The effectiveness of Musharaka-based monetary policy in creating full employment, price stability and economic prosperity

Purpose This paper aims to explore Musharaka or partnership as a tool of monetary policy and examines its effectiveness in achieving potential real gross domestic product (GDP), full employment, price stability and economic prosperity. Design/methodology/approach This study focuses on Musharaka as a tool of monetary policy where central bank forms partnership with the private sector and develops key industrial belt, including auto industries. Using macroeconomic equilibrium model with aggregate output, aggregate expenditures and Zakat functions, the interest rate is replaced by profit-loss sharing principle. Zakat function works as a built-in redistributive mechanism where Zakat amounts are continuously collected from the rich and transferred to the poor, and thus, it serves as an automatic stabiliser as well as a tool for sustainable development. Findings Musharaka-based monetary policy creates a new edge in comparative advantage, and thus, the productive capacity of the economy expands, and the production possibility frontier shifts to the right. It increases investment spending for building industrial belt, including auto industries, and aggregate expenditures will increase which will increase real GDP, employment and excess supply of high-valued manufactured products, including automobiles, which will propel net exports and thus shifts aggregate expenditure function upward, and income, employment and prosperity will continue to rise. Originality/value This is probably one of the first attempts to systematically develop Musharaka-based monetary policy with full transmission mechanism for achieving potential real GDP, full employment, prosperity and price stability. Central bankers may find it useful for solving the problems of chronic recession, trade deficits, unemployment and inflation.