Mario Balotelli was criticised for his performance against Real[GETTY]
The Reds slumped to a 3-0 defeat and Balotelli was the subject of criticism for his decision to swap shirts with defender Pepe at half-time.
But Ancelotti believes the Italian striker looked dangerous during the first-half and has become a scapegoat for Liverpool's problems.
He told Sky Sport Italia: "Have we completely lost Balotelli? I thought in the first half he was the player who most attacked the space and tried to create problems for us.
"His performance was absolutely not to be written off tonight.
"Can he give more? I don't know but he wasn't the worst performer this evening.
Fabio Cannavaro also believes the shirt swapping controversy is a storm in a tea cup.
Rodgers and Ancelotti discuss Madrid s 3-0 win [AMBIENT]
I don't know but he wasn't the worst performer this evening.
Carlo Ancelotti
He said: "I know people like to stir up controversy about Balotelli, but I think to complain he swapped shirts is just crazy."
Earlier this week Ancelotti defended Balotelli's slow start in the Premier League, saying he needs more time to develop into one of the world's best players.
He said: "It is not easy to compare to Cristiano.
"Balotelli is young and he wants to play well.
"He has had problems in the past but it's never easy to adapt when you arrive in a new league and a new environment.
"He needs time, like everyone, to reach the highest level."
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