Through late May and early June last year, an intriguing document suddenly appeared in the inboxes of those who make their living absorbed by the baffling intricacies of Italian banking. The paper was a challenge to anyone with a dodgy internet connection, a chunky 10 megabyte PDF file spread over 151 pages. When printed, it was about as big as a medium-sized book, not quite a felled forest but rather more than a casual weekend read for those who received it. It read almost as if it was an excellent piece of fact-based journalism – impeccably detailed and referenced to clear inside sources and informants. The report wasn’t journalism, but what would prove to be a prescient research paper from two London-based Italian analysts, Andrea Filtri and Antonio Guglielmi from Italy’s biggest investment bank, Mediobanca. The Mediobanca paper painstakingly documented what many observers of the Italian banking scene believe is a fundamental flaw in many of the country’s banks, and one that many analysts believe requires urgent reform if Italy is to progress out of its economic funk and develop a modern, transparent banking sector. The paper examined the control exercised over these banks by the regional authorities, Italy’s increasingly notorious fondazioni: supposedly charitable private foundations based on provincial municipalities that have morphed in many cases into vehicles of political patronage and influence. And, as if addressing the argument often made that a bank’s research department is a profit-chewing cost centre, Mediobanca’s ‘Italian banking foundations’ would prove an invaluable read for anyone who happened to be invested in Italy’s third-biggest commercial bank and the world’s oldest, Banca Monte dei Paschi di Siena (MPS). Were they so moved by the study’s conclusions that suggested some of these foundation-controlled banks were an accident waiting to happen and a sell, a few hours spent devouring the Mediobanca paper in June would, seven months later, save them millions as MPS delivered the murkiest scandal in Italian banking in years. The MPS drama came as a nasty new year’s surprise for Italy, against the dramatic backdrop of an excitable nation in full election mode and the first papal abdication in six centuries. Giuseppe Mussari, ex CEO at Monte dei Paschi. Is a politician and lawyer suitably qualified to run a bank? Giuseppe Mussari, ex CEO at Monte dei Paschi. Is a politician and lawyer suitably qualified to run a bank? In January, MPS suddenly teetered on the edge of collapse when it was revealed the bank had suffered €730 million in unexpected and undisclosed losses. The market never likes surprises, particularly nasty ones, and the MPS revelations were very nasty. Three long-standing, gone-wrong derivative contracts made years ago with Deutsche Bank and Nomura were discovered in a bank safe in Siena, their details undisclosed in the bank’s official accounts over several years. Then, on March 7, came a tragic turn. As Italian investigators plumbed the MPS accounts, the body of the bank’s communications director, David Rossi, was discovered on the street beneath the open window of his office at MPS headquarters in Siena, an apparent suicide. Rossi had primarily worked as ex-CEO Giuseppe Mussari’s spokesman, and while police said that Rossi himself was not under suspicion, friends had described him as very worried after his house and office had been searched by investigators. “The death of David Rossi is a terrible tragedy,” MPS has said. “This tragic event imposes first of all respect for his person, for the mourning of his family and for all of us, and calls on us to find the strength and the courage to go ahead and continue in our commitment.” The discoveries of the previously unaccounted Deutsche and Nomura transactions resulted in a hurried €3.9 billion government cash infusion arranged by the central bank, the Banca d’Italia, and would develop into a messy, continuing and typically Italian corruption scandal connecting complex layers of politics, bureaucracy and business. This being Italy, the Catholic Church was involved as well. As Italian investigators make arrests and widen their probe into the circumstances of MPS’s €9 billion deal in 2008 to buy Banca Antonveneta from Spain’s Santander group (which had bought Antonveneta for €6.6 billion just months earlier), the drama has again highlighted the opaque links between Italian banks and the cosy regional foundations that own them, and what happens when banks aren’t run by properly qualified professionals but fall into the grip of local authorities and the political parties that infect them. Seven months and the Banca MontePaschi scandal on, Mediobanca’s analyst Andrea Filtri feels that events have borne out the hard labour on his exhaustive study. “The market has responded to my paper very positively, that I did it with actual numbers and real analysis,” he told Euromoney. “But the foundations responded negatively to my conclusions. “The conclusion, and it’s an important one, is ‘you need to change’, and that means increasing the skills of asset and portfolio management in the boards, removing the political influence.” If Filtri’s paper read as if it was written by an insider, that’s because it was. Through 2009/10, before he joined Mediobanca in London, he was an executive at the Turin-based foundation Compagnia San Paulo, which was created in the 16th century and is today the largest shareholder of Intesa Sanpaolo, Italy’s