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Bahrain’s military has just seized control of much of the capital after clashes between anti-government protesters and riot police.  The violence has got many people outside the Middle East looking at the island state for the first time. But does it matter to business and investors?

The answer is yes. Not so much because Bahrain is a financial centre and home to the US Navy’s Fifth Fleet. But because Bahrain has the potential – belied by its tiny size – to inspire political ructions in Saudi Arabia, the world’s biggest oil producer. That explains why the protests have exacerbated jitters in the Middle East’s already shaky stock markets.

The Bahrain protests are led by resentful Shia Muslims, who live in the only country in the world where a Shia majority population is ruled by a Sunni minority. They make up 60 to 70 per cent of the population and are demanding more political freedom from the ruling al-Khalifa family.

The family has close relations with Saudi Arabia’s Sunni rulers (part of the majority in that country) and it is via Sunni-Shia relations that events in Bahrain could have repercussions in Saudi Arabia, which is connected to Bahrain by the 25km King Fahd Causeway.

Ayham Kamel of the Eurasia Group, a consultancy, said in a note to clients late on Wednesday:

Regionally, Saudi Arabia’s stability is at risk if the Shia opposition succeeds in toppling the [Bahrain] regime. [Saudi Arabia’s] Eastern province, the heart of Saudi oil production and infrastructure, is also home to the kingdom’s Shias, who are 15 per cent of the population.

Inspired by their counterparts in Bahrain, Shias will seek greater social, economic, and religious equality. This will present serious long term challenges to the royal family, particularly as they prepare for a generational transition of power.

The latter point is a reference to the poor health of King Abdullah and his brother.

Bahrain’s stock market is small and illiquid, but shares in the larger Saudi market have been driven lower by the unrest in Manama, Bahrain’s capital. The Saudi market was closed for the weekend on Thursday, but the main index fell 1.8 per cent on Wednesday and is down 2.2 per cent from the end of last week.

Shares in Qatar were down 1.3 per cent on Thursday after a 1.7 per cent fall in the previous session. Markets in the United Arab Emirates, Kuwait and Oman are closed on Thursday for an Islamic holiday.

FT video from Bahrain shows some dramatic images.

However, Citigroup argues in a note that Bahrain can stop the protests getting out of control. It said:

In a scenario where the government is highly likely to remain in place, but street protests and demonstrations persist for days or, potentially, weeks, we believe the economic impact will be much smaller than in Egypt and Tunisia….The implications of the unrest on public finances are less certain, but should be easily manageable, in our view.

On Saudi Arabia, it’s also important to note that the country’s Shia community is not prime revolutionary material. Its members have long been closely-monitored by the Saudi security services, which are not afraid to use brutal force to control dissent.

When Egyptian protestors had yet to topple president Hosni Mubarak, beyondbrics explained that Saudi Arabia was unlikely to be shaken. The shift may be marginal, but the longer protests continue in Bahrain the more that has to be questioned.

Related reading:
Middle East protests in depth, FT