Designing and Estimating the Loss Function of the Monetary Authority based on Islamic Banking

Optimal monetary policy has been identified as a policy that has the lowest social losses. The loss functions of the monetary authority including the key components for achieving the least social Loss. The function which has been recognized as the appropriate framework for drawing optimal monetary policy is designed based on macroeconomic objectives and the existing constraints and facts of every system and cannot be independent of the fundamental value based principles governing an economic system.
In this paper, the objectives of the loss function according to the goals of Islamic banking and compatible with the Iran's economy are explored using augmented Philips curve and the monetary policy based on the stock of money and ARDL model is estimated in the time series of 1977 to 2013. The results of optimal monetary position of loss functions show that, in an optimization process, economic growth must be based on the outcome of targeted growth and the reduction of income gaps should occur simultaneously. Also, in the current structure of the economy, monetary authorities cannot alone guarantee achieving the goals of economic growth based on income gap along with the reduction of unemployment gap. Then, the move toward strengthening financial markets and its relationship with the monetary policy seems necessary.