Islamic Banking Behavior towards Small Firms Financing

Abstract

Islamic finance worldwide has gained significant attention due to its size, fast growth, and the potential impact on the international financial markets. Islamic banks are considered as the most important source of external funds for financing small and medium sized firms. Their ability to channel long- term credit to small firms is still debatable issue in finance literature. This paper examines banks’ behavior within the context of profound regulatory changes in the banking system and the extent to which this behavior affects small firms financing. Using aggregate data from all banks in the Sudanese banking sector and Ordinary Least Squares (OLS) method to estimate the relationship; our results indicate that banking behavior is determined by the structure of financial resources, as well as Central Bank’s monetary and credit policies. We find evidence that inadequate capital base and the dominance of sensitive financial resources provide justification for the conventional banking behavior that is allocation of sensitive resources to short term financing. The empirical finding indicates that banking sector uses Murabaha financing rather than profit and loss sharing instruments to finance small firms.  This evidence challenges the objective of Islamic bank which is supposed to provide long term financing, and facilitate availability of financing to small firms.