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A central bank digital currency (CBDC) can impact monetary policy by increasing money velocity, disintermediation, volatility of bank reserves, currency substitution and altered capital flows, even when it is not designed to do so, according to a study published by the International Monetary Fund. The unintended impact of a CBDC may be felt particularly acute in the Islamic banking system.

The Islamic financial system accounts for less than 2% of global finance, but it is present in 34 countries and systemically important in 15 jurisdictions. Only two countries, Iran and Sudan, have fully Islamic banking systems. Ten countries with an Islamic financial presence, including Iran, are currently considering CBDCs, according to the paper.

CBDC design is complicated by prohibitions in Islamic law on usury and speculation. This strongly impacts liquidity management:

“Conventional mechanisms of liquidity management — interbank market, secondary market financial instruments, central bank discount window and Lender of Last Resort (LOLR) — that are based on interest are not permissible for Islamic banks.”

The prohibition on speculation also “implies that CBDC cannot be used for foreign exchange derivatives transactions.” Meanwhile:

“Islamic liquidity management instruments […] continue to develop slowly due to unsupportive regulations, sharia-compliance complexities, limited standardization, the small number of Islamic banks and the underdeveloped financial sectors in many of the countries.”

In many countries, infrastructure for Islamic banking is lacking, resulting in Islamic banks holding an excess of cash. Because neither deposits in Islamic-finance banks nor a halal (Islamic law compliant) CBDC would pay interest, the risk of bank disintermediation is increased, the study found.

Related: DeFi platform sees strong interest in halal-approved crypto products

The reaction to cryptocurrency in the Islamic world has not been uniform. The Middle East and North Africa region has seen rapid growth of crypto adoption in some countries, and stagnation in others. Opinions vary even among Islamic scholars. For example, the Securities Commission Malaysia Shariah Advisory Council found crypto trading admissible, while Indonesia’s National Ulema Council reached the opposite conclusion. Business interests in Iran have also supported the adoption of crypto for foreign trade.