Social Norms and Economic Performance: An Example of Business Loans by Islamic Banks

32 Pages Posted: 7 Dec 2011

See all articles by Suren Basov

Suren Basov

University of Melbourne - Department of Economics

Ishaq Bhatti

La Trobe University - School of Economics and Finance; Financial Research Network (FIRN)

Date Written: December 5, 2011

Abstract

In this paper we consider how social norms affect economic performance, using example of an Islamic bank providing a business loan to an entrepreneur. We show that the ability to rely on social norms mitigates the moral hazard problem, but introduces rigidities that prevent optimal response to adverse economic consequences, thereby improving performance during the booms, but handicapping it during the recessions. In the case of an Islamic bank, another consequence of this rigidity is a greater reluctance to invest in daring new ideas, which may be highly profitable but include a significant risk of failure. Although we use Islamic banks as our main example, the conclusions have broader validity and are not limited to religious social norms.

Keywords: Social norms, incentives, Islamic banks, Sharia'a law

JEL Classification: D4, D8

Suggested Citation

Basov, Suren and Bhatti, Ishaq, Social Norms and Economic Performance: An Example of Business Loans by Islamic Banks (December 5, 2011). Available at SSRN: https://ssrn.com/abstract=1968702 or http://dx.doi.org/10.2139/ssrn.1968702

Suren Basov (Contact Author)

University of Melbourne - Department of Economics ( email )

Australia

Ishaq Bhatti

La Trobe University - School of Economics and Finance ( email )

Bundoora
Melbourne, 3086
Australia

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

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