and reduce hoarding. This kind of motivation was expected to enhance their participation in the development process contributing to savings mobilization and capital accumulation in order to improve their standard of living and bring them up to par with their countrymen of Chinese origin. Among the countries with a free market economic system, Malaysia has emerged as the first country to implement a dual banking and financial system. The Malaysian model has been recognized by many Islamic countries as the model to emulate.

This paper investigates the effect of income diversification on the performance of Islamic banks in Malaysia, Saudi Arabia, Kuwait, United Arab Emirates, Bahrain and Qatar where they operate alongside conventional banks in a dual banking system. Accounting data was drawn from 68 conventional and 42 Islamic banks from 1997 to 2009. The main focus was to see whether a greater reliance on non-financing income impacts on earnings quality and if so, how this may vary between Islamic and conventional banks. Commission and fee income, trading income and other non-financing income constitute non-financing income. For conventional banks, this is known as non-interest income, but in Islamic banking the payment and receipt of interest is prohibited so this 'other income' is referred to as non-financing income (that is, income unrelated to deposit-taking and loan granting). Islamic banks operate as universal banks and offer retail and wholesale financing plus investment banking services. Using various empirical approaches, we find that non-financing income positively influences banks' risk-adjusted performance on a net overall impact basis. Greater income diversification on its own, increases income volatility and this negatively impacts bank's risk-adjusted performance. Islamic banks are found to be more focused on deposit/loan financing and less diversified in terms of non-financing income activities compared to conventional banks. We find that Islamic banks appear to be less susceptible to earnings volatility given their lower diversified income source. Islamic banks have lower profitability (on average) on a risk-adjusted basis when compared to their conventional counterparts.

Purpose The purpose of this paper is to check if there is a procyclical lending behaviour in dual banking systems of the Golf Cooperation Council (GCC) countries. The study also tries to control for the role of Islamic banks in amplifying or mitigating the procyclicality of dual banking systems. Design/methodology/approach Estimation of a dynamic panel model using annual observations on a sample of 81 banks based in the GCC countries between 2005 and 2018. The study uses two business cycle indicators as dependent variables, namely, output gap and oil price gap. Findings The system generalilzed method of moments (GMM) estimator and robustness checks confirm the procyclical lending pattern of dual banking systems in the GCC. Estimation outputs also indicate that this procyclicality is more pronounced during economic slowdowns. However, it is found that Islamic banks’ lending is less procyclical, giving support for the stability view of Islamic banking systems. The authors think that the implementation and conduct of macroprudential policies are very challenging for banking authorities when Islamic banks and conventional banks operate under the same regulatory framework. Research limitations/implications The research paper may suffer from some limitations. Indeed, exploring panel data instead of country-case data may lead to a problem of heterogeneity that may underpin the credibility of the econometrical estimations. To deal with this problem by introducing a set of bank-specific and time-specific dummies. Furthermore, small N samples (N = number of individuals) may affect the reliability of the tests for the validity of instruments and autocorrelation used under the GMM estimator, leading to inefficient results. Consequently, the number of selected banks is extended as much as possible (81 banks), becoming important comparing to the time dimension of the panel. Practical implications Policymakers and regulators are incited to embed the perspectives of Islamic finance regarding lending cyclicality in dual banking systems, which promote the efficiency of resource allocation to the financing of assets and by consequence enabling financial stability. The stability view of the Islamic banking system could prompt policymakers and regulators to encourage the implementation and development of Islamic banks. Originality/value The present paper tries to overcome the lack of empirical studies on the procyclicality of dual banking. The study contributes to this novel literature in two ways. First, it focuses exclusively on GCC banking systems. In fact, compared to other emerging markets, business cycles characterizing GCC are specific because of the role played by the oil and gas revenues in the economic growth and financial system is crucial. Second, this paper brings into evidence the procyclicality of GCC banking systems also when the oil price is taken as a business cycle indicator.

