Does interest rate impact the shariah index? Malaysian evidence based on ARDL approach

Interest rates play a leading role in earning profits not just for banks only but for insurance companies and the stock market. The major problem with the interest rate from the Islamic point of view is that it is a profit generated without any hard work to earn it. This is why it is prohibited in the Shariah. This paper examines whether interest rate has an impact on the Shariah index. It employs the autoregressive distributed lag (ARDL) approach which has taken care of a major limitation of the conventional cointegrating tests, in that they suffer from the pretest biases. Although there have been studies that have studied the effects of macroeconomic variables such as interest rates on the conventional stock market, to the best of our knowledge, there has not been much empirical research carried out on the effects of interest rates on the Shariah index. Our results tend to indicate that interest rate does not impact the Shariah index but rather, it is the Shariah index that affects it. In terms of policy implications, therefore, an investor wishing to pool his funds in the Shariah index will be happy to know that interest rate has no effect on the index and he can invest his money into a Shariah compliant vehicle.