By Silvia Aloisi and John O'Donnell
MILAN/FRANKFURT (Reuters) - Italy's Banca Monte dei Paschi di Siena <BMPS.MI> will likely turn to Rome to help plug a hole in its finances within weeks, officials and regulators believe, although many questions remain over how the bank might be saved.
The bank needs to raise 5 billion euros ($5.3 billion) of fresh capital to cover losses from the sale of 28 billion euros of bad loans and the European Central Bank has given it until the end of the year to make up this shortfall.
This carries weight because the ECB gives funding to banks, which could be withdrawn, and, as their supervisor, can pressure them into action and determine whether they stay in business.
Italy's third-largest bank, and the world's oldest, said on Sunday it would press ahead with a last-ditch plan to raise 5 billion euros on the market after the ECB refused to give it more time to recapitalize.
It faces three main scenarios:
* Italy steps in to inject fresh capital solely into Monte dei Paschi. With only a slim chance seen of the bank raising all the money from investors, help from Rome would offer a quick fix - but with one catch.
Any state aid must first be cleared by the European Commission, which will demand that investors take some losses - a principle built into European law after the banking crisis to cut the cost of future state bailouts.
Earlier this year Rome sought approval from Brussels to help Monte dei Paschi, but the EU's competition commissioner Margrethe Vestager wanted investors to share the cost, in keeping with these rules, known as a 'bail-in'.
Rome refused, arguing that Italian pensioners would be hit and investors would no longer be interested in buying the country's debt. With time running out, however, it may have little choice now but to agree.
European officials believe the bank's swapping of debt for shares could be a way out of the impasse.
A treasury source said any injection by the state would involve the mandatory conversion of subordinated bonds into shares.
That would include 40,000 retail investors who own 2.1 billion euros of the bank's junior debt and whose vulnerability is a key concern for the Italian government. Those investors would be compensated by the state, the source said.
* The Italian government could provide more money to tackle problems at Monte dei Paschi as well as other laggard banks as an ambitious industrywide rescue plan that bankers believe could cost 15 billion euros.
Banca Popolare di Vicenza and Veneto Banca, two regional lenders rescued by a state-sponsored bailout fund Atlante, need 2.5 billion euros to cope with bad debts.
A number of other lesser-known banks, such as Genoa's Banca Carige and Banca Etruria, also need help.
To pay, Italy could apply for a bailout program similar to that granted to Spain during the financial crisis, where the overhaul of its financial sector would be shaped by European officials.
That would involve loans from the euro zone's bailout scheme, the European Stability Mechanism, although such a move, which would see Rome lose autonomy, would be deeply unpopular in Italy and resisted by politicians.
Although Italy already has more than 2 trillion euros of debt, it can still borrow cheaply, thanks to money printing by the European Central Bank.
* With the Italian government in limbo, Monte dei Paschi is unlikely to successfully raise the entire 5 billion euros from investors but this will form part of the solution.
This involves reopening a debt-to-equity swap offer to the retail junior bondholders. Qatar's sovereign wealth fund could also put in another 1 billion euros, while a consortium of banks would try to sell further shares.
(Writing by John O'Donnell; Editing by Greg Mahlich)