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UNCLAS  ROME 004194 
 
SIPDIS 
 
 
DEPT FOR EUR/WE, EUR/ERA, EB/IFB/OMA 
PARIS ALSO FOR USOECD 
TREAS FOR OASIA HARLOW, STUART 
STATE PASS CEA 
STATE PASS FRB FOR GUST 
FRANKFURT FOR WALLAR 
USDOC 4212/ITA/MAC/OEURA/CPD/DDEFALCO 
 
E.O. 12958:  N/A 
TAGS: ECON EFIN ELAB IT KPRP
SUBJECT: The Italian Banking Sector: a Decade of 
Privatization and Consolidation 
 
Summary 
------- 
 
¶1. Since the mid-1990s, the Italian banking sector has 
undergone significant consolidation through mergers and 
acquisitions among major banks.  The consolidation was the 
largest in Europe in terms of assets, and was driven in 
large part by domestic privatization efforts, Italy's entry 
into the European Monetary Union (EMU), and reforms to 
thwart monopolies.  (See para three below).  The end result 
has been four large banking groups (Banca Intesa, 
Unicredito, Capitalia, San Paolo-IMI) and two medium-sized 
banking groups (Monte dei Paschi di Siena and Banca 
Nazionale del Lavoro).  Consolidation should make the 
Italian banking sector even more competitive in the single 
European market in coming years. 
 
¶2. Privatization/consolidation has also reduced the 
formerly dominant state role. To replace government 
funds/capital, Italian banks have issued bonds as an 
alternative source of capital. 
 
¶3. There has also been reform of monopolies, as EU 
competition policy and the Italian Antitrust Authority have 
pushed for more competition and transparency.  Former 
Finance Minister Tremonti introduced a tough financial 
market oversight bill in response to the USD 18 billion 
Parmalat fraud.  The original bill has been watered down, 
leaving the Central Bank's powers largely intact.  The 
current draft of the law would strengthen the powers of the 
Companies and Stock Exchange Commission (Consob), Italy's 
securities markets regulator, by increasing its staff, 
giving it greater investigative powers and stiffening 
penalties for financial crimes.  These changes will be 
incorporated into the bill that transposes the EU directive 
on market abuses into Italian law.  The Central Bank's 
oversight authority will remain largely unchanged.  Two 
separate bills will make additional changes to Italy's 
financial market regulatory framework, addressing such 
issues as bond issuance. 
 
Consolidation In the Banking Sector 
----------------------------------- 
 
¶4. Until fairly recently, the Italian banking system was 
highly fragmented and inefficient, with high operating 
costs and excessive dependence on interest rate spreads for 
income.  Restructuring, modernization, and privatization in 
the last decade have improved the efficiency of the banking 
sector.  Consolidation stemmed principally from two factors 
- 1) privatization as a result of the GOI selling off 
public bank assets to ease the government's debt; and 2) EU 
regulations that encouraged liberalization. 
 
Privatization: Amato/Ciampi Laws Weaken Banking Foundation 
--------------------------------------------- ------------- 
 
¶5. Until the 1990's, public institutions controlled more 
than 75 percent of the Italian banking sector, either 
directly by the GOI or through public banking foundations. 
The Italian banking foundations were more philanthropic 
than commercial in nature when they were first developed in 
the fifteenth century.  In the early nineteenth century, 
the foundations established savings banks, which loaned 
money in their local regions, with profits remaining in the 
community. In the 1990's, the Amato and Ciampi banking 
reform laws privatized the banking foundations and 
separated their commercial and charitable roles.  Private 
investors were then allowed to buy shares of the banks. 
 
¶6. The Amato Law (218/1990) separated the functions of the 
philanthropic foundations and banks, and also encouraged 
the conversion of banks into joint stock companies.  The 
foundations were each divided into two independent units, a 
commercial joint-stock bank, and the foundation as owner of 
the bank.  Foundations were required to own a majority 
share of the affiliated bank.  The Ciampi law (Law 
461/1998) then required foundations to sell their dominant 
ownership and limit it to ten percent by 2005 (recently 
 
 
postponed to 2006).  The process produced four large 
banking groups (Banca Intesa, Unicredito, Capitalia, San 
Paolo-IMI) and two medium-sized banking groups (Monte dei 
Paschi di Siena and Banca Nazionale del Lavoro). 
 
