This paper investigates the transmission mechanisms of high policy rate volatility episodes in Turkiye, characterized by sharp and unpredictable interest rate fluctuations. Focusing on the bank lending channel, we employ a time-varying parameter structural vector autoregression with stochastic volatility model to analyze the evolving impact of monetary policy on bank lending. Our analysis examines several key aspects: the relative effectiveness of a single, large policy rate change compared to a series of gradual adjustments; the potential non-linearity of transmission, investigating whether tight or lax monetary policy exhibits greater effectiveness; and the differential responses of rate-based conventional banks and profit-loss-sharing Islamic banks to monetary policy shocks. The key findings indicate that the effectiveness of the bank lending channel varies with the nature and magnitude of monetary policy shocks. Notably, episodes of substantial monetary tightening, especially when coupled with significant exchange rate depreciation, exert a more pronounced dampening effect on lending activity. Furthermore, Islamic banks are more sensitive to policy shocks, largely because of their distinct reliance on profit-sharing arrangements and liquidity-dependent funding models.

Banks' behaviors differ depending on the nature of their operational processes and unique business models. As financial intermediaries, banks play an important role in the monetary transmission mechanism, especially through the credit channel, and the behavior of Islamic banks as well as conventional banks should be considered in countries with dual banking systems where the Islamic financial ecosystem is also being developed. This paper examines whether the role of conventional banks and participation banks in the monetary transmission mechanism in Turkey is different and shows whether the risk and credit behavior of participation banks has changed, especially with access to the liquidity facilities of the Central Bank of the Republic of Turkey. The dataset is compiled quarterly for the period 2005Q1-2022Q4, with 2005Q1 being the period in which participation banks began offering financing under the Banking Act. In line with the studies in the literature on monetary transmission mechanism, the variables used for the analysis are gross domestic product, consumer price index, asset price index, aggregate credits, conventional credits, Islamic financing, and weighted average cost of financing. In the empirical methodology, vector autoregressive models and structural vector autoregressive models are conducted in accordance with the relevant literature by uncovering various diagnostic tests and prior information. The empirical results reveal that Islamic financing is affected by an interest rate shock faster but to a lesser extent than conventional loans, and this result is consistent with the studies in the literature. The fact that conventional banks adjust lending and deposit rates faster than participation banks provides them with a better opportunity to manage liquidity compared to participation banks, and also attracts the customers seeking real returns in an inflationary period. Participation banks, which have a higher proportion of FX-denominated deposits in total liabilities, are more sensitive to changes in asset prices. In addition, participation banks with access to CBRT's liquidity facilities play a more active role in the monetary transmission mechanism and are more sensitive to interest rate risks.