A BAYESIAN GAME FOR A PROFIT AND LOSS SHARING CONTRACT

  • Djaffar Lessy Université Côte d’Azur, IAIN Ambon, France & Indonesia
  • Marc Diener Université Côte d’Azur, France
  • Francine Diener Université Côte d’Azur, France
Keywords: Bayesian game, Profit and loss sharing, Adverse selection, Islamic finance.

Abstract

This paper presents a Bayesian Game model for a profit-and-loss sharing (PLS) contract. We develop our model into two parts, namely the model for non-social bank and the model for social bank. We propose the model to reduce adverse selection problem in offering a PLS contract. The Bayesian game starts with an incomplete information. Islamic banks do not know exactly what type of agent is applying for a PLS contract, efficient or non-efficient, the information of the bank is incomplete. In Bayesian game, we assume that the Islamic Bank assigns the agent type with a prior probability. Determination of the profit-sharing ratio of the contract will be discussed. We look for the Bayesian Nash equilibrium of the game in our model which is considered a solution. We show that the bank offers an interesting but risky contract to the agent if the bank assigns that the agent is efficient with a high probability, otherwise the bank offers a less risky contract to the agent if the bank assigns that the agent is a non-efficient agent with high probability. The results can be considered by Islamic banks to reduce the adverse selection problem in PLS contract.

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Published
2021-08-31
How to Cite
Lessy, D., Diener, M., & Diener, F. (2021). A BAYESIAN GAME FOR A PROFIT AND LOSS SHARING CONTRACT. Journal of Islamic Monetary Economics and Finance, 7(3). https://doi.org/10.21098/jimf.v7i3.1367
Section
Articles