The Effects of Regulation and Supervision on the Risk-Taking Behaviour of Islamic Banks

Abstract

Purpose: This study examines the impact of the regulatory and supervisory environment on the risk-taking behaviour of Islamic banks. The impact of the heterogeneous nature of the banking environment in the sampled countries is also considered. Design/methodology/approach: A dynamic panel data analysis with system GMM estimators was used with a sample consisting of 120 Islamic banks from 21 countries for the period 2000-2013. Findings: The results demonstrate that main regulation and supervision proxies have significant negative effects on risk levels of Islamic banks, which implies that further restricted regulatory and supervisory environment can lower risk levels of Islamic banks. In addition, the Islamic banks operating under the dual banking system seem to prefer to take a lower risk. Furthermore, the results identify that a stable political environment encourages Islamic banks to take higher risks in their operations. Originality/value: In addition to examining the common factors, the empirical analysis in this study is extended to the investigation of the effects of several political indicators on risk-taking behaviour of Islamic banks, which should be considered as an important contribution.