Business orientation, efficiency, and credit quality across business cycle: Islamic versus conventional banking. Are there any lessons for Europe and Baltic States?

Abstract

This paper empirically investigates the difference between Islamic and conventional banks in terms of business dynamics, cost structure, credit quality, and stability. It also examines the difference in the response of two types of banks during peak and trough phases of the business cycle. The analysis is carried out for a sample of 280 banks in 20 countries over the 1995-2014 period. The results reveal that Islamic banks are more involved in fee-based business, are less cost-efficient, have higher credit quality, and have higher capitalization than conventional banks. We also find that Islamic banks outperformed conventional banks with regard to their credit quality and stability indicators during the trough phase of the business cycle. The improved performance seems to be due to the differences in the provisioning strategies of the two types of banks, the non-aggressive lending profile of Islamic banks, and investment in real assets. Finally, based on the empirical findings, the paper also highlights potential lessons that conventional banks in Baltic States, which were severely hit by the 2007-2008 global financial crisis, can draw from Islamic banking principles.

Examining the Correlation Between Islamic Banks Profitability and the Business Cycle in Indonesia

“…As Pratiwi (2016) said, partnership contracts in Islamic banks are allowed SMEs to present better performances by channelizing the supportive technology and knowledge for SMEs. Besides, evidence from 280 banks in 20 countries, Nosheen & Rashid (2019) portrayed that Islamic banks have qualified and higher financial to deposit ratio than conventional counterparts. Islamic banks have a better performance because it is focused on investment in real assets, non-aggressive lending and provisioning strategies (Nosheen & Rashid, 2019).…”

Empirical analysis of impact of macroeconomic indicators on Profitability of Islamic Banking Industry in Pakistan

“…It is measured through ratio of Net Profit and Total Assets. Total Assets (LNTA): The total assets of the banks are the indicator of the size of the banks when their natural logarithm has been taken (Nosheen & Rashid, 2019). Credit Risk (CR): When the total loss provisions of the banks are divided by their total loans it gives the Credit Risk.…”

“…For all the banking sectors here, the State Bank of Pakistan (SBP) is the sole supervisory jurisdiction and regulatory body for the Islamic banks. Even though there are just four Islamic banks in Pakistan, but as per the Islamic Banking Bulletin of the State Bank of Pakistan, they are having a 15% share in assets and 15.6% shares in deposits of overall banking industry (Nosheen & Rashid, 2019).…”

Assessment of Financial Performance and Efficiency of Islamic and Traditional Banks in the Post-Crisis Period

“…Such findings have been further confirmed by Mohanty et al (2016) who revealed a high degree of intra-regional volatility affecting banking efficiency in Islamic banks that has led to regionally-specific volatility in cost and profit efficiencies when compared with conventional banking institutions. Whereby this efficiency variation might signal a higher degree of insecurity or inconsistency in Islamic banks, a multi-decadal study presented by Nosheen and Rashid (2019) revealed greater performance over conventional institutions during periods of volatility in terms of both credit quality and institutional stability, a finding that is directly related to financial provisioning.…”