Islamic banking was developed to serve two objectives: to replace interest-based loan system with profit and loss sharing investment modes and to promote equity in resource allocation. The first objective is called procedural whereas the second one is termed consequential. Scholars have been debating about the success of Islamic banking in achieving these objectives. This paper aims to develop an index for measuring the extent of convergence between theory and practice of Islamic banking.
For measuring the procedural and consequential convergence between objectives and practice of Islamic banking, the paper derives a set of indicators from the celebrated theory of Islamic banking and then develops the methodology of ranking all banks in terms of those indicators.
The paper provides ranking of Islamic banks in Pakistan in the light of this index. The results indicate that none of the Islamic banks in Pakistan has been doing good enough to achieve the convergence, instead they are moving in the opposite direction over time.
Using the methodology developed in this paper, universal ranking of Islamic banks may be issued every year.
Scholars have proposed some indices for measuring the performance of Islamic banking. There are two basic problems with these proposed measures: they do not directly compare the performance of Islamic banking against its stated objectives and they naively use an additive form of index without explaining the reason for this choice, i.e. as to what are the desirable characteristics which their preferred mathematical form of index serves. The index proposed in this paper attempts to overcome these shortcomings.
