What Drives the Non-Performing Loan Rates of İslamic and Conventional Banks? a Comparative Analysis Based on Panel Regression

Abstract

Purpose - Islamic finance is known to have a stronger structure compared to interest-based banking systems in terms of both reducing systemic risks and its ability to establish a solid bridge between the financial sector and real economy through its asset and risk sharing-based structure. These banks are known as katılım bankaları [participation banks] in Turkey; their operations with respect to financing models based on real trade make them more resilient against various shocks in the banking sector compared to deposit banks. The most important of these shocks are non-performing loans (NPLs). NPLs are among the most important items showing banks’ quality. This study examines the factors determining the non-performing rates of participation banks operating according to Islamic principles in Turkey and aims to identify the differences between them and deposit banks. Design/methodology/approach – The study examines the differences between participation and traditional banking systems with the panel data analysis method using annual data from 18 banks operating in Turkey between 2005-2019. Findings- The findings from the study reveal which types of banks are strong and manage their loans well. The performed analyses and empirical results prove the claims that participation banks are more robust than deposit banks. The effects of the micro- and macro-determinants affecting non-performing loans have provided results similar to studies in the literature; the most striking situation in the analyses is that participation banks are more resistant to non-performing loans than deposit banks. Research limitations/implications – A limitation of the research is the study’s ability to access some of the data after 2005. Alongside this, another limitation leading to data from previous years not being used in the analyses is participation banks being subject to banking law in 2005. Practical implications – This article constitutes an important sample for future studies thanks to the methods used and the comparative analysis performed between both banks. In addition, the study shows participation banks to be able to increase the stability of the banking system by revealing the differences of the interest-free banking system. Originality/value- As far as the author is aware, this study can be placed among the most comprehensive studies made in its respective field in Turkey in light of the findings obtained in the research. This study has additionally identified the determinants of non-performing loans, which constitute the most significant problem for participation banks operating in the field of Islamic finance; in this sense, the study offers a new perspective to the sector. To the best of the author’s knowledge, this study is the first attempt to analyze the impact the features of corporate governance have on rating both Islamic and traditional mutual funds, thus making a significant contribution to the literature.