Liquidity Management Challenges in Islamic Banking: A Study of Short-Term Instruments

Abstract

Islamic banking has evolved into a key part of the worldwide financial system, characterised by its compliance with Shariah principles that ban interest (riba) and highlight asset-backed and risk-sharing dealings. In this context, managing liquidity is essential for maintaining financial stability and operational continuity. Nonetheless, in contrast to traditional banks that depend on various interest-driven short-term tools, Islamic banks encounter fundamental structural limitations that hinder efficient liquidity management. The main issue examined in this research is the restricted supply and ineffectiveness of Shariah-compliant short-term liquidity tools. Despite the development of instruments like sukuk, commodity murabaha (tawarruq), and wakalah arrangements, they frequently fall short in terms of the flexibility, standardisation, and market depth necessary for effective liquidity management. This leads to a continuous imbalance between liquidity supply and demand, heightening exposure to financial pressure. This study aims to thoroughly analyse the difficulties linked to liquidity management in Islamic finance, emphasising short-term instruments, while assessing their practical effectiveness. The research employs a qualitative and comparative approach, utilising scholarly literature, regulatory structures, and institutional documents. A thematic analysis method is employed to discern the main structural and operational challenges. The results indicate that Islamic banks encounter اختلاف ,considerable liquidity challenges stemming from immature Islamic money markets (differences) in Shariah interpretations, and regulatory pressures like those from Basel III. Current tools offer limited solutions and often entail higher transaction costs and complexity. The research adds by consolidating these challenges and suggesting the necessity for improved standardisation, innovation, and regulatory assistance to boost the efficiency of short-term liquidity management in Islamic finance.