By Valentina Za and Stefano Bernabei
MILAN (Reuters) - Italian banks expect the European Central Bank to start setting deadlines for some lenders to sell off their bad loans as they come under increased pressure to improve asset quality, two senior banking sources said.
Running at 360 billion euros (289 billion pounds) after a three-year recession, problem loans account for 18 percent of Italy's bank loans against a euro zone average of 6 percent.
Current market prices mean banks face a loss if they sell the loans now, although keeping them limits their ability to provide fresh credit to businesses that could fuel a fragile economic recovery.
Since taking on supervision of euro zone banks 17 months ago, the ECB has been stepping up pressure on Italian banks to clean up their balance sheets.
The sources said the ECB could start dictating the pace of problematic loan sales in specific cases, like it did before giving a preliminary go-ahead to the merger of Banco Popolare (MI:BAPO) and Banca Popolare di Milano (MI:PMII) announced last month.
The two banks target a 10-billion euro gross bad loan reduction by 2019, three years after the planned completion of their merger. The ECB rejected the banks' original plan which staggered the sales over five years, sources have said.
An Italian bank's chief executive said he expected the ECB to take a similar approach towards other lenders, with bankers saying they have little option but to fall in line with the regulator's increasing activism.
"Sooner or later I expect the ECB to take formal steps. They could demand a bad loan disposal plan," the banker said, requesting anonymity because of the sensitivity of the issue.
The ECB declined to comment.
A second banker said the ECB may start setting deadlines because it saw a high share of problem loans as "an anomaly".
Italy's clogged judicial system, which delays recovery times for creditors, is partly to blame -- it takes on average more than seven years to complete a bankruptcy procedure.
The bad debt market is at least beginning to thaw: Banca Popolare di Bari is using a state guarantee scheme to sell 800 million euros of those loans, while Popolare dell'Emilia Romagna (MI:EMII) has put 900 million euros on the block.
"It's clear that ECB checks are behind this acceleration: both on-site inspections and off-site checks which require banks to prove they ... are tackling the problem," said Claudio D'Auria, managing partner at consultancy Moderari and a former Bank of Italy official.
Gross bad loans at Monte dei Paschi di Siena