European Monetary Union (EMU) Encourages Consolidation 
--------------------------------------------- --------- 
 
¶7. Italy's archaic legal framework and banking supervision 
structure prior to EMU entry would not have allowed the 
Italian banking system to remain competitive within a 
unified European financial market.  The process of entry 
into the EMU further consolidated the Italian banking 
system in the last decade and encouraged more efficiency. 
Thus, the first years of European Monetary Union (1998- 
2001) coincided with further consolidation among the 
largest Italian banking groups.  Marcello Messori at the 
University of Rome Tor Vergata, told us that without this 
second wave of consolidation, the Italian banking groups 
would have been too small to compete in the future European 
market. 
 
The Italian Banking System Today 
-------------------------------- 
 
¶8. From 1994 to 2003, mergers and acquisitions decreased 
the number of banks from 994 at the end of 1994 to less 
than 800 by the end of 2003.  The process of consolidation 
in the last decade was the largest among European countries 
in terms of assets; about 60 percent of total Italian 
banking assets were involved.  At present, Italy still has 
almost 800 banks with over 30,000 branches.  However, as a 
result of consolidation, the top five Italian banks now 
control 54 percent of total bank assets in Italy, similar 
to France and Spain, but more concentrated than in Germany 
and in the United States.  Nevertheless, Italy's banks are 
still small relative to other banks in Europe and other 
OECD countries.  Consolidation is likely to continue as the 
Italian banking sector seeks to become more competitive in 
the global market. 
 
¶9. The Bank of Italy (BOI), Italy's central bank, is 
generally considered to play an impartial role in Italian 
economic policy and supervision.  The BOI's primary 
responsibilities are monetary management, financial 
supervision, and bank note authorization.  As a result of 
the 1993 banking law, the banking system makes no 
distinction among commercial banking, investment, or 
savings banking, as it once did.  The banking system is 
comprised of: 
 
-- Joint stock companies (called Societ per Azioni, or SPA 
 244 at the end of 2003 with 23,617 branches in Italy), 
that provide credit to commercial entities and to private 
e 
citizens nationwide. 
 
-- Community or Peoples' banks (Banche Popolari  38 at 
end-2003 with 3,471 branches in Italy) that provide the 
same services as joint stock companies, but the capital of 
which  is provided by a group of people wishing to open a 
bank.  These banks are generally smaller than joint stock 
companies, ad operate mostly at a regional level. Some, 
eQpecially in northern Italy, have important relaQionships 
with industrialists in their district, tend to have more 
personal connections wih their customers, and have been 
expanding raidly.  (Note: Banche Popolari Unite is Italy's 
hnargest number of banks in pe single branch banks witphin their 
small banki@ have historically 
 
 
served Italy's many small and medium enterprises, and are 
less likely to be subject to consolidation. 
 
-- Subsidiaries, branches, or representative offices of 
foreign banks. 
 
¶10. Rank ordered by total assets, the major banks in Italy 
are: Banca Intesa, Unicredito, San Paolo, Banca Di Roma 
(Capitalia), Monte di Paschi di Siena, and Banca Nazionale 
del Lavoro (BNL).  BNL is the only bank that has not been 
part of a recent merger or acquisition; while at the end of 
the 1990's BNL was the largest bank in terms of assets, it 
has now dropped to sixth. 
 
¶11. The major Italian banks, like many large Italian 
companies, tend to have a pyramid-like ownership structure, 
with inter- and intra-group cross-shareholdings (as exists 
with Capitalia, Banca Intesa and Unicredito) allowing 
control over subsidiaries and other holdings despite 
directly owning only a small share of the controlled 
entity.  These pyramid holdings allow a bank with a 
minority stake and relatively small capital in a major 
company to take control through its relationship with 
companies in the layers of the ownership pyramid. 
 
