By Gavin Jones
ROME (Reuters) - As European Central Bank head Mario Draghi prepares to become banking supervisor for the euro zone, he can ill afford the charge that under his leadership, Italy's central bank let scandal-hit Monte Paschi off the hook with woeful oversight.
The roots of the corruption and derivatives scandal at Monte dei Paschi de Siena
Despite being deeply concerned by Monte Paschi as long ago as 2009 and having specific and growing doubts about its operations and accounts, the BoI revealed that it did not summon the bank's management until late 2011 and took no sanctions until after the executives had stepped down last year.
Meanwhile, Monte Paschi's shareholders were kept in the dark about all the inspections and complaints that the BoI raised.
"The Bank of Italy could have done much more," said Alessandro Penati, professor of banking and finance at Milan's Cattolica university and one of Italy's leading regulation experts.
"They knew enough in 2010 to justify a much tougher line with the bank's management. They have the power to contest the bank's balance sheet and to get the management replaced, and that's what they should have done."
Prosecutors in the southern Italian city of Trani, who have previously taken on ratings agency Standard and Poor's, have opened an investigation against the Bank of Italy over accusations it failed in its regulatory duties.
Separately, a Rome court has summoned the BoI to a hearing on Saturday over its decision to authorize state loans for the ailing bank. Both cases were brought by consumer groups.
Mario Borghezio, an outspoken member of the European Parliament for Italy's Northern League, said he had tabled a question with the European Commission on whether Draghi was now fit to become banking supervisor for the entire euro zone.
The ECB has declined to comment on the Monte Paschi affair, saying it is a question for national authorities.
Monte Paschi is accused of having overpaid for a 9 billion euro ($12 billion) purchase of rival Antonveneta in 2007, sretching its finances to the limits, and of having made risky derivatives trades in 2006-2009 aimed at massaging its accounts.
Prosecutors are investigating whether bribes were paid at the time the bank bought Antonveneta. They also suspect fraud was involved in the derivatives deals which could cost the bank 720 million euros.
On Monday Draghi flew to Milan for what was meant to be a secret meeting to brief Economy Minister Vittorio Grilli, who faced a tough parliamentary hearing on the Monte Paschi debacle.
The day after his visit the BOI issued a seven page document to show how actively it had monitored Monte Paschi. Critics say the detailed timeline shows that while the bank may have been active, it was far from effectual.
"The document is certainly full of details, figures and dates, but it seems to have been written by someone who was unable to draw the logical consequences of them all," said a front page column in La Repubblica daily on Wednesday.
The BoI had shown itself to be "helpless" to overcome the obstructionism of Monte Paschi's management, said the left-leaning mainstream daily, which usually defends Italy's institutions, and especially the Bank of Italy.
The BoI's report showed that in the second half of 2009 it already considered Monte Paschi's liquidity position to be "unclear and potentially critical".
Over the next three years it made numerous inspections, criticisms and recommendations to Monte Paschi, including over the two opaque derivative operations with Deutsche Bank
The report shows these were largely ignored or responded to only partially and painfully slowly, but the BoI did not summon the bank's top management, now under criminal investigation, until November 2011. Only in May 2012 did it begin a sanctions procedure against the managers, who had by then stepped down.
None of the BoI's inspections or criticisms were shared with Monte Paschi's shareholders.
"The Bank of Italy tried to do things quietly for political reasons and because it is convinced that going public would have scared the market," said Penati. "It is probably right, but it would also have resolved the whole problem two years ago."
The question of the derivatives trades, which were carried out between 2006 and 2009, is particularly worrying, and is now the subject of a criminal fraud investigation by prosecutors.
A November 2010 internal report by BoI inspectors said the trades had "a risk profile which is not adequately controlled, and which has not been communicated" to Monte Paschi's board.
Not only had the repurchase agreements, worth a combined 5 billion euros, drained the bank's liquidity, but the BoI also suspected they were not recorded properly in its books.
Yet only in November 2011, a year later, did it decide to conduct "an in-depth, specific accounting review of the issue".
And if there was one man who should have been alert to the risks of opaque derivatives, it was Draghi, who was president of the Financial Stability Board, an international body charged with improving financial supervision and regulation.
He was appointed to the job to prevent repetitions of disasters such as the collapse of U.S. banks Bear Stearns and Lehman Brothers in 2008 in which derivatives played a key part.
"The Bank of Italy exercised neither deterrence nor repression on Monte Paschi," said former Economy Minister Giulio Tremonti, a long-time critic of Draghi who has set up his own party to contest Italy's national election next month.
"For two or three years, nothing was done except the work of the prosecutors," he said, pointing out that the investigators unearthed wrongdoing and informed the central bank, rather than the other way round, as he said it should have been.
For now, Tremonti and Borghezio are exceptions, as few politicians see any capital in attacking the non-partisan chief of the ECB, which has bought Italy's government bonds and helped to save it from bankruptcy. But after a triumphant 2012 in which he won much praise for his steps to tackle the euro zone debt crisis, Monte Paschi is giving Draghi an uncomfortable new year.
(Additional reporting by Huw Jones in London; Editing by Will Waterman)