Purpose This paper aims to examine the impact of corruption on bank stability and bank profitability separately for Islamic banks as well as conventional banks. Moreover, it also investigates whether the existence of Islamicity and corruption in the environment can moderate the Islamic banks-stability and Islamic banks-profitability relationships. Design/methodology/approach Sample of the study consists 136 banks comprising 70 Islamic and 66 conventional banks over the period 2015–2021 from nine countries with dual banking systems. Panel data fixed effect estimator with year effects is used to estimate the results. Findings Results of the study show that Islamicity is positively and corruption is negatively related to bank stability as well as bank profitability. Further, it is found that the effect of corruption is significantly different between Islamic and conventional banks, wherein conventional banks are more adversely affected than Islamic banks. However, an insignificant difference between Islamic and conventional banks is observed in the case of Islamicity. Practical implications The study provides theoretical and practical implications. On theoretical side, the study presents Islamicity as more reliable measure of religiosity based on Islamic values that can help in control of corruption by moderating corruption-bank stability nexus especially in dual banking economies which have high share of Muslim population. On practical side, the study recommends policy and operational measures for mitigating corruption aiming bank stability. Originality/value The results of this study contribute to the corruption-finance, religion-finance and dual banking literature. This study suggests that regulators and bank management must consider corruption and Islamicity while formulating their policies for better bank performance/stability.

Purpose – The purpose of this paper is to examine the relationship between Islamic bank margin (BM) and its determinants. It also compares the BM behavior of Islamic and conventional banks in the Indonesian dual banking system. Design/methodology/approach – The paper employs a time series approach under the dealership framework of Ho and Saunders. The autoregressive distributed lag model is used to inspect cointegration between BM and its determinants for the period of January 1996 to February 2006 of five sample banks (two Islamic banks and three conventional banks). Findings – The result confirms that there exists a long-running relationship between the Islamic BM and its determinants. In particular, as interest rate volatility increases, Islamic BM responds negatively while that of conventional banks responds positively. The findings differ from most of the other studies as they found a positive relationship between BM and interest rate volatility. This paper also shows that the margin behavior changes as the basis of bank operations changes from conventional to Islamic principles. Research limitations/implications – The paper uses a relatively small sample of three (out of 150) conventional banks as a comparison to two sample Islamic banks. However, as they come from the same peer with the Islamic banks, it is believed that the finding is valid. Islamic banks in Indonesia are not remote from the interest rate volatility in their presence under a dual banking system. It is the displaced commercial risk that threatens Islamic banking profitability in a changing market interest rate situation. Practical implications – Under a dual banking system, the stability of interest rates and the financial system is of great importance for the policy maker in developing the Islamic banking industry in Indonesia. As long as the BM is still a major source of income to the Islamic banks, it is necessary for Islamic banks to have prudent risk management to mitigate the negative effect of displaced commercial risk and maintain its profitability. Implementation of profit equalization reserves concept is a possible measure for Islamic banks to shield their operation. Originality/value – This paper is believed to be the first study on Islamic BM behavior in Indonesia. It is expected to provide useful information for policy makers and Islamic bank management to develop a sound and profitable Islamic banking industry in Indonesia.

Purpose The purpose of this paper is to comparatively examine the cost and the overlooked revenue efficiency of Islamic and commercial banks in the aftermath of the crisis, operating in nine MENA-based countries during the 2010-2017 financial period, where the established empirical work is relatively limited. The authors also update the research where they use recent data sets and they provide for a targeted, structured literature review pre- and post-crisis in the Gulf region. Design/methodology/approach The authors examine cost and revenue efficiency of 25 major Islamic banks (IBs) and 25 major conventional banks (CBs). They conduct tests on the determinants of such variables. In the first stage of the analysis, they measure efficiency by using the data envelopment analysis (DEA) technique. The analysis performs regressions where these also reveal that the bank efficiency index is influenced by various bank type-specific attributes. It also seems that tighter restrictions on bank activities are negatively associated with bank efficiency. Second stage analysis, which accounts for banking environment and bank-level characteristics, confirms these results. Findings Conventional banks are both more cost and revenue efficient than Islamic banks over the period under examination. The analysis also reveals that the bank efficiency index is influenced by bank-type attributes. Greater presence of fixed capital resources has positive effects on growth in both Islamic and conventional banking. The major constraints impeding Islamic banking growth include labour costs. The authors examine whether and how bank-type orientation affects the cost and revenue efficiency of conventional and Islamic banks. They find that post-crisis Islamic banks underperform their conventional counterparts on both accounts within a mixed banking system. Research limitations/implications This study did not include comparative data before the 2008 financial crisis. There is also a great deal of heterogeneity among Islamic banks in the samples that have been examined here and by other researchers and the constructed efficiency scores should be interpreted cautiously as divergent Islamic banks are pooled in the same samples. Practical implications This study identified factors that may help bank managers to improve their financial outlook by controlling revenue and cost efficiency profitability. These factors could as well help to understand how some indicators affect both cost and revenue efficiency, particularly in Islamic banking. It also seems that tighter restrictions on Islamic bank activities are negatively associated with bank efficiency. Islamic banks that directly compete with their conventional counterparts in the aftermath of the crisis are less efficient on both the cost and revenue frontiers. They are potentially hindered by the differential regulations of supervising authorities in dual banking systems. Social implications The authors provide recommendations regarding regulatory and other issues that are relevant to Islamic banking and further research is suggested. Findings are relevant to a variety of stakeholders (managers, policymakers and regulators). Islamic banking authorities could re-examine the benefits of partially moving to a more standardized/conventional system of banking by lifting some trading restrictions. In addition, developing and maintaining managerial skills is an indispensable instrument for the long-term endurance of any system. A related aspect is thus an effort to determine the holistic efficiency (including managerial) of Islamic banks as a guide for policymakers to improve managerial performance. Originality/value There is relatively limited empirical work that investigates the efficiency between Islamic and conventional banking in the aftermath of the crisis in the Gulf region despite the growing importance of this region on political and economic levels. The authors also examine the revenue efficiency measure often under-researched in the literature and particularly important for comparative studies. Overseas-owned banks have attained much higher infiltration levels in middle-eastern countries over the past decade. It has also been suggested that market penetration differences may also be related to bank efficiency concerns among countries and their financial systems as opposed to types of banks.