¶12. About 61 foreign banks offer services in Italy, through 
branches, subsidiaries, or representative offices.  The 
largest block of foreign banks are from the UK, Germany, 
France, Luxembourg, Belgium, the Netherlands and the United 
States.  U.S. banks with offices in Italy include Chase, 
Citigroup, Morgan Guaranty Trust, Bank of New York, Bank of 
America, Mellon and Morgan Stanley. 
 
¶13. Since northern Italy is more industrialized than the 
south, most foreign bank branches, subsidiaries, and 
representative offices are located there (83 percent), with 
67 percent in Milan. There is only one foreign bank branch 
in the entire south (Mezzogiorno), located in Bari. 
Moreover, institutions headquartered in the North control 
the great majority of bank branches in the South. 
 
Privatization Brings More Capital to Banks . . . 
--------------------------------------------- --- 
 
¶14. After privatization began in the late 1990's, Italian 
banks issued stocks and bonds as an alternate source of 
capital to government funds.  This development increased 
bank ownership by individuals and companies, and GOI 
holdings decreased proportionately. 
 
...But also Broken Bonds 
------------------------ 
 
¶15. In addition to selling bonds to raise their own 
capital, Italian banks also began to offer brokerage 
services to corporations by selling corporate, foreign or 
government bonds.  There have been several financial 
scandals recently that have raised questions about the 
banks' management of this process.  Many investors claim 
the banks misled them by selling these bonds without 
explaining the associated risk.  Argentina's default in 
2001 affected 400,000 Italians holding euro 14.7 billion in 
Argentine bonds; food processor Cirio's collapse in 2003 
hurt 30,000 Italian savers holding euro one billion in 
Cirio bonds; and in 2004, the dairy group Parmalat's 
insolvency affected 100,000 small investors holding euro 
1.9 billion in Parmalat paper.  Bankers have denied 
culpability and have been generally unrepentant about the 
damages caused to investors. 
 
¶16. Many banks have thus been reluctant to settle with 
bondholders, but there have been some banks such as San 
Paolo IMI who have reimbursed their clients.  Capitalia, 
Italy's fourth largest bank has compensated either fully or 
partially its 3,800 clients holding bonds of Cirio, 
Parmalat and another distressed company, Giacomelli. 
Despite the compensation, many Italians are now suspicious 
of bonds and the banks that sold them. 
 
Interrelationships Between Banks and Companies 
--------------------------------------------- - 
 
¶17. The Bank of Italy (BOI) retains significant authority 
over bank mergers and acquisitions, and rigid controls 
restrict ownership relationships between banks and 
corporations. For example, Bank of Italy authorization is 
required for both domestic and foreign non-banking 
companies to acquire more than five percent of a financial 
institution's capital (or to gain effective control of a 
financial institution, regardless of the amount of capital 
acquired).  The BOI must also approve the acquisition by 
banks of more than five percent of a company.  The pyramid- 
shaped ownership system is the banking sector's response to 
BOI supervision and control.  Moreover, the BOI encouraged 
some banking mergers while discouraging others. 
 
¶18. According to Silvano Carletti, Manager of Banking 
Competition at Rome's Banca Nazionale del Lavoro, Italian 
banks can be shareholders of non-financial companies 
providing the following three conditions are met: 
- A bank's investment in non-financial companies cannot 
exceed fifteen percent of total shareholder funds; 
- Investment cannot exceed fifteen percent of the capital 
of the non-financial company; and 
- Any single investment must be less than three percent of 
the banks market capitalization. 
 
¶19. Over the last decade, BOI governor Antonio Fazio has 
made clear his goal to first consolidate internally Italy's 
banking sector before opening it to outside competition. 
Despite these limitations, foreign banks have established a 
stake in Italy's largest banks and have increased their 
total stake in the Italian banking sector from 7.1 percent 
in 1997 to 12.3 percent in 2002.  Credit Agricole and 
Commerzbank control fifteen percent and 4.3 percent, 
respectively, of Banca Intesa, Italy's largest bank. 
Santander Central Hispano and Deutsche bank control 9.7 
percent and 2.5 percent, respectively, of San Paolo IMI. 
Banco Bilbao Vizcaya controls fifteen percent of Banca 
Nazionale del Lavoro, and ABN Amro holds nine percent of 
Capitalia and twelve percent of Banca Antonveneta, Italy's 
ninth largest bank active in the north.  ABM Amro considers 
Italy its second domestic market and, like the Spanish 
banks Banco Santander Central Hispanico (BSCH) and Banco 
Bilbao Vizcaya (BBVA), has been frustrated with the 
investment caps. These banks continue to press for the 
elimination of the BOI 15 percent limit imposed on foreign 
shareholders. 
 
