Effects of Islamic Banking on Employment: Turkish Experience

Effects of Islamic Banking on Employment: Turkish Experience

Etem Hakan Ergeç (Istanbul Medeniyet University, Turkey) and Bengül Gülümser Kaytancı (Anadolu University, Turkey)
DOI: 10.4018/978-1-5225-2008-5.ch014
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Islamic Banking (IB) holds the potential of creating positive impacts upon the economy thanks to its governing principles. An extension of this potential is that the employment should be positively affected by Islamic banks. This study comparatively investigates the relationship between Islamic and private commercial banking loan and sectorial employment in Turkish economy through Granger causality method. The loans offered by IBs affect employment in manufacturing and construction sectors whereas such an impact is not identified for others. Therefore, in sectors with the exception of these two, there is no finding suggesting that IBs have positive impacts in respect to employment on real economy.
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Because of their working principles, Islamic banks (IBs) play considerable important roles in the economic structures they operate in. It is generally argued that as intermediary financial institutions, the Islamic banks may provide positive impacts to the financial system, more than the conventional banks can do. Also, they have the potential of increasing acceleration of economic development. There are a number of studies in the literature suggesting that these institutions make positive contributions from different aspects. These accounts cite their funding logics, interest-free activities, limited accessibility to global financial markets and avoiding from speculation as major factors for these additional contributions.

Funding logic appears to be the primary factor for this potential impact. Because of their governing principles, IBs, as a financial intermediary, avoid the trade of money. As an extension of this logic, they also tend to avoid interest-based activities. Islamic banking employs financial brokers preferring to deliver loans as they do not reserve the room for interest-bonded assets in their actives. Because the interest-free stock exchange market is less developed than the interest-based stock exchange market, this enables better funding for the private sector in economies where the bank loans are the main means of funding.

Because money is a medium of exchange and not a commodity, its sale and purchase are prohibited in Islam. Prohibition of trade for money means that the loaning activity is more integrated with goods and services. This eventually leads to a linkage between financial flow and productivity. Therefore, the better integration of loans with goods and services means that the loans will have a real direct impact.

One of the loaning forms of these institutions is profit and loss sharing system (PLS). In this system, decisions during loaning are sensitive to the profitability of the investments. Therefore, the PLS systematic also makes sure that the resource allocation takes place more effectively (Khan, 1986; Iqbal, 1997, p. 42). Because of PLS paradigm, Islamic banks can affect productivity more than conventional banks. Because they operate based on the PLS, the Islamic banks have to act carefully in selecting the better projects in an attempt to secure the profitability of the projects; to this end, they should also keep an eye on the customers using loans. Because of only, the most profitable projects would be financed; capital would be transferred to projects which would boost the economy (Dahduli, 2009).

In addition, Islamic banks have to remain careful because they need to be realistic in reporting profits and losses for their investors. Similarly, the customers who deposit their savings with the IBs need to be more careful because of the risk involved in a possible loss in the banking activities. Because there is no predetermined return guarantee on time deposits (profit and loss sharing deposits) in İslamic banking (Chong & Liu, 2009).1 This indicates that the IBs have to work carefully.

Because loaning transactions are more relevant to the project profitability rather than the financial situation of the bank customer in the PLS logic, it works better for the small investors with profitable ideas. In addition, the sharing of the risks through the PLS logic enables the IBs to offer funds for the projects that hold higher risk but greater revenues in the long term. This may likely positively affect economic development (Mills & Presley, 1999).

Another reason for such a positive contribution includes their protection against fluctuations in interest rates owing to their interest-free activities (Kia & Darrat, 2003; Kassim, Majid, & Yusof, 2009).2 This means that they become less affected by the interest-rate fluctuations and perform more stable.

Another reason for the possible positive impact upon real economy is the limited access to global financial markets. The current global financial market relies mostly on the interest-based activities. Therefore, it is less deep than other markets. This means that the IBs are less integrated with the global financial markets and that they become less susceptible to the fluctuations in the global financial markets (Zarqa, 2009, pp. 184-185).

Key Terms in this Chapter

Islamic Banking: Banking system compliant with sharia (Islamic Law). Sharia prohibits taking or offering interest. Investment in businesses that provide goods or services considered opposed to Islamic principles (for example, alcohol, pork or tobacco) is also non-halal.

Participation Banking: The name given to Islamic banks in Turkey.

Sectoral Loans: Type of commercial loans offered to a specific sector.

Profit And Loss Sharing (PLS): Sharing of risk and profits between the parties. Under the PLS, borrowers share profits and losses with their banks, and banks share profits and losses with their depositors.

Private Capital Banking: The banking system of which all the shares belong to non-state entities.

Causality: The causal relationship between two variables.

Interest-Free Banking: The banking system where interests are not used. In this system, banks do not offer a fixed rate of return on deposits and do not charge interest on loans.

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