Banking and Economic Growth: Comparison between Islamic and Conventional Banking in Malaysia

Abstract

This study investigates the contribution of conventional banking and Islamic banking to economic growth in Malaysia. Return on assets, return on equity representing the profitability, total deposit, representing bank development, and several indicators such as total government expenditure, trade openness, and gross fixed capital formation were independent variables. In contrast, the dependent variable was GDP per capita. The study utilised secondary data collected from the Fitch Connect database and Datastream database. This study used a sample of 10 Islamic banking and 10 Conventional banking. The study found that the Islamic banking system variable can influence Malaysia's economic growth.  ROA and Ltdep are found significant and have positive effect to economic growth, but ROE  has adverse effects. On the other hand, the results show that ROA in Conventional bank does not have a relationship with economic growth. However, other banking indicators such as ROE and total deposit are significant to economic growth. Based on the ROE results, ROE Islamic bank contributes more to economic growth than Conventional bank because the percentage that contributes to the decreases of economic growth for Islamic banks is lesser than Conventional bank. The results also showed that Islamic banking provides an efficient channel for productive resources and monitors the use of the funds by the participation of business ventures, leading to bank profitability and then economic growth. This study also stressed on total deposit indicator as a proxy to bank development. This study found that total deposit for the both banking system is significant to economic growth. However, the contribution of banking development in conventional banking is much better than by Islamic banking. However, the gap of differences is too small, which shows that Islamic deposits can cope with conventional deposits.