The impact of capital structure on Islamic Finance Development Indicador (IFDI)

A cross-country analysis

Abstract

The aim of this paper is to examine the effect of the capital structure on the financial development of Islamic banks. To measure Islamic financial development, we use the country-level Refinitiv Islamic Finance Development Indicator® (IFDI) during the years 2014 to 2019. The global or combined IFDI score is made up of five performance dimensions that are considered by Islamic investors: Quantitative Development, Governance, Corporate Social Responsibility, Awareness and Knowledge. Using a sample of 105 banks, covering banking systems in 19 Muslim-majority countries, the study uses a Two-Stage least squares (2SLS) regression to examine the banks' financial development determinants to control IFDI's reverse causality for capital structure. After
controlling the macroeconomic environment, financial market structure and taxation, the results indicate that the development of banks responds positively to an increase in equity (capital ratio). The result is consistent with the signaling theory, which predicts that the best performing banks will reliably transmit this information through higher capital. The non-monotonic relationship found between financial development on shareholders 'equity and banks' capital ratios suggests that issues of shares with low capital ratios (less than 48.42%) are expensive and have a negative effect on their equity indicator. development.
On the other hand, well-capitalized bank managers are advised to trust equity when faced with the decision to raise capital, as the capital ratio begins to positively affect their financial development. This study aimed to fill the gap between the capital structure of Islamic banks and their relationship with a five-dimensional indicator. Future research, however, could confront the capital structure of banks with their profitability or profitability (conventional measures and used by Western banks), as well as analyze the effect of each of the dimensions that make up the IFDI, by bank or by country on decision of their structures.