second-largest bank after market leader UniCredit (which also has foundations as large shareholders). “I realized as an analyst that the market was unaware of these connections, in knowing what this foundation world was about and how the banks behave. There was an obvious opportunity for me to fill the gap.” Much of the data in the Filtri paper encapsulates events in and around Italian banking up to the end of 2010. “I did not need to go further to 2011 because the conclusions would’ve been the same, even more harsh,” he says. “It’s an inevitable conclusion you get to if you don’t change the current path.” Filtri is bemused by what transpired after his report was aired. “Officially all the foundations rejected it, but then in private they all agreed with me and invited me to private meetings to discuss their financial position and help them out in repositioning their portfolios. “The foundations tried to reject the conclusions, but they have not provided one single document to refute my conclusions that they don’t agree with. They have simply dismissed it without giving any documentation of why they should dismiss it.” He insists: “Italian banks are not a time bomb. Yes, the foundations need to reform, but the Banca d’Italia has been very tough on capital requirements, and they tend to be much safer than some of their European peers.” Siena is a famously beautiful town. Art lovers flock to its exquisite frescoes, most notably the 14th-century murals of Ambrogio Lorenzetti in the medieval town hall, the Palazzo Publico. The most celebrated among his work here is the six-series Allegory of good and bad government that contrasts the effect of good government – peace, prosperity, bucolia – to that of bad government – tyranny, drought, dysfunction. A metaphor for MPS. Ambrogio Lorenzetti’s Allegory of good and bad government In one striking fresco, Justice is held captive by a tyrant as characters depicting Pride, Greed, Deception and Fraud gather around. It’s an image many shocked Sienese now regard as an apt metaphor for the travails of their hometown bank, based for 572 years just metres away in the Palazzo Salimbeni. The MPS scandal has brutally exposed the connected networks that underpin Italian banking at a time when the wider economy is under particular scrutiny in a concerned Europe six years into economic sclerosis and obsessing about whether or not the euro has a viable future. Tuscany is at the heart of Italy’s ‘red quadrilateral’, a huge tract of central Italy also taking in the regions of Marche, Umbria and Emilia-Romagna that is a heartland of the left-leaning Democratic Party (PD), which sprang from Italy’s Communist Party. The Siena region is a PD stronghold, and the party has much influence over the Fondazione Monte dei Paschi di Siena, the largest shareholder of MPS. “The governance problem is a real issue for Italian banks,” says Tito Boeri, professor of economics at Milan’s Bocconi University, “and that is very much related to the issue of these foundations.” As was painfully evidenced in Siena as MPS imploded, politics infuses the decision-making at many of these foundations and the banks they control. Observers such as Italy’s finger-pointing political activist Beppe Grillo have described some of these banks as little more than slush funds positioned to finance the political party that controls them. “It’s not just a problem of the Democratic Party,” says Boeri. “Wherever you go it’s the same. The Lega [the right-wing Milan-based Northern League] is very much into this; the PDL [of former prime minister and billionaire Silvio Berlusconi] is also very much into this.” Boeri says: “The issue is local politics and of local politicians getting into banks.” He cites a famous tapped telephone conversation in 2009 made public when the Democratic Party grandee Piero Fassino was discussing Italy’s Banca Nazionale del Lavoro as an extension of his party’s apparatus. “We have a bank’ he said,” recalls Boeri. Boeri says less than 5% of Italian banks have “appropriate governance” and “genuine integrity” as banks. He says the MPS scandal has again highlighted the shortcomings of the foundation system, magnified by the surrounding election campaign because MPS is so intimately associated with the Italian left now jostling for power. “This is the thing of the local politicians, to have a bank, and in order to ‘have a bank’ you need to become a mayor of the town,” Boeri says. That becomes a governance problem, he says, for the effective running of mainstream banking business, because those who run them or sit on their boards are often not qualified bankers skilled in basic banking practice and procedure. At MPS, for example, Mussari, its now-ousted chief executive, was a lawyer and a PD luminary. “The foundations nominate their people into the banks; in some cases 20% to 30% of board members are politicians,” Boeri notes. “And then you have a lot of people with no background in economics whatsoever.” Boeri cites Mussari as a prime example at MPS. He also rose to be head of Italy’s banking industry lobby, ABI, the Association of Italian Banks. “He’s a lawyer and a politician,” Boeri says. Mussari stepped down from ABI in the wake of the MPS scandal, but Boeri says his replacement at ABI, Antonio Patuelli, “is the same – another lawyer and a politician”. Neither Mussari nor Patuelli made themselves available to be interviewed by Euromoney. Italian Democratic Party leader Pierluigi Bersani was undone at