Stability Of The Islamic And Conventional Banks Finance Essay

As we discussed in the old chapter about the history of the Islamic and commercial Bankss, Islamic banking system provides for their clients the same merchandises and services as the conventional Bankss with little differences between the two systems due to the rules of the Islamic finance. Therefore, there are many surveies that have examined the fiscal minutess of the two systems and evaluated their fiscal public presentation and stableness.

However, during the last three decennaries many fiscal crises have occurred which affected strongly on the two types of Bankss, many of the research workers have studied the fiscal public presentation and stableness of the commercial and Muslim Bankss. There were different positions about their fiscal public presentation and stableness, accordingly, this chapter will exemplify the difference between the two systems and besides exemplify how Muslim Bankss avoid the involvement in their fiscal minutess with their clients. Furthermore, this chapter will besides discourse how some surveies have evaluated the fiscal public presentation and stableness of the two systems in different parts and different periods with an account of how the recent fiscal crisis effected on commercial and Muslim Bankss.

THE PRINCIPLES OF THE ISLAMIC Banking SYSTEM

Islamic banking system operates harmonizing to Islamic Torahs and Islamic shariha. Consequently, Islamic fiscal systems derive their regulations and rules from the Holy Quran and the expressions of the prophesier Mohammad. Hence, Islamic Torahs prohibited Riba ( involvement ) , Gharar ( hazard ) and Maysir ( chancing ) due to the negative consequence of these three issues on the investor ( Gait and Worthington, 2008 ) .

Harmonizing to Gait and Worthington ( 2008 ) who defined Riba ( involvement ) as big or little additions on the value of the initial loan to the borrower who must pay this money to the loaner. Therefore, Islamic finance prohibited any extra or fee on the value of the initial loan due to the negative consequence this would hold on the borrower. Furthermore, Gharar ( Risk ) is selling points or merchandises whose hereafters are unsure, which may do hazard to the purchaser and do this trading as chancing. Finally, Maysir ( wagering or gamblling ) is out in Islamic finance due to the ambiguity in this type of trading, which will non vouch the returns. Therefore, Riba ( involvement ) , Gharar ( Risk ) and Mayser ( Gambling ) are considered as the chief three issues that are forbidden in Islamic finance and if these three rules are prevented in the bank so it will go a proper Islamic banking system ( Cattelan, 2009 ) .

However, the Islamic banking system using many types of fiscal methods that comply with Islamic Torahs in order to avoid the involvement between the borrower and the bank, such as Mudarabah, Musharakah, Murabaha, Istisna, Ijarah and Qard Hasson ( Smolarski and Schapek, 2006:429 ) .

Mudaraba ( Speculation ) :

Mudaraba is a contract between the investor and the bank in order to supply the fiscal resources to the investor, and besides the net incomes and losingss will be shared between the two parties harmonizing to a specific per centum that they agreed upon from the beginning of the procedure. Whereby, the investor will be responsible for all the fiscal losingss and another party will be responsible for all the operating losingss ( Begum and Rahman, 2006 ) .

Musharaka ( Full partnership ) :

Musharaka can be defined as a full partnership between the bank and the investor in the net income and loss depending on the per centum that they agreed upon. In general, it is seen as co-operation or a joint procedure between the Islamic bank and the client for carry oning certain minutess. It is possible that the Islamic bank can execute as the money supplier to finance different sorts of industries ( Begum and Rahman, 2006 ) .

Murabaha ( mark-ups on sale ) :

Murabaha is a contract between the bank and the investor in order to supply the investor with the initial fund to purchase the goods for the merchandises or for the services. Furthermore, the investor will pay the costs of the merchandises and the net income border ratio to the bank by agreed upon payments or chunk amount with no addition in the net income border ratio ( Gait and Worthington, 2008 ) .

Istisna ( Manufacturing contracts ) :

Istisna is one of the Islamic fiscal minutess, and in this type of contract the bank will supply the investors with the needed industrial stuffs in order to get down their concern with progress hard currency payments or by deferred payments and day of the month of bringing ( Gait and Worthington, 2008 ) .

Ijarah ( rent funding ) :

Ijarah is a pre-payment for a rental contract between the two involved parties, where the proprietor of the edifice or the offices leases the assets to the leaseholder, who uses the location.

Quard Hassan ( benevolent loans ) :

Quard Hassan is a type of loaning ; in this type of imparting the bank introduces the money to those who need the money to diminish their difficult working state of affairs. Furthermore, the bank can impart the money based on zero-interest to any of the societies for different purposes, including money for outgos in relation with instruction or matrimony ( Gait and Worthington, 2008 ) .

