Indirect Instruments of Monetary Control in an Islamic Financial System

Abstract

This paper discusses the instruments of monetary control in a marketoriented Islamic financial system, highlighting the relative advantages of indirect instruments. In this context, it proposes equity-based government securities with rates of return based on budgetary surplus. Such rates are imbedded in the concept of social rate of return and are consistent with Quranic prohibition against the payment and receipt of interest. The paper discusses the use of such securities in indirect method of monetary control, thereby enhancing the role of price signal and improving market incentives in the development of Islamic financial system. The paper concludes that, in the transition to the Islamization of the banking and financial sectors, the indirect instruments can improve economic efficiency with parallel reform in these sectors as well as concomitant actions.