Islamic banking and economic growth: the Indonesian experience

Abstract

PurposeThe purpose of this paper is to examine the short‐run and the long‐run relationships between Islamic banking development and economic growth in the case of Indonesia.Design/methodology/approachUsing quarterly data (2003:1‐2010:2), this paper utilizes the bound testing approach of cointegration and error correction models, developed within an autoregressive distributed lag (ARDL) framework.FindingsThe results demonstrate a significant relationship in short‐run and long‐run periods between Islamic financial development and economic growth. The relationship, however, is neither Schumpeter's supply‐leading nor Robinson's demand‐following. It appears to be bi‐directional relationship.Originality/valueThis paper uses empirical evidence to show the role of Islamic banks' financing towards economic performance of a country. To the best of the authors' knowledge, the study on the role of Islamic banking development towards economic growth is limited, particularly in the context of Indonesia.