Impact of Investment Deposit and Profit-Loss Sharing Financing on Islamic Bank Stability

Unlike the conventional banks, Islamic banks have a Profit-Loss Sharing system in the deposit fund, which is Investment Deposit, based on Mudarabah contract. Some literature argues that the profit-loss sharing system in Islamic banks, especially in the form of Investment Deposits, has an important role in maintaining bank financial stability. Meanwhile, another strand of literature states that investment deposits are treated in a similar way to fixed return deposits, where banking risks are entirely borne by the bank’s capital. This study aims to determine empirically the impact of Investment Deposits on the stability of Islamic banks. It also analyses whether profit-loss sharing financing influences the role of Investment Deposit in strengthening Islamic banks’ stability. Using the data of Islamic banks in Indonesia, this study also analyzes whether the impact is robust during financial crisis periods. The results of this study indicate that Investment Deposit has a non-linear reverse U-shaped impact on the stability of Islamic bank. The results also show that the profit-loss sharing financing and the global financial crisis have no effect on the impact of Investment Deposit on Islamic bank stability.