Bank capital and portfolio risk among Islamic banks

Minimum capital requirements are often implemented under the notion that increased capital improves bank safety and stability. However, an unintended consequence of higher capital requirements could arise if increasing capital induces banks to invest in riskier assets. Several researchers have examined this relationship between bank capital and risk among conventional banks, and interest around this topic has intensified since the 2007-2008 financial crisis. However, the findings are rather mixed. Moreover, very few studies have focused on Islamic banks, which differ greatly from their conventional counterpart's due to their need to be Shariah-compliant. In this paper a sample of 22 Islamic banks is analyzed over a seven year period from 2007 to 2013. The empirical approach is fully parametric and Bayesian utilizing techniques developed by Kessler and Munkin (2015) and building on previous banking research by Shrieves and Dahl (1992) and Jacques and Nigro (1997). Some evidence is found suggesting that increases in total capital positively affect the levels of asset risks among Islamic banks.