ISLAMIC Banking Minutes:

The fiscal minutess of the Islamic Bankss have developed since the first Islamic bank was opened in order to present the best services to their clients harmonizing to Islamic Torahs. Therefore, Islamic banking system depends on the investings of the money belonging to the stockholders and the depositors. Consequently, several surveies have discussed the fiscal resources of the Islamic bank and the use of this money

Harmonizing to Gait and Worthington ( 2008 ) , the three basic methods of the Islamic sedimentation histories are the undermentioned:

An Islamic current history is considered as a service to supply the installation for depositors to do minutess such as transference of financess and paying checks in and out of the history.

This history could be paid on demand without any involvement paid to the depositors. It is besides possible to maintain these histories in the signifier of foreign currency in order to do it easier to carry on international trade.

An Islamic economy history is the same as the commercial economy history. Whereby, this nest eggs account introduces to the client benefits and services alternatively of involvement due to the prohibition of involvement.

An Islamic investing sedimentation history is a particular history for the client who wants to do an investing by utilizing their ain money harmonizing to the construct of the net income and loss sharing. Therefore, Islamic investing histories are divided into two types as follows:

Specified investing histories:

In this type of history the bank will be responsible for the investing of the client money in a specific investing, or in conditional investings, in specific undertakings or specific sectors.

Unspecified investing histories.

This history introduces to the client the chance to allow the bank the full authorization for the investing, with respect to the banksaa‚¬a„? ability and wants to put in any relevant dealing.

Servicess

The Islamic banking system provides many services to their clients the same as commercial Bankss, such as letters of warrant, travelleraa‚¬a„?s checks letters of recognition, money transportations, public presentation bonds and foreign exchange minutess.

Furthermore, Islamic Bankss are able to roll up some types of fees, such as administrative or service fees, harmonizing to the outgos generated on the service and provided in correspondence with the Islamic Islamic law.

The Islamic Bankss are besides in the place to bear down a committee fee when the fiscal minutess are for the intent of merchandising and purchasing metals such as gold on behalf of the client due ( Gait and Worthington, 2008 ) .

THE FINANCIAL PERFORMANCE AND STABILITY OF THE ISLAMIC AND CONVENTIONAL BANKS

This portion will discourse some surveies that have evaluated the fiscal public presentation, efficiency, stableness and the fiscal hazard of the two types of Bankss, in different parts, periods and samples are as follows.

Dr. Ali ( 2010 ) evaluated the fiscal public presentation of the top 10 commercial and Muslim Bankss during the recent planetary fiscal crisis of ( 2006-2009 ) . Dr. Ali made a comparing between the two types of Bankss in the entire assets, entire equity, net net income, market capitalisation and the fiscal indexs. The overall consequences illustrate that the entire equity of commercial Bankss increased by 24 % , and the entire equity of Islamic Bankss rose by 36 % . Furthermore, the net net income of the commercial Bankss decreased from $ 116 billion to $ 42 billion. In contrast, the net net income of Muslim Bankss increased by 9 % . Furthermore, Islamic Bankss encountered a diminution by 8.5 % in the market capitalisation, whilst the commercial Bankss went through losingss by 42.8 % .

As a consequence of the strong impact of the planetary funding crisis on the commercial Bankss, five of the largest 10 commercial Bankss in the universe received aid from the authoritiess ( $ 163 billion ) , at the same period, one Islamic bank demanded aid from the authorities to reconstitute its place and its portions in the market.

The entire return of Islamic Dow Jones declined during the old ages from ( 2007 to 2008 ) by 24.7 % , whilst the entire returns of MSCI universe index declined by 34.7 % .

Harmonizing to Safiullah ( 2010 ) who evaluated the fiscal public presentation of the Islamic and conventional Bankss in Bangladesh by analyzing the involvement free in Muslim Bankss and the involvement based in conventional Bankss through utilizing the Statistical Package for Social Science ( SPSS ) and fiscal ratios analysis on four commercial Bankss and four Muslim Bankss.

The consequences illustrate that the fiscal public presentation of the Islamic Bankss under the construct of involvement free seems to be better than conventional Bankss in liquidness, concern development and profitableness. Second, the fiscal public presentation of the conventional Bankss under the construct of the involvement is more efficient than Muslim Bankss in the committedness to community and economic system. Finally, the overall consequence of the public presentation of the two types of Bankss in Bangladesh showed that the fiscal public presentation of the Islamic banking system in Bangladesh is more efficient than conventional Bankss.

In contrast, some surveies have evaluated the fiscal public presentation for the two types of the Bankss, and they got different consequences than Dr. Ali and Safiullah.

Erusan ( 2008 ) applied SPSS and ANOVA analysis on 12600 observations from Islamic, foreign commercial, local commercial Bankss and finance companies, and classified these observations into one, three, six, nine, 12, and 15 months of rates, in order to analyze the public presentation of the return on the sedimentations in those types of Bankss by T-testing the observations.

