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Italy's referendum rejection: What happens next?

Franco Origlia | Getty Images | Getty Images News

Italian Prime Minister Matteo Renzi is poised to resign on Monday following a bruising referendum defeat in which the country voted overwhelmingly to reject constitutional reforms.

The result of Sunday's referendum had been largely priced in by the financial markets and thus far has prompted only a muted response for the Eurozone's third largest economy. However, unquestionably, Italy finds itself in political turmoil.

Here are the possible scenarios as to what can be expected moving forwards:


Renzi could resign and remain

Matteo Renzi gambled his political future on the referendum outcome and promised to resign if the reforms were rejected and, in defeat, he is widely expected to fulfill this pledge on Monday.

The "No" vote won 57.1 percent of the vote according to the final count.

"I lost and I say it loud and clear even if I have a lump in my throat because we are not robots," Matteo Renzi, in remarks translated from Italian by CNBC, said on Monday.

"I wasn't able to win, I beg you to believe I did everything I thought was possible at this stage," he added.

Despite an offer to resign, it is possible for Renzi to stay on as prime minister. Sergio Mattarella, Italy's president, could reject his resignation and ask Renzi to reshuffle his cabinet in a bid to form a new government.

The likelihood of this outcome appears very small given Renzi's emotional concession, his previous unwillingness to stay in government in the event of defeat and significant negative sentiment from political opponents as well as members of his own party.

Technocratic administration

The much more likely outcome would be a caretaker government to oversee a restricted mandate until an election is held.

Mattarella could ask a number of potential candidates to take the reins and lead a new technocratic government for the foreseeable future including; Pietro Grasso, speaker of Italy's Senate, Dario Franceschini, Italy's culture minister or, the emerging favorite for the post, Pier Carlo Padoan, Italy's finance minister.

"The key focus of the government in the months ahead will be on reform of the current electoral law (the so-called Italicum law), in our view," a UBS team of economists and strategists said in a note on Monday.

"To be sure, a fair amount of time will also be dedicated to the restructuring currently taking place in the banking sector, but the established parties will be keen to see changes to the Italicum law before fresh elections are held," they added.

The UBS team projected that an election in Italy would take place in the fourth quarter of 2017.

Electoral law editing

Five Star Movement (5SM), who had championed a "No" vote throughout the referendum campaign, declared the party was preparing to take over in the event of an election.

However, should a caretaker administration be put in place by Mattarella, a draft reforming electoral law would be expected.

This would amend a previous law passed in 2015 which gave extra seats in Parliament to a party winning more than 40 percent of the vote.

Initially, this law had been passed to ensure more stable governments though establishment politicians fear 5SM could potentially get into power if this law is not changed.

Banks to be bailed in?

Matteo Renzi's defeat and expected resignation could prompt Italy's banking bosses to take radical action such as "bailing-in" bondholders and even merging rival lenders.

"There must be a radical restructuring plan for ailing banks, some of which could entail a partial "bail in" and liquidation, potentially accompanied by a pre-emptive government recapitalization for an estimated Euros 10-20 billion," Claudio Scardovi, managing director of AlixPartners, told the Guardian.

"These restructurings are likely to be followed, or accelerated in parallel, by a long overdue consolidation of the Italian banking system through mergers and acquisitions of small and mid-sized banks," he added.

Italy's banking sector is largely viewed as the Achilles heel of the Eurozone's third largest economy and shares of troubled Italian lenders Unicredit, Banco Popolare and Banca Pop Milano were all deep in negative territory Monday morning making up the bottom three of the Stoxx 600.