Muslim Marpaung, Irma Suryani Lubis, and Muhammad Zuardi of Politeknik Negeri Medan examined how Islamic monetary policy operates within a dual banking system, where Islamic and conventional banks function alongside each other under the same monetary authority. Their study, published in the International Journal of Sustainable Applied Sciences (IJSAS) in September 2026, reviewed 11 scientific publications covering Indonesia, Malaysia, Pakistan, Turkey, and other countries.
The findings highlight a central challenge for Islamic banking: although Islamic banks do not use interest in their financial contracts, their operations can still be affected by conventional interest-rate changes through customer behavior, competitive returns, liquidity conditions, financing costs, and market benchmarks.
Why Islamic Monetary Policy Matters
The growth of Islamic banking has created increasingly complex monetary systems in countries where Islamic and conventional banks operate together. Central banks must transmit monetary policy through both banking models while maintaining price stability, economic activity, and financial-system stability.
Islamic monetary policy is based on principles that prohibit riba and emphasize risk sharing, productive economic activity, fairness, and links between financial transactions and the real economy.
However, many financial systems continue to rely heavily on interest rates as monetary policy instruments and market benchmarks. This creates an important connection between conventional monetary policy and Islamic banking.
For Islamic banks, the issue extends beyond whether their contracts formally use interest. Changes in conventional interest rates can influence where customers place their money, how banks determine financing margins, and how much liquidity is available for financing businesses and households.
Study Reviews 11 International Publications
Marpaung, Lubis, and Zuardi used a qualitative systematic literature review to synthesize findings from 11 scientific publications.
The reviewed studies covered Islamic banking and monetary policy in Indonesia, Malaysia, Pakistan, Turkey, and other countries. The researchers examined each publication's objectives, research methods, variables, findings, limitations, and policy implications.
The analysis grouped the evidence into four major themes:
- Monetary policy transmission through Islamic banks
- Islamic bank financing channels
- Islamic banks' responses to interest-rate changes
- Transformation of Sharia-compliant monetary policy instruments
The researchers then compared findings across countries to identify common patterns and differences in the way Islamic banks respond to monetary policy.
Islamic Banks Are Part of Monetary Policy Transmission
One of the main findings is that Islamic banks can function as an important channel through which monetary policy reaches the real economy.
When monetary conditions change, Islamic banks can experience changes in liquidity, fundraising, and their ability to provide financing. These changes can subsequently affect businesses, households, investment, production, and economic activity.
The response, however, is not identical across Islamic banks.
Bank size, capitalization, liquidity, asset composition, financing structure, contract type, and broader economic conditions can influence how strongly a bank reacts to monetary policy changes.
Research reviewed from Malaysia, Indonesia, and Pakistan showed that Islamic banks can have different responses from conventional banks because their funding structures, contracts, and balance sheets differ.
At the same time, the differences do not mean Islamic banks are completely separated from conventional monetary policy.
Interest Rates Still Influence Islamic Banks
The literature reviewed by the Politeknik Negeri Medan researchers shows that conventional interest-rate movements can affect Islamic banks indirectly.
For example, when conventional deposit rates increase, customers may consider moving funds toward conventional banks if they perceive those products as offering more attractive returns. Islamic banks may then face pressure to maintain competitive returns for depositors.
Interest rates can also influence Islamic financing because conventional market rates are sometimes used as reference points when determining financing margins.
This creates what the researchers describe as a continuing economic connection between Islamic banks and the conventional interest-rate environment.
The effect is particularly important in a dual banking system because Islamic and conventional banks compete for deposits, customers, investment opportunities, and financing markets.
Financing Channels Connect Banks With the Real Economy
The study also emphasizes the importance of Islamic financing channels in connecting monetary policy with productive economic activity.
When liquidity increases, Islamic banks can have greater capacity to finance trade, industry, agriculture, micro-enterprises, and households. Conversely, tighter monetary conditions can encourage banks to become more cautious in distributing financing.
The type of financing contract also matters.
Murabahah, which generates income through a sale-and-purchase margin, remains an important Islamic financing mechanism. Meanwhile, mudharabah and musyarakah are based more directly on profit and risk sharing.
According to the literature reviewed, greater use of profit-sharing financing could strengthen the connection between Islamic banking and productive economic activity because returns are more directly associated with the performance of financed businesses.
Four Areas for Transforming Islamic Monetary Policy
Based on the literature synthesis, the researchers formulate four major areas for transforming Islamic monetary policy.
First, instrument transformation. Islamic financial systems need stronger Sharia-compliant liquidity instruments, including sukuk, Islamic liquidity facilities, and profit-sharing instruments.
Second, institutional transformation. A deeper Islamic money market and stronger coordination between monetary authorities and financial regulators are needed to support Islamic banking liquidity management.
Third, transmission transformation. Monetary policy transmission should be more closely connected to productive financing and the real economy.
Fourth, benchmark transformation. Islamic banking could reduce its reliance on conventional interest rates by developing return benchmarks based on Sharia-compliant transactions, sukuk yields, real-sector profitability, commodities, or Islamic financing performance.
These changes could help create a monetary framework in which Islamic banks can manage liquidity while maintaining closer alignment with Sharia principles.
Implications for Banks, Regulators, and the Real Economy
The findings have implications for central banks, financial regulators, Islamic banks, and businesses.
For monetary authorities, the study highlights the need for Islamic liquidity instruments with different maturities, sufficient market availability, and greater tradability.
For Islamic banks, stronger capital and liquidity management can help maintain financing during periods of monetary tightening. The researchers also point to the importance of diversifying financing contracts and increasing productive financing.
For the wider economy, stronger connections between Islamic financing and productive activities could potentially improve the role of Islamic banking in supporting investment, business activity, employment, and economic growth.
The study also identifies the development of independent Sharia-compliant yield benchmarks as an important area for further development. Such benchmarks could reduce the dependence of Islamic financial products on conventional interest-rate references.
Researchers' Perspective
Marpaung, Lubis, and Zuardi argue that the transformation of Islamic monetary policy cannot be achieved simply by changing the names or contractual forms of existing financial instruments.
Their analysis indicates that transformation also requires changes in the underlying transaction structure, incentives, sources of returns, liquidity-management mechanisms, and direction of financing toward productive sectors.
In the context of a dual banking system, the researchers emphasize that Islamic banks' behavior is shaped by an interaction between Sharia principles, market conditions, bank characteristics, and monetary policy design.
About the Authors
Muslim Marpaung, Irma Suryani Lubis, and Muhammad Zuardi are researchers affiliated with Politeknik Negeri Medan. Their research in this article focuses on Islamic monetary policy, Islamic banking, monetary transmission mechanisms, financing channels, and the relationship between Islamic financial institutions and the broader economic system.
The study was published in 2026 in the International Journal of Sustainable Applied Sciences (IJSAS), Volume 4, Issue 9, pages 1199-1216.
Source
Article: “Transformation of Islamic Monetary Policy in A Dual Banking System: Analysis of Transmission Mechanisms, Financing Channels, And Responses of Islamic Banks to Changes in Interest Rates”
Authors: Muslim Marpaung, Irma Suryani Lubis, Muhammad Zuardi
Journal: International Journal of Sustainable Applied Sciences (IJSAS)
Publication: 2026, Vol. 4, No. 9, pp. 1199-1216
DOI: 10.59890/ijsas.v4i9.67
URL: http://ijsasjournal.my.id/index.php/ijsas
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