Bahrain should focus on developing its financial sector with a focus on quality, not quantity

The Central Bank of Bahrain is working on a new directive to try to attract more debt and equity market activity to the country, including Islamic finance.  However, it is hard to tell whether the directive will provide both a reason for issuers to return, and whether it is in the economy's best interest to see the financial sector continue to expand, or if the efforts should (and will) be focused on quality rather than quantity.

Bahrain is not ideally suited to grow its financial sector just in its size, and not just because of the political unrest in the country, because it already has a financial sector much larger than the entire economy.  As of the end of September, the banking assets in the country were $201 billion (down from $222 billion in 2010), compared to total GDP of $23 billion.

That's nearly 1000% of GDP (compared with an analogous small country with a large financial sector, Ireland before the crisis, whose debt spiraled to crisis proportions as a result of the government's bailout of the financial sector, was 872%.  Even the much larger UK economy, where the financial sector's total assets reached 500% of GDP before the financial crisis, the government struggled when government support was required for the Royal Bank of Scotland.  . 

This is not to say that a central bank directive could not make the existing financial sector better run, and that may be some of the reason (it is said to include licensing procedures, and will come on the heels of a directive to strengthen risk management standards and recently issued rules on Islamic banks' disclosures about fees and profit rates).  But, for Bahrain, there shouldn't be a focus on quantity since the financial sector is already large compared to the size of GDP (though still lower than the 2460% of Luxembourg).

Perhaps that will lead to more focus on Islamic finance since the government already has regular issues of short-term sukuk for banks' liquidity management, and can perhaps benefit from growth across the causeway in Saudi Arabia.  However, one area that is significantly lacking is in attracting sukuk issuers to Bahrain Bourse, where only 1 corporate sukuk is listed (the defaulted Investment Dar sukuk) along with the IFC sukuk and a few government and central bank sukuk.  We'll see how things develop, but hopefully it will be an emphasis on developing particular areas (like Islamic finance) and not just trying to increase quantity over quality.