By Stephen Jewkes

MILAN (Reuters) - Rome's fragile government battled to avoid another costly bank bailout on Thursday after U.S. fund manager BlackRock ditched a proposed rescue of Italy's Carige.

BlackRock and Carige gave no reason for the decision, which highlights investor concerns about Italy's uncertain political environment as time runs out for the troubled bank.

Economy Minister Giovanni Tria said he was confident a market solution could still be found, telling reporters in Rome that the bank's commissioners were seeking an alternative investor and that the work done so far would not be wasted.

Political infighting and the fact it was unable to keep its stake below 25 percent were among the factors that persuaded BlackRock to back out, a source familiar with the matter said.

Under the plan, based on a 720 million euro ($806 million) capital injection, Italian banks were set to take up some of Carige's shares by converting a bond into equity. But without more investors, BlackRock's stake would have exceeded a quarter.

The rescue aimed to help the state avoid its fourth major bank bailout in two years. The government has earmarked up to 1 billion euros to buy Carige shares if it cannot find investors.

A state bail-out would potentially embarrass the ruling parties, the right-wing League and the anti-establishment 5-Star Movement, which both attacked previous governments over the use of public funds to save ailing banks.

OTHER SOLUTIONS

Carige, which has been put under special administration by the European Central Bank, said it was looking at other market solutions to its capital shortfall after BlackRock's move but said it could also seek government financial aid.

"We will evaluate other market solutions aimed at ensuring the stability and turnaround of Banca Carige," it said in a statement, adding it could still make a "request for a precautionary recapitalisation to the economy ministry."

The ECB, which sources have said has set a mid-May deadline for investors to submit binding bids for Carige, said on Thursday it had been informed of developments and was in contact with Carige's temporary administrators.

Carige has been laid low by years of mismanagement and an excessive exposure to the depressed economy of Italy's northwestern Liguria region.

Italian bond yields have risen in recent days on concerns over tension within Rome's ruling coalition, with the gap between its benchmark bond yields and safer German Bunds increasing on Wednesday to the widest in more than two months.

In another sign of jitters about political risk and a weak economy, Italy's biggest bank by assets UniCredit said this week it would reduce government bond holdings.

But UniCredit Chief Executive Jean Pierre Mustier said on Thursday the bank remained strongly committed to the euro zone's third largest economy.

(Additional reporting by Andrea Mandala and Gavin Jones; Editing by Silvia Aloisi, Mark Bendeich, Edmund Blair and Alexander Smith)