Last updated: January 29, 2013 8:40 pm

Bank of Italy weighs in on bailout scandal

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The Bank of Italy has provided a robust defence of its regulation of Monte dei Paschi di Siena, Italy’s third-largest bank by assets, which is the subject of political and public outcry after requesting its second state bailout in just four years.

In a five-page document released on Tuesday, the Bank – which has responsibility for supervising the banking sector – provided details of its supervision since Monte dei Paschi’s takeover of northern lender Antonveneta in 2007-08.

The statement follows the appearance of Italy’s finance minister Vittorio Grilli in parliament to face questions about the central bank’s role.

The document says the Bank of Italy approved Monte dei Paschi’s acquisition of Antonveneta for €9bn only on the basis that the Tuscan bank raised sufficient funds to rebuild its capital base following the takeover.

Subsequently in 2008 the central bank spent almost six months evaluating a key part of the proposal made by Monte dei Paschi to do this through a complex financial transaction known as FRESH, structured by JPMorgan and intended to qualify as core tier one capital, a key indicator of financial strength.

The central bank said the FRESH structure did not completely qualify as core tier one, and so it demanded that the capital raising be restructured.

At the beginning of 2010, Monte dei Paschi was summoned by the supervisor on three occasions in quick succession – March 5, March 30, and April 21. Then from May 3 to May 7 the central bank’s regulators visited Siena for a series of meetings.

It emerged that there was a high incidence of repo operations backed by long-term Italian government bonds, resulting in the absorption of high liquidity margins – owing to growing demands for margin-setting – in the context of worsening market conditions. The Bank considered situation of Monte dei Paschi to be unclear and potentially critical.

A further supervisory inspection was carried out between May 11 and August 6, which highlighted tensions in the liquidity situation and a high level of exposure to interest rate risk. The inspection also found the bank had invested in about €25bn of Italian sovereign bonds.

The bank’s liquidity was volatile, affected by two structured repurchase agreements relating to government securities carried out with Deutsche Bank and Nomura respectively, with a total nominal value of about €5bn. The central bank said the risk profiles were not adequately monitored or measured by the Tuscan bank, nor fully reported.

In the second half of 2010, in part owing to the initial findings of the supervisory inspection, the central bank requested that Monte dei Paschi increase its capital, especially in light of European stress tests. This was to take place between April and July 2011, with a total increase in core tier one capital of €3.2bn, €2bn of which was to be paid in cash by the shareholders.

At a meeting on April 27, 2012, the majority of the members of the bank's board of directors and the board of statutory auditors was replaced.

Giuseppe Mussari did not renew his candidature for the role of president. New management and a new business plan approved by the Bank of Italy were put in place.

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