the polls by the MPS scandal Italian Democratic Party leader Pierluigi Bersani was undone at the polls by the MPS scandal The Banca Monte dei Paschi scandal reminds Italians how difficult financial sector reform can be. The bank is Italy’s third biggest, controlled by the foundation in Siena that’s most closely connected to Pierluigi Bersani’s Democratic Party. The fallout from the scandal almost certainly torpedoed any chance Bersani had of winning the February 24 election. Although his centre-left coalition led in primary votes, it was well short of what Bersani’s opinion poll numbers were showing before the election. Italians turned instead to the gadfly activist Beppe Grillo, voting his internet-based Five Star Movement as the biggest single party in the Italian parliament. Although a potential kingmaker, Grillo has refused to do deals with either Bersani or ex-PM Berlusconi. Grillo told Euromoney last year he wants “massive reform” of the Italian economy, and the foundation system is on his agenda. Mediobanca’s Filtri says prime minister Mario Monti, installed as a technocrat at the instigation of European Union powers in late 2011 to stabilize the then fast-deteriorating Italian economy, “agrees 100% with foundation reform”. But Monti polled poorly in the election in the anti-austerity voter backlash. Italy remains in political limbo, with new elections looming again to try to break the political deadlock. Italy’s many foundations are gathered under an umbrella interest group, the Association of Italian Foundations and Savings Banks, known by its Italian acronym Acri. After Italian banks were semi-privatized in the 1990s – a reform that was “half-finished,” says Boeri – to come under the control of these regional foundations, many would later merge or be taken over. Boeri says this process led to a critical dilution of influence for local players used to having their way around their regions and throwing their weight around Rome too. A national association, Acri, which Boeri describes as a “coalition or lobby group”, today boasts 88 bank-related foundations, controlling more than €50 billion in funds and assets. Observers such as Italy’s finger-pointing political activist Beppe Grillo have described some of these banks as little more than slush funds positioned to finance the political party that controls them Observers such as Italy’s finger-pointing political activist Beppe Grillo have described some of these banks as little more than slush funds positioned to finance the political party that controls them Acri’s long-time chair is Giuseppe Guzzetti, a 79-year-old back-room stalwart of the Christian Democrat party, which dominated Italy’s post-war politics until it imploded under the weight of the notorious Tangentopoli, or Bribesville, corruption scandals of the early 1990s. Guzzetti became Acri chair in 1997. Boeri describes Guzzetti as a “political powerbroker”. Some 20 years on, the result of this “politicization” of the foundations, Boeri says, is that whenever there have been calls for reform and modernization of the system, as has loudly been so in the wake of the MPS scandal, these calls meet resistance across Italian politics because there’s no appetite to reform both a source of party financing as well as a vehicle to finance public activities with a political hue. “Now if you say anything against these foundations you get people protesting all over the place across the political spectrum,” Boeri says. That creates potential issues for Italy’s place in a Europe pushing for reform and deeper transparency in its financial institutions. Traditionally one of Europe’s more xenophobic banking systems, Italy’s foundation regime is challenged, Boeri says, by the increasing push within the EU, led by Germany and helped by Brussels, to have a greater supervisory role and standardized regulation control over member nations’ economies and banking systems. “The problem will be reduced by Europe’s role but it would not completely sort out the problem,” Boeri says. He says the Banca d’Italia has a good supervisory regime, and adds that he doesn’t believe what happened in Siena was a failing of the central bank, but one of governance and procedure at MPS itself. “If you give powers to strengthen it or remove the boards [of conflicted banks], that may help. We will not solve the problem unless we reduce the share and the control of the foundations. That’s the condition.” He adds: “Banca MontePaschi is not an anomaly; given the governance structure of banks, this is something that could happen in any other place.” Neither Acri nor Guzzetti responded to Euromoney’s invitations to be interviewed. However, in an article published in the Financial Times on February 17, Guzzetti was quoted as insisting that the Banca MontePaschi drama was a one-off. He denied that the foundations controlled Italy’s banks, adding that their aim was solely charitable. “We are philanthropic organizations, and our grants help Italians with their social needs at a time when the government is having to cut back its support,” the FT quoted Guzzetti as saying. As for possible post-election reform of the foundation system, Mediobanca’s Filtri says he fears the outcome will not give anyone enough political confidence to tackle reform. “What happened to the Banca MontePaschi foundation is a disgrace, and there is strong public opinion in favour of reform,” he says. “But it needs bipartisan reform, and it’s a difficult thing to do.”