A Structural Model of "Alpha" for the Capital Adequacy Ratios of Islamic Banks

Kenneth Baldwin, Maryam AlHalboni, Husam Helmi

Research output: Contribution to journalReview article

1 Citation (Scopus)

Abstract

The denominator of the capital adequacy ratio (CAR) for Islamic banks includes an adjustment factor, alpha, arising from the subsidisation of investment account holders’ returns using bank equity. The methodology established by the risk management standard-setting body for Islamic banks, the IFSB, estimates an alpha for each country using panel-data and normally distributed asset returns for its credit institutions. Consequently, the IFSB methodology precludes bank-specific alphas linked to the actual risk profile of underlying assets. There is also no discernible mapping between alpha and a bank's own propensity to subsidise cash returns. This paper instead develops a new theoretical model for bank-specific alpha that is estimated for 43 Islamic banks in 11 countries. Our alpha values broadly correspond with those of the IFSB. However, a form of regulatory arbitrage is shown to exist which favors banks with relatively high alphas. This finding also has policy implications for bank efficiency and systemic risk.

Original languageEnglish
Pages (from-to)267-283
Number of pages17
JournalJournal of International Financial Markets, Institutions and Money
Volume60
Early online date28 Dec 2018
DOIs
Publication statusPublished - May 2019

Fingerprint

Capital adequacy ratio
Structural model
Islamic financial institutions
Methodology
Management standards
Equity
Panel data
Propensity
Bank efficiency
Assets
Cash
Policy implications
Asset returns
Risk management
Credit
Regulatory arbitrage
Factors
Systemic risk

Bibliographical note

© 2018, Elsevier. Licensed under the Creative Commons Attribution-NonCommercial-NoDerivatives 4.0 International http://creativecommons.org/licenses/by-nc-nd/4.0/

Copyright © and Moral Rights are retained by the author(s) and/ or other copyright owners. A copy can be downloaded for personal non-commercial research or study, without prior permission or charge. This item cannot be reproduced or quoted extensively from without first obtaining permission in writing from the copyright holder(s). The content must not be changed in any way or sold commercially in any format or medium without the formal permission of the copyright holders.

Funder

Unfunded

Keywords

  • Alpha
  • Capital adequacy ratio
  • Displaced commercial risk
  • Islamic banking
  • Islamic financial services board
  • Regulation

ASJC Scopus subject areas

  • Finance
  • Economics and Econometrics

Cite this

A Structural Model of "Alpha" for the Capital Adequacy Ratios of Islamic Banks. / Baldwin, Kenneth; AlHalboni, Maryam; Helmi, Husam.

In: Journal of International Financial Markets, Institutions and Money, Vol. 60, 05.2019, p. 267-283.

Research output: Contribution to journalReview article

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