This study aims to investigate the relationship between competition and bank risk-taking in Indonesian Islamic banking using linear and non-linear approaches.
The dynamic panel regression using a two-step system generalized method of moments (GMM) is used to investigate the impact of competition on Z-score and financing loss provision (FLP) as proxies of bank stability and financing risk, respectively. This study uses all Indonesian Islamic banks (IB) from 2015–2020 using quarterly data.
The competition positively affects the Z-score and negatively influences the FLP. Furthermore, higher concentration is positively linked to the Z-score but is negatively related to the FLP. This study also incorporates a quadratic term of the competition to examine the competition-stability nexus. The findings indicate that the squared competition is negative for the Z-score and positive for the FLP. In general, this study confirms the competition-stability view.
Some policy implications can be drawn from this study. Indonesia needs more players, and they are large IB in the form of full-fledged IB. This research uses all IB in Indonesia, but these results reflect conditions in one country with its own business and political environments. Of course, the findings cannot be generalized for all IB worldwide using cross-country data.
To the best of the authors’ knowledge, this is the first study that examines the non-linear relationship between competition and stability using the adjusted Lerner index in IB.
