MILAN/VERONA (Reuters) - The shareholders of Banca Popolare di Milano (BPM) (>> Banca Popolare di Milano) and Banco Popolare (>> Banco Popolare Societa Cooperativa) approved a merger between the two lenders on Saturday, giving the final green light to the creation of Italy's third-largest bank by assets.

Investors in Verona-based Banco Popolare, who approved the deal overwhelmingly, had been widely expected to back the move, but BPM had to overcome opposition from a group of retired employee-shareholders.

The merger is the first prompted by reforms introduced by Prime Minister Matteo Renzi early last year, aiming to promote such tie-ups and boost bank profitability.

The creation of a new big bank, which will be named Banco-BPM, is good news not only for the banking system but also for the government, which threw its weight behind the deal.

"We made an effort to show that Italy is not a country that needs to be saved but one that can save itself," BPM CEO Giuseppe Castagna told a news conference after the shareholder meeting.

He acknowledged that the Italian banking system should tackle various challenges to make the domestic economy attractive for foreign investors.

Italian lenders' balance sheets are weighed down with more than 200 billion euros of bad loans that built up during years of recession.

Banco Popolare CEO Pier Francesco Saviotti said the bank was working on the sale of 650 million euros in bad loans to be completed by year-end.

He added that the bank would report a loss this year because of loan writedowns requested by the European Central Bank.

After months of haggling over top jobs and tense discussions with ECB supervisors about capital raising, BPM and Banco Popolare agreed in March to create a group with 173 billion euros in assets and 4 million clients.

The new bank expects to cut costs by 320 million euros by 2019, or 10 percent of the combined total, partly through 1,800 voluntary redundancies out of a total of 25,000 employees.

BPM and Banco Popolare also voted on Saturday in favour of shedding their cooperative status, which granted shareholders one vote each regardless of the size of their stake, becoming joint-stock companies as imposed by the government reform.

(Writing by Francesca Landini; Editing by Andrew Bolton)

By Andrea Mandala and Gianluca Semeraro