Islamic Banking : Growth, Stability and Inclusion


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Both the Middle East and Africa are home to more than million Muslims.

Islamic banking promoted as alternative route to financial inclusion

The Middle East, overwhelmingly populated by Muslims, is a motherland of Islamic banking and its primary sphere of influence, as Islamic banks enjoy strong support from rich financiers and the abundance of petrodollars. The performance of the sector is improving lately as oil prices pick up, while governments are enhancing regulations to strengthen the industry.

With the liquidity of Islamic banks expected to remain strong, this continued potential for growth means that investors are increasingly looking to tap into the various opportunities that Islamic banking offers. Market gaps to better meet Muslim-specific banking needs with dedicated and tailored products fully aligned with Islamic core values are many and varied. These market opportunities are underdeveloped still and present attractive platforms for profitable growth for banks eager to exploit the niche. Fully exploiting the Islamic-banking niche means offering customers who care most deeply about Sharia obedience the flexibility, self-service and low cost of the new alternative branch models as well as alternate channels, the same as conventional banks.

The UAE is home to a population of tech-savvy customers, who are eager to embrace emerging technologies that provide a high degree of convenience for their banking needs without compromising on Islamic values and security. Besides, the UAE is stepping up efforts to promote the development of its small and medium-sized enterprise SME community. The global banking industry is at the center of a large digital disruption, with advances in new technologies such as the cloud, business analytics, mobility, blockchain and robotics—all of which constitute an opportunity for Islamic banks to reimagine what the banking function should look like in the near future.

So far, only key markets are driving the adoption of these technologies. Moving to Africa, where Islamic banking was launched—the continent holds great potential that is now beginning to be realized. While countries such as the populous Nigeria stand out as a potential market, interest in Islamic banking is advancing beyond religious grounds in a range of newer locations including Uganda, Ethiopia, Zambia and Mozambique.

There has also been an increase in the number of licensed Islamic banks, rising to more than 80 in the last five years, as more governments introduce plans to mainstream Islamic banking. As the sukuk sector has taken off, so has a continent-wide industry gained momentum, manifested by the greater participation of an ambitious class. Most of the regions in Africa are underserved by existing financial-services firms.

Islamic Banking - Growth, Stability and Inclusion

The World Bank estimates that 30 percent of the people in sub-Saharan Africa do not use formal financial services, owing to religious reasons. There is an increasing interest in a whole range of financial services on the continent, including credit for small and micro-enterprises, savings facilities, insurance, pensions, and payment and transfer facilities. Despite generally rigid Sharia interpretations and a high percentage of customers whose primary concern is product purity, competition is intensifying in the different African regions as even the most conservative Muslim increasingly expects competitive pricing and returns, topnotch service and a wide-ranging product portfolio.


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While access to traditional banking services remains almost an illusion for most Africans, digital banking has been a rising trend on the continent, and thus, it has allowed millions to access banking services. This ground-breaking technology has permitted greater financial inclusion and has benefited large swathes of the unbanked population, including the poor, the young and women.

The use of mobile banking has grown exponentially over the past five years, making the continent the global leader in mobile innovation, adoption and usage. So far, progress has been achieved on many fronts, with a burgeoning Islamic-banking sector shaping the world scene.

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At the heart of this amazing evolution is an ambitious commitment of all stakeholders to applying a centuries-old banking system to new modalities to empower people, reduce inequalities and promote social, economic and financial inclusion. Together, collective efforts by various stakeholders including government agencies and regulatory bodies will elevate the Islamic-banking system—the ethical nature of which is even drawing the interest of non-Muslims—to greater heights. The uniqueness of the study consists of its employment of standard growth model and other determinant variables such as the presence of sharia in the legal system, real GDP, inflation and WBES data.

To the best of our knowledge, no empirical work has been done to assess the determinants of Islamic banking growth by taking into account the following factors oil price dynamics, sharia compliance, inflation, real GDP, instability and WBES. The rest of the paper is organized as follows: Section 2 reviews the stylized facts of Islamic banking. Section 3 discusses recent developments, trends and performance in Islamic banking. Section 4 specifies the empirical model and determinants and discusses findings on measures of Islamic banking growth. Section 5 concludes and gives policy recommendations.

In this section, we present some stylized facts on Islamic banking. Islamic banking is a system of banking which abides by Islamic sharia law and its activities are bounded by the principles of Islam. One of the fundamental differences between Islamic banking and conventional banking is the prohibition of riba , which refers to interest. Islam forbids activities such as maysir , gharar and haram which are, respectively, gambling, speculation and venturing into businesses that are considered impermissible such as production or trade in alcohol, pork or any businesses that produce product s that are considered illegal in Islam.

Mudaraba is a financing arrangement between two or more parties where one partner provides the financing of the project, and the other manages the business. While the financer provides all the necessary capital, profit retained from the investment is distributed between the two in ratios agreed between the two parties. Musharaka is a form of a loan arrangement based on profit and loss sharing.

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The partners involved contribute capital to the project and share the risks and rewards associated with it. While in Murabaha contract agreement, the bank buys an asset or a commodity from a third party and later resells it to another party at a price which usually includes a mark-up, in Ijara arrangement, the sale of the goods is done at a specific period.

