EconomyNext – Islamic banks are less prone than their conventional peers to bank runs during financial panics, tending to attract deposits during such times, a new study by researchers at the International Monetary Fund (IMF) has suggested.
This resilience of Islamic banks, studied during the September-October 2008 financial crisis, "suggests a role for religious branding", the authors said, noting that conventional banks could adopt some methods of Islamic finance.
They set out to test claims about Islamic banks’ relative resilience to financial crises as compared to conventional banking which have accompanied the rapid growth of Islamic banking in developing countries.
"Our results indicate that Islamic branches of mixed banks are less prone to the risk of deposit withdrawals during panics, both unconditionally and conditional on bank characteristics," the team concluded after examining Islamic and conventional banks in
"The Islamic branches of banks that have both Islamic and conventional operations tend to attract (rather than lose) deposits during panics, which suggests a role for religious branding."
The IMF researchers said they found that Islamic bank branches grant more loans during financial panics and that their lending decisions are less sensitive to changes in deposits.
"Our findings suggest that greater financial inclusion of faith-based groups may enhance the stability of the banking system," they said.
Their study shows that other than the financial strength, ‘religious branding’ in its own right, may help banks steer better through a financial panic, supporting earlier findings of relatively better performance of Islamic banks during financial crisis.
"Other than the better fundamentals, what is special about Islamic banking institutions and/or their customers that makes them less prone to bank runs and hence more resilient during panics, is the willingness of customers to share in losses."
This and the customers’ higher degree of affiliation with Islamic banking institutions is perhaps "because both the bank and the customer share same set of values," the paper said.
"Thus the transmission of financial shocks to the real economy may also be partially dampened if faith-based financial institutions are in operation."
The IMF researchers said that some features of Islamic banking may be considered for adaption and adoption in conventional banking such as equity-like profit and loss sharing saving accounts.
"Such saving accounts not only provide an additional cushion to banks’ capital but also to some extent do away with the ‘private gains – public pains’ phenomenon, by sharing both the profits and losses with depositors."
Asset backed financing may put a "natural cap" to excessive borrowing and ensuing debt overhang, they also said.