In Indonesian banking system, conventional banks are operating side by side with Islamic banking in a dual banking system. In terms of the credit risk determinants, Islamic banks should be affected by the different factors as conventional banks. However, the similarity of Islamic banks and the conventional bank in terms of contracts might lead to the opinion the same variables are affecting the performance of Islamic and conventional banks. The objective of the study is to examine and obtain an understanding on how the credit and financing in Indonesian dual banking system responses to changes in bank-specific variables. The main approach to fit the model used in this study is the dynamic panel data. Based on the result of the combined model, there are some independent variables that significantly affect credit risk. Profitability significantly affects credit risk with a negative relationship. While size significantly affects credit risk with a positive relationship. When it comes to the dummy variable, it can be said that the type of bank doesn’t play a significant role in determining the credit risk. In other word, there is no difference between Islamic bank and conventional banks in terms of credit risk. To analyze the crisis effect deeper, we compare the result of conventional banking model 2016-2020 and Islamic banking model 2016-2020. There is no independent variable that significantly affect the credit risk in the conventional banking model 2016-2020, three out of four independent variables affect credit risk significantly in the Islamic banking model 2016-2020. This is because conventional banks tend to play safe by avoiding the disbursement of credit and focusing on derivatives. However, this strategy is not suitable for Islamic banking as they are not allowed to do speculative activities. Islamic banking are still focusing on traditional banking activity.

PurposeThe purpose of this paper is to find out the importance of the tag “Islamic” in the title of banks. This will help to determine the future strategy of Islamic banks, while expanding to the countries where Islamic banking is seen as a religious banking and not an as an alternative approach to the conventional banking.Design/methodology/approachAdopting convenience sampling, a total of 596 customers of both Islamic and conventional banks were surveyed from four regions of Saudi Arabia (Makkah, Madinah, Riyadh and Dammam) using a self-structured questionnaire on a five-point Likert scale.FindingsThe results concede that Islamic banks without the tag “Islamic” and conventional banks have same customer satisfaction. There are some factors other than the tag “Islamic” which are driving customers towards Islamic banking. Those factors include physical aspects of the bank, level of satisfaction with the services, dealing and attendance by the staff and safety and security of the bank. Besides, the application of fundamental principles of Islamic banking works as a key motivation for customer satisfaction with Islamic banking.Practical implicationsApplying the tag “Islamic” is not as important as implementing the principles of Islamic banking. Islamic banks can survive and compete well even without using the “Islamic” tag if they implement the prime principles of Islamic banking and work on improving the factors highlighted by this study. This study can prove to be helpful in the expansion of Islamic banking in the countries where religious banking is not generally preferred by customers.Originality/valueThis is the first study to find out the customer satisfaction in a dual banking system (comprising of conventional banks and Islamic banks that do not use the tag “Islamic”), thereby filling the existing gap in the Islamic banking literature.

Islamic banking and finance is a multitrillion-dollar industry, which offers interest-free banking arrangements that entail risk sharing and cater to all sections of society, thereby bringing about stability, equality and prosperity. Although the ethical underpinnings of the Islamic banking business model, guided by Shariah law, have enabled Islamic banks to compete successfully with conventional banks, there remains a paucity of work that examines the contributing factors to the corporate performance of Islamic and conventional banks operating in dual banking systems. This paper investigates the relative importance of the Islamic banking business model, alongside its conventional counterparts, in relation to financial and market-based performance. Based on empirical data gathered from Islamic and conventional banks operating in five Gulf Cooperation Council (GCC) member states with dual banking systems, the study reveals that human capital exerts a significant positive impact upon the financial performance (measured by ROAA) of both Islamic and conventional banks.