In Ijara , rental fees are paid to the buyer of the asset which is usually the bank. Sukuk is one of the most popular financing instruments in Islamic bank. It is to a large extent similar to bonds in conventional banks. While in a conventional bond issuance interest rate is the main determinant, sukuk issuance is backed mainly with asset.

Islamic bank-like conventional banks are profit-making entities although the constraints confronting Islamic banking differ to certain extents with those of conventional banks. Islamic banking has been growing not only in the Muslim countries but also in non-Muslim countries. As of end , there are Islamic banks globally, which constitutes about 28 per cent increase since The total number of Islamic banks in stood at On average, total assets, net income and equity have increased by It has been argued that increase in number of Islamic banks could be related to the increase in revenue due to a surge in oil prices in the past couple of years.

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It has been argued that the sector is immune to the recent financial crisis, which hit hard the conventional financial institutions. Furthermore, Islamic banking practice is gaining momentum and is being covered in the legal and regulatory frameworks. As indicated in Table I , with the exception of Malaysia, the majority of Islamic banking assets is concentrated in the Middle East region including Iran. Suffice it to state that the Middle East dominated the Islamic banking at global level. There is a large potential for Islamic banking to continue to grow due to large population of Muslims and economic growth rates in these countries.

In addition, there are quite a number of countries with substantial large Muslim populations without Islamic banking or less presence of Islamic banks. It has been argued that two potential sources that could contribute to the expansion of Islamic banking are entry of new Islamic banking institutions in countries where Islamic banking already exists and introduction of Islamic banking in countries where Islamic banking does not currently exist but the substantial share of the Muslim population can potentially mobilize establishment of Islamic banks.

Nigeria and Senegal in West Africa are candidates in good demand for Islamic banking in the very near future[ 1 ]. Although data availability is an issue in most of the member countries of the OIC, there is some evidence that Islamic banks are contributing to shared prosperity through the mode of financing they are offering as well as the sectors they are supporting. The distribution of financing by sector Table II shows that about 25 per cent of total financing is allocate to the acquisition of consumer durables while real estate and construction, manufacturing and trading point at The data set consists of 19 countries for which data are available.

Out of these countries, 14 are from the MENA region. We recognized that some of these countries such as Syria and Yemen are involved in conflict for years, but the instability dummy will take account of this. We also considered countries that not part of the MENA region with greater presence of Islamic banking. These countries are Brunei, Bangladesh, Malaysia and Pakistan. We also use enterprise survey data. While asset and loan data are sourced from Bank Scope, the rest of the macroeconomic data were sourced from World Bank World Development Indicators database.

Apart from enterprise survey data, all the series considered are from to We acknowledged lack of enterprise survey data for most of the countries under consideration. We begin our analysis by estimating the standard growth model as a point of departure. We borrowed from the work of Solow, Bhattacharya and Wolde and Hesse s and used the augmented Solow growth model as a framework for our analysis.

As noted by Hesse taking into account that the empirical growth literature has been blame for its approach of propelling in all kinds of possible explanatory causes, the explanatory variables in our regression analysis focus on expectations of the augmented slow growth model. According to Hesse , in the Solow growth model, the growth in output per worker, among others is a function of initial output per worker, the saving rate, initial level of technology, rate of technological progress, the rate of depreciation and the growth rate of the workforce.

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In the model, higher savings will cause a higher growth of output per worker where as an increasing growth rate of the labor force has the opposite effect on growth. In the augmented Solow growth model, a measure for human capital is added as an additional determinant of growth. Our emphases are on determining Islamic banking growth which largely mimicking growth. We however include additional variables such as inflation, oil prices and instability index, which are not included in the structural determinants of long-term growth.


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A dummy variable for MENA is also included to gauge whether Islamic banking growth in the region has reach its potential level. Muslim population growth, school enrollment rate and fixed capital formation are considered as inputs just as in the case of standard growth model. Secondary school enrolment rate is a proxy for human capital, one of the variables needed to drive growth in Islamic banking due to ease in promoting awareness of Islamic banking. The box below provides a summary explanation of the variables used to estimate the determinants of growth in Islamic banks.

Subscripts jt used in the dependent variables represent country and time, respectively, and e jt is the residual term. The variables of interest consist of: GDP : Increase in economic activity and economic growth income will induce the society into more saving and investment hence the need for more banking activities. We therefore expect an increase in Islamic banking growth to correlate positively with economic growth.

Islamic Banking : Growth, Stability and Inclusion Islamic Banking : Growth, Stability and Inclusion
Islamic Banking : Growth, Stability and Inclusion Islamic Banking : Growth, Stability and Inclusion
Islamic Banking : Growth, Stability and Inclusion Islamic Banking : Growth, Stability and Inclusion
Islamic Banking : Growth, Stability and Inclusion Islamic Banking : Growth, Stability and Inclusion
Islamic Banking : Growth, Stability and Inclusion Islamic Banking : Growth, Stability and Inclusion
Islamic Banking : Growth, Stability and Inclusion Islamic Banking : Growth, Stability and Inclusion

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