An Econometric Analysis of the Financial Nexus: Islamic Banking and the Philippine Economy

Abstract

This study examines the development of Islamic banking in the Philippines. It empirically analyses the role played by the Philippine economy in its financial performance over time, and the reciprocal impacts of Islamic banking on the national economy of the country. It uses unit root, Johansen cointegration, Vector Error Correction Model (VECM), Granger causality, and Impulse Response Function (IRF) analyses to analyze the growth of Islamic banking, proxied by its total asset value from the 1st quarter of 2002 to the 4th quarter of 2023, while economic growth was represented by the inflation rate, Gross Domestic Product (GDP) and the country’s growing population on the same time period. The Vector Error Correction Model (VECM) test results indicate the presence of a long-term relationship between the economic variables inflation, and the GDP with the Islamic banking total asset value. Granger causality analysis result revealed only GDP and Islamic banking in the country were found to have an immediate and bidirectional relationship. This study also found a unidirectional relationship coming only from inflation rate to Islamic banking asset value in the country. IRF analysis revealed that GDP is positively associated with Islamic bank in the country while inflation rate is found to have a negative impact on the bank. The study concludes that the Philippine economy as a whole and Islamic banking in the country can be complementary in mutual growth and development.