Edited by M. Kabir Hassan
Chapter 13: How institutions shape the gap in efficiency between Islamic and conventional banks
We investigate the impact of the quality of institutions on the cost-efficiency of Islamic and conventional banks. Changes in the quality of institutions can contribute to influencing the gap in cost-efficiency between both types of banks and can then influence the expansion of Islamic finance. We measure the cost-efficiency of banks on a dataset of banks from 17 countries in which Islamic and conventional banks coexist. We find that Islamic banks have lower cost-efficiency than conventional banks, which can hamper their expansion, as greater costs are associated with higher prices. However, better quality of institutions reduces the gap in efficiency between Islamic and conventional banks. Thus, our main conclusion is that the improved quality of institutions can reduce the disadvantage in efficiency of Islamic banks relative to conventional banks and can then favour the development of Islamic finance.
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