Islamic banking and finance is a multitrillion-dollar industry, which offers interest-free banking arrangements that entail risk sharing and cater to all sections of society, thereby bringing about stability, equality and prosperity. Although the ethical underpinnings of the Islamic banking business model, guided by Shariah law, have enabled Islamic banks to compete successfully with conventional banks, there remains a paucity of work that examines the contributing factors to the corporate performance of Islamic and conventional banks operating in dual banking systems. This paper investigates the relative importance of the Islamic banking business model, alongside its conventional counterparts, in relation to financial and market-based performance. Based on empirical data gathered from Islamic and conventional banks operating in five Gulf Cooperation Council (GCC) member states with dual banking systems, the study reveals that human capital exerts a significant positive impact upon the financial performance (measured by ROAA) of both Islamic and conventional banks.

PurposeThe purpose of this paper is to investigate the influence of economic freedom and six relevant subcomponents of it on the risk-taking behavior of banks in the Malaysian dual banking system. It also aims to make a comparative analysis between Islamic and conventional banks operating in this dual banking sector. Moreover, the study is an effort to enrich the existing literature by presenting empirical evidence on the argument that the risk-taking behavior of the two types of banks is indistinguishable given that they operate in the same regulatory environment.Design/methodology/approachSecondary data of all banks operating in the Malaysian banking sector are collected from FitchConnect database, in addition to the economic freedom index from Foundation Heritage for the period 2011–2017. Generalized least squares technique is employed to estimate the influence of economic freedom and the six relevant subcomponents of it on the risk-taking behavior of banks.FindingsThe level of economic freedom influenced risk-taking behavior within the banking sector as a whole, conventional and Islamic banking sectors negatively during the study period (2011–2017). Risk-taking behavior of conventional and Islamic banks is similar. However, conventional banks turn to be less influenced by economic freedom level as compared to Islamic banks.Practical implicationsThe government and regulators may benefit from the results by rethinking and setting the best economic freedom index that better serves the stability of the banking system, and lessens banks’ risk-taking inclination.Originality/valueTo the present time, this paper is thought to be of a significant contribution. Given the argument that Islamic and conventional banks behave in the same way. This is one of the first attempts to address this issue in light of the influence of economic freedom and six subcomponents of it on the risk-taking behavior of banks operating in a dual banking system.

Dual market competition and deposit rate setting in Islamic and conventional banks

This paper addresses the issue of competition in dual banking markets by analyzing the determinants of deposit rates in Islamic and conventional banks. Using a sample of 20 countries with dual banking systems over the 2000-2014 period, our results show significant differences in the drivers of Islamic and conventional banks' pricing behavior. Conventional banks with stronger market power set lower deposit rates but market power is not significant for Islamic banks. In predominantly Muslim environments, conventional banks set higher deposit rates and further higher when their market power is lower. Whereas conventional banks are influenced by the competitiveness of Islamic banks, Islamic banks are only affected by their peers in predominantly Muslim countries. Our findings have important implications regarding competition and bank stability in dual banking markets.

This study analyzes the effect of competition banks on credit risk in the dual banking system in Indonesia. This research was conducted using a purposive sampling technique in selecting a sample of 5 conventional commercial banks and 5 Islamic commercial banks. The method used is the Generalized Method of Moments (GMM) from 2011 to 2020. Credit risk for Conventional Banks is measured by the value of Non-Performing Loan (NPL), while Islamic Bank Financing is measured by the value of Non-Performing Financing (NPF). The results of this study indicate that Return on Assets (ROA) for Conventional Banks and Islamic Banks has a significant effect on credit risk in the dual banking system, Loan to Deposit Ratio (LDR) for Conventional Banks does not have a significant effect on Non-Performing Loan (NPL) while Financing to Deposit Ratio (FDR) of Islamic Banks has a significant level 2 influence on Non-Performing Financing (NPF). Bank size does not have a significant influence on credit risk in the dual banking system, and the Lerner Index for Conventional Banks has a significant effect on Non-Performing Loan (NPL), while the Lerner Index for Islamic Banks has no effect on Non-Performing Financing (NPF). The Central Bank in making policies can see that the level of competition for banks in the dual banking system in Indonesia is categorized as a monopolistic competition market, where each bank has its own market segment so that it has market power that is strong enough to set prices that are relatively.