Islamic banks operate worldwide in duel financial systems This raises two questions contextual to Central Banking. First, can Islamic banks create credit like the conventional? The latter get most of their income by raising an inverted pyramid of credit deposits on their cash base, treating credit as cash. Islamic banks must suffer unless allowed to create credit money the same way. They can do so as ‘survival necessity’ in which case Islam allows departure from the juristic norms
Interest rate manipulations are one of the leading instruments for credit control in the policy arsenal of the Central Banks. Islamic banks cannot remain unaffected by bank rate changes. They impact all money rates in the economy including mark-ups and rentals that are popular with Islamic banks. They use interest rate as a bench-mark for guidance. Even profit sharing ratios in participatory finance have been shown to vary inversely with interest rate changes. Thus, seen, central banks need no additional instrument for Islamic finance
However, central banks have met with limited success to curb leverage gains that credit creation fuels. These gains frequently create economic turmoil. Some sort of ceiling must be put on these gains. We are working on a leverage control ratio (LCR) for the purpose.
Keywords: Central banking, Credit creation, Leverage Control Rate (LCR) Participatory finance\ Profit sharing.