Italy's troubled Monte dei Paschi bank | Andreas Solaro/AFP via Getty Images Italy’s banking nightmare just came true Rejection of Monte dei Paschi di Siena’s request for more time to turn itself around could exacerbate the country’s banking crisis.

The road back to health for Italian banks just became rockier. A lot rockier.

The European Central Bank’s supervisory board rejected a request Friday from Italy’s ailing third-largest lender Monte dei Paschi di Siena for extra time to raise €5 billion to turn itself around.

The news will reverberate beyond MPS. The rejection underlines regulators' unwillingness to dole out special treatment to ailing banks. It could chill investors' interest in the weakest players in the sector and raise the specter of losses among bond holders of troubled institutions.

And it makes it harder for the country's other lenders to fill their capital needs at a critical moment.

Italy’s biggest bank and the country’s only systemically important lender, UniCredit, will announce a €10 billion capital-raising operation on December 13. Meanwhile, six other regional Italian lenders are also in desperate need of capital injections.

Italian voters' rejection of Matteo Renzi’s political reforms in last Sunday's referendum threw the country into political uncertainty. With Italy headed for a period of government instability, international investors spearheaded by Qatar Investment Authority backed out of MPS's capital-raising plan. As first reported by POLITICO on Tuesday, the Tuscan lender’s top executives traveled to Frankfurt to ask the ECB for a two- to five-week extension of the December 31 deadline to raise €5 billion from the market in the hope that the extra time would help private investors to make up their minds.

The ECB refused the extension because “their credibility was on the line,” one banker close to the negotiations between MPS and the Frankfurt-based institution said. An ECB spokesperson refused to confirm or deny the news.

Italy now must come to grips with the fact the government will have to step in to rescue one of the country's biggest banks — with all the thorny political consequences.

EU rules place strict restrictions on taxpayer-funded bailouts of failing financial institutions. Instead, troubled banks' stakeholders must first undertake a "bail-in" with their own money. That's a politically toxic option in Italy where many of MPS's current investors are retail savers.

Back in 2007, the Tuscan bank sold its depositors — just mom-and-pop investors — €2 billion worth of its own debt to pay for a takeover. That operation is now being blamed for setting the bank on the road to ruin.

The potential hit on the savings of ordinary citizens is also why Renzi and other Italian politicians had been trying so hard to avoid a government rescue of MPS ever since it failed the European Banking Authority’s stress tests in July.

Italy now has no choice but to pursue that unwanted plan.

Rome and Brussels had in fact already mapped out a "precautionary recapitalization" plan, sensing the chances of getting €5 billion in private capital together were slim after Sunday’s vote. According to sources in Rome, finance ministry officials, MPS CEO Marco Morelli, and senior representatives from JPMorgan and Mediobanca are working out the final details of the bail-in plan.

Officials will also try to devise ways to compensate MPS's retail investors, but that could be tough because Italy has no government at the moment.

And whatever happens with the MPS saga, the problems facing Italy's banking sector could morph into something a lot more scary for all of the eurozone.