Islamic Banking and Economic Growth: Empirical Evidence from Malaysia

This paper examines the dynamic interactions between Islamic bankingand economic growth of Malaysia by employing the Cointegration testand Vector Error Model (VECM) to see whether the financial systeminfluences growth and growth transforms the operation of the financialsystem in the long-run. We use time series data of total Islamic bankfinancing (IBFinancing) and real GDP per capita (RGDP), fixedinvestment (GFCF), and trade activities (TRADE) to represent realeconomic sectors. We found that in the short-run only fixed investmentthat granger cause Islamic bank to develop for 1997:1-2005:4. Where asin the long-run, there is evidence of a bidirectional relationship betweenIslamic bank and fixed investment and there is evidence to support demand following hypothesis of GDP and Islamic bank, whereincrease ill GDP causes Islamic banking to develop and not vice versa