Sensitivity of the Islamic and conventional banks to monetary policy changes: the case of Malaysia

This study intends to determine the impact of monetary policy changes on Islamic banks vis-a-vis conventional banks. In achieving this, the study explores the dynamic inter-relationships between deposits and loans of the Islamic and conventional banks with monetary policy variable using two major tests. First, the Auto-Regressive Distributed Lag (ARDL) model is used to examine the long-run relationship among the variables. Second, the Vector Error-Correction Model (VECM) is adopted to explore the short- and long-run dynamics between the variables. The study focuses on Malaysian data covering the period from January 1998 to December 2006. The study finds that the Islamic banks' balance sheet items are relatively more sensitive to monetary policy changes, compared to the conventional banks balance sheet items. This implies that the impact of monetary policy is more de-stabilising on the Islamic banks than on the conventional banks.