Furthermore, Erusan evaluated the fixed net income rate of commercial Bankss and the net income rate of Islamic Bankss in Malaysia over the period 2002 to 2006 by utilizing one Islamic bank, 13 foreign commercial Bankss, 10 local commercial Bankss and 11 finance companies.

The overall consequences indicate that the returns on sedimentations in foreign Bankss ; commercial Bankss and finance companies were higher than Muslim Bankss. On the other manus, the consequence of ANOVA showed the Islamic bank achieved the smallest agencies public presentation in June compared with commercial Bankss. Furthermore, the finance companies achieved the highest rate of average public presentation in January compared with other Bankss.

Dahduli ( 2009 ) examined the impact of the planetary fiscal crisis on the fiscal public presentation of 22 Muslim Bankss and 54 commercial Bankss in the gulf country during the period ( 2000-2008 ) , through t-testing nine fiscal ratios in order to compare the undermentioned ( liquidness, profitableness, recognition hazard, and efficiency of each system ) , Dahduli reached the decision that during normal economic conditions, commercial Bankss are more profitable and efficient, higher liquidness hazard comparing with the Islamic Bankss.

The planetary fiscal crisis decreased the discrepancy in profitableness and efficiency between the two systems as a consequence of the strong impact of recognition force per unit area on the conventional Bankss and the good fiscal public presentation of the Islamic Bankss. Furthermore, Muslim Bankss were less exposed to recognition hazard in comparing with the conventional Bankss.

In add-on, Samad ( 2004 ) examined the fiscal public presentation of the commercial Bankss and the Islamic Bankss during the period 1991-2001 by analyzing the Liquidity hazard, recognition hazard and profitableness ratio. Therefore, nine fiscal ratios and t-test have been used to analyze those Bankss.

Samad found that there was no fluctuation between the two types of Bankss in the public presentation of profitableness and liquidness ; nevertheless, the commercial banking system is more open to recognition hazard than Islamic bank.

Many other research workers have examined the fiscal hazard of the commercial and Muslim Bankss such as Ariss ( 2010 ) who evaluated the competitory state of affairs of the Islamic and commercial Bankss over the period 2000-2006 by analyzing a sample of 58 Islamic and 192 commercial Bankss in 13 Asiatic and Middle East states.

Ariss examined the sample of Bankss by utilizing four fiscal ratios and H-statistics to measure and to compare the competitory state of affairs in those Bankss. Therefore, the profitableness consequences showed that the Islamic Bankss allocated a greater portion of their assets to supply loans to finance their clients compared to the commercial Bankss. Furthermore, the Islamic Bankss have less exposure to fiscal hazards than the commercial Bankss, and the competitory state of affairs of the commercial Bankss indicates to less concentration in the fiscal hazard, and their competitory advantages are higher than Muslim Bankss.

Furthermore, the universe economic and fiscal study ( 2009 ) indicated that the fiscal public presentation of the Islamic Bankss and the profitableness somewhat decreased in the Gulf cooperation council provinces, and he analyzed 50 conventional Bankss and 18 Muslim Bankss in the part during the fiscal crisis. The study ‘s consequences revealed that commercial bank profitableness fell greatly in 2008, and the Muslim Bankss were less prone to recognition hazard compared to the commercial Bankss.

The intent of Cihak and Hesse ( 2008 ) work was to prove the fiscal stableness of the conventional and Muslim Bankss in Asia and in the Middle East. Therefore, they used the Z mark fiscal analysis tool which indicates to several constructions of the fiscal ratio analysis, for case, return on equity and return on assets, which is considered a utile instrument for mensurating solvency hazard for the bank that operated out of capital and modesty.

They analyzed and observed 397 conventional Bankss and 77 Muslim Bankss, from the same countries during the period 1993-2004 by comparing the Islamic and commercial Bankss which work in little and big capitals in order to analyse the fiscal stableness of each system.

The consequence was that the fiscal state of affairs of the little Islamic Bankss was stronger and more stable compared with the little conventional Bankss and big Islamic Bankss, due to the concentration on investing with low hazard. Large conventional Bankss were stronger than the big Islamic Bankss, because of the trouble to supervise the credits.

Some surveies have evaluated the efficiency of the two systems in order to find the most efficient system such as Hamim and Mohktar ( 2006 ) who measured the efficiency of 20 commercial Bankss, 20 Islamic Windowss and 2 fully fledged Islamic Bankss in Malaysia over the period 1997 to 2003, by utilizing SFA attack. The overall consequences illustrate that the entire sedimentations of the Islamic Bankss in Malaysia increased dramatically over the period of survey. Furthermore, the consequences of measuring the cost and proficient efficiency of the two types of Bankss indicate that the overall efficiency of the commercial bank industry remained the same, where as the Islamic Bankss increased over the period of survey. Although the degree of efficiency of the Islamic banking system is still lower than the commercial banking system in Malaysia, it seems the Islamic banking system in Malaysia is more efficient than Islamic Windowss.

