By Silvia Aloisi and Paola Arosio
MILAN (Reuters) - The European Central Bank's supervisory board meets again on Friday to discuss Monte dei Paschi di Siena's <BMPS.MI> request for more time to raise capital, with banking sources saying its members are split over the decision.
Should the ECB reject the extension, the Italian government is expected to intervene to recapitalize the country's third-biggest bank to avert the risk of it being wound down. Such a move to pump in state cash could happen within days, banking and government sources say.
The Tuscan lender has asked the ECB to give it until January 20 - from a previous year-end deadline - to try to wrap up a privately backed 5-billion-euro ($5.3 billion) rescue plan that was thrown into doubt by Prime Minister Matteo Renzi's defeat in a referendum at the weekend and subsequent resignation.
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Italy must come up with a solution quickly to avoid the crisis at Monte dei Paschi threatening the savings of thousands of retail investors and spreading across the wider banking sector, but the power vacuum created by Sunday's vote is not helping.
A financial crisis in the euro zone's third-biggest economy would also risk creating contagion across Europe, a region already reeling from Britain's decision to leave the EU.
Renzi quit on Wednesday, and a new government is expected to be appointed in coming days, but most parliamentary factions are pushing for an early election in a few months' time.
A long meeting on Thursday of the supervisory body of the ECB - the euro zone's banking supervisor - could not agree on what to do with Monte dei Paschi's request for extra time.
A source close to the matter said some members of the board were pushing to reject the request, so that the Italian government would have to act immediately to save the bank, rated the weakest lender in a European stress test this summer.
Sources told Reuters on Tuesday that the government could take a 2 billion euro controlling stake in Monte dei Paschi, hoping that would persuade private investors to come on board.
ECB BOARD DIVISIONS
But if the ECB were to reject the extension request, it would be left exposed to accusations that it is effectively pulling the plug on the lender by undermining the credibility of its rescue plan, and potentially trigger a deposit outflow, the source close to the matter said.
Other members of the ECB committee think the central bank should not directly respond to Monte dei Paschi's request but talk to the Italian government first.
This would buy Rome a bit more time to pass a decree authorizing a precautionary recapitalization of the lender and including measures that would help other ailing Italian banks.
However, Renzi's outgoing government is unlikely to want to pass such a decree because, under EU rules, state intervention would entail losses for the bank's junior bondholders. It may therefore be necessary to wait for a new administration to be appointed - which could happen on Monday.
Either way, state intervention is increasingly likely as the bank's hopes of pulling off the private rescue plan are fading. Investment banks that must decide whether to back the cash call, led by JPMorgan and Mediobanca, are due to hold talks again on Friday after putting the deal on hold this week.
Investors, including the Qatar Investment Authority which could inject 1 billion euros in the bank, are reluctant to commit money until they know which government will succeed Renzi and whether there is a real possibility of early elections.
Opinion polls put the anti-establishment 5-Star movement neck-and-neck with the center-left Democratic Party (PD).
Rome is keen to protect 40,000 retail investors that hold 2.1 billion euros of subordinated bonds in the bank and the state intervention plan being drafted envisages the purchase of those bonds by the government. But it is not clear whether EU authorities would allow that.
(Additional reporting by Reuters bureaus; Writing by Silvia Aloisi; Editing by Pravin Char)