Procyclicality and the intensity of Basel III measures in Islamic banking : some evidence from Iran

Abstract EN

In response to the recent financial crisis, Basel III has introduced major reforms to the regulatory framework for banks in order to decrease procyclicality of the financial sector and its vulnerabilities.

This paper studies the procyclical behavior of Iranian banking system which is fully Islamic and comprises of two types of banks, namely Commercial Banks and Specialized Banks.

Using macroeconomic and financial data for specialized and commercial Islamic banks in Iran over the 2004-2014 period, the results of panel model estimations indicate that specialized banks inclined towards PLS contracts are less procyclical than commercial Islamic banks inclined towards mark-up contracts.

The results imply that bank procyclicality is rooted more in mark-up contracts compared to PLS contracts.

Therefore, to decrease the degree of procyclicality in the financial sector, Iranian commercial banks should be subject to tougher prudential measures compared with specialized banks.

The results suggest that extending the share of specialized banks in the banking system increases the stability of the financial sector and promotes the ideal version of Islamic finance in practice.