As Monte dei Paschi's chances of finding fresh capital are up in the air, here are some pointers as to what went wrong and how it may be fixed.
Why is Monte dei Paschi in crisis?
BMPS, founded in Siena in 1472, has been in trouble for years. Weakened by the disastrous purchase in 2007 of the Antonveneta bank at twice the estimated value, it quickly drifted into scandal when its management team was accused of fraud and misuse of funds.
BMPS subsequently ran up huge losses, requiring a strict austerity drive. In 2015 the bank posted a profit for the first time in five years. But its Achilles' heel are non-performing loans, estimated at 45 billion euros ($47.7 billion).
This risk on the bank's books explains why Monte dei Paschi emerged as the worst performer in stress tests – which measure the capacity of a bank to withstand external shocks – conducted last summer by the European Banking Authority.
What's it doing about it?
Monte dei Paschi is in the midst of a giant recovery programme involving the sale of 27.6 billion euros of doubtful assets. It also hopes to raise up to five billion euros in capital to strengthen reserves. The first step of that plan, the voluntary conversion of bonds into shares, has allowed it to book the first billion of needed capital.
The bank has decided to pursue this strategy even as political instability has grown in Italy after the resignation of Matteo Renzi's government. The bank wants to open the possibility of converting debt into equity to retail bond holders who were excluded from the first round of conversions.
This could bolster its balance sheet by a further one or two billion euros, according to Italian press reports.
Italian media further claim that the Qatari QIA fund is also ready to put another billion on the table.
If this is confirmed, any remaining cash call to the market would therefore be limited to between one and two billion euros.
What could go wrong?
Monte dei Paschi has raised capital twice since 2014, for a total of eight billion euros – all of which has since gone up in smoke. This is hardly a recommendation for potential investors who are already jittery because of political uncertainty.
The bank is also racing against the clock: The recapitalization has to be in the bag by December 31st after the bank's plea to the European Central Bank to extend that deadline fell on deaf ears.
What if the plan fails?
Sources close to the Italian government have indicated that they stand ready to inject cash into Monte dei Paschi in a move known as “precautionary recapitalization”. This would mean that shareholders and holders of junior bonds, a risky class of debt, must contribute to saving the bank.
The government is using this mechanism as a last resort because many small Italian savers hold such bonds and were not necessarily aware of their risk when they bought them. The political fallout from their protests could be huge.
Retail investors already had to chip in for the rescue of four smaller banks last year, prompting demonstrations and at least one case of suicide.
As Italian officials do not want to see this happen again, they are reportedly thinking of ways to soften any such blow. This could involve buying back the savers' bonds first and then converting them into shares, with the Italian Treasury taking the hit. They could also ask the savers to convert their bonds themselves, but then compensate them for their losses with taxpayers' money.
What about other Italian banks?
They're a mixed bag.
Intesa Sanpaolo is in good shape, having emerged from this year's stress tests near the top of the league.
Italy's biggest bank, UniCredit, has launched a major strategic review under its new chairman Jean-Pierre Mustier, selling off assets to strengthen its capital base. UniCredit is expected to make further announcements this week, including plans for a capital increase that could reach 13 billion euros.
Many smaller banks are in a precarious situation. Banca Marche, Banca Etruria, CariChieti and CariFerrara all had to be rescued to avoid bankruptcy.
The Italian banking system is hugely fragmented – there are 700 different banks – and is buckling under a total weight of 360 billion euros of risky loans on banks' books. This is nearly a third of all of the eurozone's bad loans combined.
By Celine Cornu