228 AN INTRODUCTION TO ISLAMIC FINANCE
is signifi cantly higher than that of new Islamic banks. In fact, the revenue
effi ciency in a new conventional bank is signifi cantly higher than that in a
new Islamic bank. However, the mean revenue (and profi t) effi ciency of old
conventional banks is not signifi cantly higher than that of old Islamic banks.
The study compares the cost, revenue and profi t - effi ciency ratios of con-
ventional and Islamic banks in Africa, Asia, and the Middle East and Turkey
and does not fi nd any signifi cant differences across regions.
In 2008, IMF staff conducted a fi rst - of - its - kind empirical analysis of the
impact of Islamic banks on fi nancial stability.^2 Using z - scores as a measure
of stability, Cˇihák and Hesse (2008) found that small Islamic banks tend to
be stronger fi nancially than small conventional commercial banks; large con-
ventional commercial banks tend to be stronger fi nancially than large Islamic
banks; and small Islamic banks tend to be stronger fi nancially than large
Islamic banks. The study speculates that the reason why Islamic banks, while
more stable when operating on a small scale, are less stable when operating
on a large scale could be that it is signifi cantly more complex for Islamic
banks to adjust their credit - risk monitoring system as they become bigger.
The study suggests that monitoring the various profi t–loss arrangements
becomes rapidly much more complex as the scale of the banking operation
grows, resulting in problems relating to adverse selection and moral hazard
becoming more prominent.
In general, studies have found Islamic banks to be performing effi ciently
when compared with similar conventional fi nancial institutions in similar
market conditions. By international standards, the average size of an Islamic
bank is relatively small but, despite this fact, it is surprising that no study
has been able to provide convincing evidence of ineffi ciencies in Islamic
banks. There could be two possible explanations as to why Islamic banks
are found to be effi cient irrespective of their small size. First, most of the
studies have been performed as a comparison with conventional banks in
the same geographical region; thus ignoring the impact of systemic ineffi -
ciencies. A more realistic analysis should include comparison of effi ciencies
against international benchmarks, comparison with foreign banks, control-
ling for any protection against competition, and should take into account
the quality of standards, and other macroeconomic variables such as capital
movement. Further, most of the studies were conducted during a period
of high growth resulting from high demand for Islamic fi nancial services.
During the periods of high growth and demand, institutions are often sub-
ject to low levels of market pressure and competition. When institutions are
entering into a niche market like Islamic fi nance, some level of ineffi ciency
is compensated by the abnormal initial profi t margins. These margins erode
fast as more players enter the market and it becomes more competitive.
Another reason could be that undertaking an empirical study to review
the performance of Islamic banks or to understand the effi ciency of fi nancial
services is itself a challenge because of the low degree of transparency and
quality of information disclosure. For instance, many Islamic banks do not
provide suffi cient details as to the division of equity and deposits. Further,