An empirical investigation into the relationship between banks performance and economic growth: a comparative study of Islamic and conventional banking system

Islamic banking is a fast growing sector in the global financial and economic systems Previous empirical studies on the finance-growth relationship were conventional based while the concept of Islamic finance was discussed in very rare works which are limited on their coverage, scope and extremely from a religion point of view. The purpose of this thesis is to bridge the gap in the existing research literature by examining the association and causality between banks efficiency and countries' economic growth over the period of 2005-2016. The sample consists of 44 Islamic and 44 conventional banks from Asia, Africa, the Middle East, Gulf region, and, Europe. This thesis utilizes the Data Envelopment Analysis (DEA), Tobit regression, and the Granger-causality test to achieve the study objectives. Additionally, the thesis assessed the effect of banks' internal factors on banks. efficiency, which could in turn influence the direction and strength of the relationship between banks efficiency and GDP. Findings reveal that Islamic and conventional banks are not fully efficient technically. Banks' inefficiencies are largely due to inappropriate size of banking operations. Islamic banks showed a less volatile efficiency and thus appeared to be better immune to theadverse effects of the global crisis of 2008. Results further showed that banks profitability, age and lending intensity positively affect banks efficiency, while banks skills utilization negatively affects banks efficiency score. The combined-effect of the GDP on banks' efficiency and vice-versa was found inconclusive, except in the post crisis period, indicating a weak support to both the finance-led growth and the efficiency channel hypotheses. Yet, a country level analysis of the relationship between GDP and banks' efficiency verified the finance-economic growth nexus for some banks and countries therefore the respective hypotheses in this present study cannot be genera;ized. Eventually, results support the bidirectional causation running in the short and long run between banks efficiency and economic growth for Islamic banks only. Findings suggest that Islamic banking is a proper, sustainable and beneficial substitute to the conventional banking system.