IMF Economists Investigated Islamic Banking and its Diffusion Around the World
Date: 17 September 2010

In a recent study, two IMF economists investigated Islamic banking and its diffusion around the world. It is stated that “[Islamic banks] showed greater resilience during the recent financial crisis as they were not involved in trading ‘toxic assets.’” The main reasons are identified as follows: (1) Islamic banks finance their activities out of deposits rather than from wholesale funding, in contrast to most conventional banks; (2) Shariah law prohibits Islamic banks from dealing in second-hand, interest-bearing mortgages, which were the main cause of the US subprime mortgage crisis; (3) Islamic banks favor investments in sectors that were not hit as hard by the global crisis such as utilities, telecom, healthcare, and high-tech.

The authors found that quality of institutions in a country, which traditionally matters for conventional banking, is not important for the diffusion of Islamic banking. This is due to the fact that Islamic banking is primarily guided by Shariah law, which is largely independent of regulatory institutions. The authors suggest that Islamic countries can build up their Islamic banks even if not enough progress is made to reform institutions.

They also found that Islamic banks act as a complement, rather than a substitute, to conventional banks. This is because the more established the conventional banking system is in a country, the more accommodating it will be to Islamic banking. Also, Islamic banks serve devout Muslims who have not been served by conventional banks.

Download the full version of the report titled "Islamic Banking: How Has it Diffused?" by IMF