Bank stocks in Italy fell sharply Monday as traders reduced holdings ahead of a key national referendum on constitutional reform that could topple the government and spark major changes for Europe's third-largest economy.

Monte Dei Paschi di Siena (BMDPY) , the country's third largest lender, fell more than 7.5% in the opening half hour of trading before having its shares suspended from trading in Milan. Market regulators also approved its plans for a €4.3 billion ($4.6 billion) debt-for-equity swap that will launch later Monday and run for the balance of the week.

Shares in Unicredit, Italy's biggest lender, fell 3.96% to €1.89 each, extending the year-to-date decline to 65%. The bank is hoping to raise as much as €13 billion next year in order to shore up its finances and offset bad debts on its balance sheet.

The FTSE Italy Banks index, the broadest measure of share performance for the country's lenders, was down 3.45% by 09:30 CET in Milan while the FTSE MIB index fell more than 330 points, or 2% to 16,182.1, the lowest since September 27.

Italy's banks are staggering under a €360 billion heap of bad loans, around €225 billion of which are now classified as "sofferenze", or non-performing, a figure which matches the overall book value of equity capital held for the banking system as a whole.

However, a national plan to offload some of those debts into a so-called 'Bad Bank' fund known as Atlante has run into several roadblocks, including a lack of committed capital and concerns from Brussels that it offers banks a form of state support that is normally not permitted under EU rules.

Atlante II, a spinoff of the original fund, has said it will use €1.6 billion to buy Monte Dei Paschi's bad loans, an amount that could essentially exhaust the firepower of the newly-created fund.

All of this comes just days before Italians head to the polls to vote on a package of constitutional reforms put forward by Prime Minister Matteo Renzi. The final surveys for the referendum, published by law last week, suggest voters could resoundingly reject the proposals, potentially triggering the collapse of Renzi's coalition government and fresh national elections.

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