Trustworthiness and margins in Islamic small business financing: evidence from Indonesia

Abstract

The existing literature has shown that, in the context of conventional bank lending to small businesses, trust reduces interest rates. However, the literature has not discussed the role of trust in supporting financing decisions, that is, the margin charged to small business managers at Islamic banks. We select murabaha, the most popular financing product offered by Islamic banks, and examine the role of trust in reducing margins charged for murabaha. We surveyed Islamic bank managers and asked them about the perceived benevolence (habitualization) and perceived integrity (institutionalization) of small business managers with whom they are dealing. We found trust is negatively associated with the margins charged to small businesses. Our results are robust to endogeneity.