Pricing of Islamic Banking and Conventional Banking: An Empirical Study

Abstract

This paper examines and assesses the extent to which pricing of Islamic banking and finance (IBF) worldwide is correlated to conventional finance. The data used were obtained from the Islamic Finance Country Index (IFCI) and the Cbonds platform. The IFCI is a methodology developed by Edbiz Consulting to measure the growth of IBF. The IFCI has been gathering data for nine years, sufficient time to yield meaningful results. Cbonds is a financial-data vendor highly specialised in the analysis of bond markets. This study provides both a qualitative analysis in the form of a tile map chart and a statistical test aimed at generalising the correlation between IBF expansion and interest rates to all countries where IBF banks might locate. This correlation is estimated by dividing the analysed countries into tertiles according to their interest rate and comparing the mean IFCI scores. The difference between the lowest tertile and the others is statistically significant. This appears to be the first empirical study to incorporate the whole geographical scope of the IFCI and analyse the interest rates of all countries to which IBF expansion metrics apply. Emerging markets represent an important growth opportunity for Islamic banks. In fact, the presence of Zakat as a mandatory tax to reduce poverty and the idea of a system based on distribution of wealth are important factors for developing economies. This study is consistent with previous findings: the IBF pricing system is correlated to the conventional banking system, and there is a positive correlation between the IFCI and countries with high yields. The main limitation of this study is the difficulty in obtaining the 10-yearyield to maturity (YTM) of countries for which no data was available.