¶20. Comment: While BOI restrictions on ownership between 
companies and banks prevent excessively cozy relationships 
between banks and corporations, the restrictions also limit 
foreign investment that could bring new technology and 
innovation to the Italian banking sector.  Some critics 
also believe the limitation on foreign investment in local 
banks has inhibited Italian banks from joining larger 
international groups that are more competitive within the 
single EU market. End comment. 
 
Banking and Financial Supervision 
--------------------------------- 
 
¶21.  Both the 1993 Banking Law and the 1998 Consolidated 
Law on Financial Intermediation (the Ciampi law) delineate 
BOI supervisory objectives, including management of 
intermediaries and capital adequacy, ensuring compliance 
with credit regulations, and securing a competitive and 
efficient system.  The BOI also collaborates with the 
European Commission to ensure compliance with EU 
directives. 
 
The Role of the Antitrust Authority 
----------------------------------- 
 
¶22. Both EU liberalization directives and the Italian 
Antitrust Authority have helped push Italian banks towards 
competition and transparency.  The Antitrust Authority was 
created under a 1990 law and has oversight of the 
 
 
following: 
 
a) agreements that impede competition in the market, 
b) abuses of dominant position, and 
c) mergers and acquisitions which create or strengthen a 
dominant position to eliminate or restrict competition. 
 
The Authority also enforces provisions of a 1992 law on 
misleading and comparative advertising.  However, according 
to Professor Messori at the University of Rome Tor Vergara, 
the BOI still maintains primary supervisory/regulatory 
authority over the banking system. 
 
Foreign Exchange Controls 
------------------------- 
¶23. In conformance with EU directives, Italy has no foreign 
exchange controls.  There are no special exchange rates, 
and currency transfers are freely permitted.  Similar to 
the U.S., banks and authorized intermediaries must submit 
data on any foreign exchange transaction exceeding euro 
10,329 to the Bank of Italy. 
The Basel Accord and Italian Banks 
---------------------------------- 
 
¶24. European Central Bank President Jean-Claude Trichet 
describes the Basel Accord as "enhancing banks' safety and 
soundness" by establishing, inter alia, capital 
requirements according to individual bank risk and the 
credit-worthiness of their loans. Basel Accord capital 
requirements are also flexible enough to relax capital 
requirements for low-risk banks with a good credit history. 
 
¶25. Observers here generally see Basel Accord capital 
requirements as potentially freeing up capital and 
encouraging lenders to lend more efficiently  and with 
less risk  to stimulate stronger economic growth in Italy. 
While in the past, Italian banks had based much of their 
lending on personal relationships with local firms, the 
Basel Accord has encouraged Italian banks to seek more 
creditworthy clients and not just service clients well 
known to management. 
 
Comment: Where are Italian Banks Headed? 
---------------------------------------- 
 
¶26. As a result of new EU regulations and new Italian 
deregulating provisions such as the Ciampi law, we expect 
to see more competition in Italy's banking sector, despite 
the limitations on bank ownership.  (See para 6 above).  An 
increase in mergers and acquisitions and more foreign 
competition will push consolidation as it leads to a more 
competitive and efficient banking system.  We expect to see 
the implementation of some measures strengthening financial 
l 
market oversight, but we do not expect to see a revival of 
efforts to transfer competence over banking competition 
regulation from the BOI to the Italian antitrust authority. 
Such a transfer was proposed in former Finance Minister 
Tremonti's draft savings oversight bill, which has been 
watered down by the Parliament and GOI.  BOI Governor Fazio 
can be counted on to stoutly resist any effort to weaken 
BOI authority. 
 
Sembler 
 
 
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	2004ROME04194 - Classification: UNCLASSIFIED