Yudistir ( 2004 ) measured the efficiency of 18 Muslim Bankss during the period ( 1997-2009 ) , his measuring was founded on efficiency rating in which ( DEA ) was utilized to turn to the proficient effectivity of the Islamic banking industry, and the overall consequences show that the Islamic Bankss suffered from the fiscal crisis over the period 1998-1999, and they improved their fiscal public presentation after that period.

Johns and Pappas ( 2009 ) assessed the efficiency of 19 Muslim Bankss and 50 conventional Bankss, during the period ( 2004-2009 ) by utilizing ( DEA ) and six fiscal ratios in order to mensurate the proficient efficiency.

This analysis illustrated that the Islamic banking system has higher return on investing compared with the commercial banking system. Furthermore, irrespective of the fact that the Islamic Bankss entire assets are less than the commercial Bankss, still they are more effectual in utilizing and using their resources to make grosss and net incomes.

Shahid and Rehman ( 2010 ) examined the efficiency of the Islamic and commercial Bankss in Pakistan. They used a sample consisting of 5 conventional and 5 Muslim Bankss during the period ( 2005-2009 ) .They applied the DEA theoretical account in order to mensurate the effectivity of the two systems harmonizing to CRS & A ; VRS attack.

Their findings showed that the TE of the conventional Bankss is better, but in CE and AE the two sectors revealed good competition. And the t-statistics shows the absence of noteworthy difference in average effectivity tonss between the two systems except in 2008.

Mohammad, Hassan and Bader ( 2007 ) have evaluated the net income and cost efficiency of Islamic and conventional Bankss in the Middle East and North Asia, during the period 1990 to 2005, by using stochastic frontier attack ( SFA ) , on 37 conventional Bankss and 43 Muslim Bankss, based on the part and size.

The consequences of the analysis illustrated that the cost efficiency of the Islamic Bankss was 31.8 % , and 29.3 % for the conventional Bankss ; net income efficiency for the commercial Bankss was 75.4 % , and 75.1 % for the Islamic Bankss. Furthermore, the findings showed that the Islamic and the conventional Bankss are efficient in making net income but, inefficient in commanding the costs.

In 2008, Majd tested the efficiency of 37 Muslim Bankss during the period ( 2001-2006 ) in 16 Asiatic and Middle East states which are the largest Muslim fiscal markets. ( DEA ) has been used, and the consequences indicated that their public presentation was good, but was inefficient in pull offing the use of their resources, which might impact their fiscal public presentation in the undermentioned old ages.

The Islamic Bankss in Asia and the Middle East achieved 66.7 % in proficient and pure proficient efficiency, while this per centum for the Asiatic Bankss was 61.4 % , which indicates that the Islamic Bankss in the Middle East were more efficient than the Bankss in Asia, and they performed better. Finally, the Islamic Bankss in Iran scored the highest per centum of efficiency ( 85.4 % ) among the Middle East and Asiatic states.

THE RECENT FINANCIAL CRISIS

The recent fiscal crisis or mortgage crisis that occurred in the United States of America during September 2007, effected strongly on many fiscal establishments and the economic systems of many states all over the universe, due to the strong economic relationship between the international stock markets and the American stock market.

The recent fiscal crisis began when the banking sectors in the USA started to give fiscal installations to the borrowers to take loans in order to purchase belongings without any verification on their ability to pay the loan and the involvement to the Bankss. The demand on the existent estate sector increased dramatically in USA. The borrowers who were unable to pay their loans had their belongingss repossessed by the bank. Consequently, the job started to increase when the Bankss did non happen purchasers for these houses because of increasing the value of belongings the buying power of belongingss declined. Therefore, the fixed assets of the Bankss increased dramatically with a deficit in the hard currency flow which led to the Bankss inability to cover the short and long term liabilities. Consequently, the Bankss inability to sell these assets and cover their liabilities caused the prostration of the bank ( Scardovi, Gatti and Ventola, 2010:213 ) .

There were many Bankss and fiscal establishments which collapsed because of the fiscal crisis such as, Lehman Brothers bank that brought the immense negative impacts on the different sectors of the human life. Another illustration that clearly illustrates the great negative impact of the planetary fiscal crisis can be seen in the instances of the prostration of many car houses in America and Europe, where many 1000s of workers lost their occupations and their monthly income, the lone beginning of gross to pay for their household life disbursals. Besides, the consequence of the planetary fiscal crisis extended to many sectors of human life such as, production procedures, increasing the unemployment and the authoritiess became unable to accomplish their programs and aims, which led to troubles in run intoing their fiscal responsibilities and committednesss ( Rova and Mano, 2009:514 ) .