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Market segmentation and non-uniform Shariah standards in Islamic finance

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  • Berg, Nathan
  • El-Komi, Mohamed
  • Kim, Jeong-Yoo

Abstract

This paper proposes a new answer to a controversial paradox in Islamic finance described by El-Gamal (2002): “despite the long development of uniform standards for Islamic finance, the market remains largely segmented.” We explain market segmentation as a separating equilibrium in which finance premiums serve as a socially beneficial (although costly) signaling mechanism. Market segmentation under a uniform standard of Shariah-compliance occurs when the Shariah Boards of two Islamic Finance Institutions (IFIs) use different degrees of stringency even though they agree on a common set of minimum requirements to comply with Shariah Law. Heterogeneous degrees of stringency chosen by different IFI Shariah Boards translate into different premiums paid by different customers. One IFI targets the moderately pious consumer segment while the other targets the highly pious segment. The IFI that targets highly pious consumers voluntarily offers a more limited set of investments and financing products. By allowing for multiple Muslim communities with distinct group identities and correspondingly variable willingness-to-pay to signal piety types, the model provides an explanation for market segmentation.

Suggested Citation

  • Berg, Nathan & El-Komi, Mohamed & Kim, Jeong-Yoo, 2016. "Market segmentation and non-uniform Shariah standards in Islamic finance," Journal of Economic Behavior & Organization, Elsevier, vol. 132(S), pages 39-49.
    • Handle: RePEc:eee:jeborg:v:132:y:2016:i:s:p:39-49
    DOI: 10.1016/j.jebo.2016.03.019
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    Cited by:

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    2. Azeem Muhammad, 2023. "Islamic and Conventional Banks an Analogy: Relationship Between Capital, Risk and Efficiency," Asian Journal of Law and Economics, De Gruyter, vol. 14(3), pages 275-297, December.
    3. Dean Karlan & Adam Osman & Nour Shammout, 2021. "Increasing Financial Inclusion in the Muslim World: Evidence from an Islamic Finance Marketing Experiment," The World Bank Economic Review, World Bank, vol. 35(2), pages 376-397.
    4. Azmat, Saad & Kabir Hassan, M. & Ali, Haiqa & Sohel Azad, A.S.M., 2021. "Religiosity, neglected risk and asset returns: Theory and evidence from Islamic finance industry," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 74(C).
    5. Lukman Hanif Arbi, 2021. "A Contract Theory Approach to Islamic Financial Securities with an Application to Diminishing Mushārakah," JRFM, MDPI, vol. 14(1), pages 1-12, January.
    6. Kok, Seng Kiong & Giorgioni, Gianluigi & Farquhar, Stuart, 2022. "The trade-off between knowledge accumulation and independence: The case of the Shariah supervisory board within the Shariah governance and firm performance nexus," Research in International Business and Finance, Elsevier, vol. 59(C).
    7. Goff, Sandra H., 2021. "A test of willingness to pay as penance in the demand for ethical consumption," Journal of Behavioral and Experimental Economics (formerly The Journal of Socio-Economics), Elsevier, vol. 94(C).
    8. Kok, Seng Kiong & Filomeni, Stefano, 2021. "The holding behavior of Shariah financial assets within the global Islamic financial sector: A macroeconomic and firm-based model," Global Finance Journal, Elsevier, vol. 50(C).
    9. Rizkiah, Siti K. & Disli, Mustafa & Salim, Kinan & Razak, Lutfi A., 2021. "Switching costs and bank competition: Evidence from dual banking economies," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 75(C).
    10. Hassan, M. Kabir & Aliyu, Sirajo, 2018. "A contemporary survey of islamic banking literature," Journal of Financial Stability, Elsevier, vol. 34(C), pages 12-43.
    11. Abdelhafid Benamraoui & Yousef Alwardat, 2019. "Asymmetric Information and Islamic Financial Contracts," International Journal of Economics and Finance, Canadian Center of Science and Education, vol. 11(1), pages 96-108, January.
    12. Iwasaki Masaki, 2022. "Segmentation of Social Norms and Emergence of Social Conflicts Through COVID-19 Laws," Asian Journal of Law and Economics, De Gruyter, vol. 13(1), pages 1-36, April.
    13. Safiullah, Md & Miah, Mohammad Dulal & Azad, Asm Sohel & Hassan, M. Kabir, 2024. "Does the board of directors influence Shariah governance in Islamic banks?," Pacific-Basin Finance Journal, Elsevier, vol. 85(C).

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    More about this item

    Keywords

    Islamic finance; Shariah Board; Norms; Piety; Devout; Loyalty; Screening; Signaling; Marketing; Segmentation; Prestige pricing; Hotelling model;
    All these keywords.

    JEL classification:

    • D72 - Microeconomics - - Analysis of Collective Decision-Making - - - Political Processes: Rent-seeking, Lobbying, Elections, Legislatures, and Voting Behavior

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