Italian President Giorgio Napolitano ratcheted up pressure on Prime Minister Silvio Berlusconi on Tuesday, repeating demands for urgent reforms and indicating that he could consider options for an alternative government.
After a wild day on financial markets, which saw Italian government bonds and bank stocks hammered, Napolitano issued a statement saying reforms promised by Italy to European authorities could not be delayed.
He said Berlusconi had confirmed his intention to press ahead with the measures but added that opposition groups had indicated that they were prepared to assume the necessary responsibilities.
In the current critical moment, the country can count on a broad range of political and social forces conscious of the need for a new perspective of broadly shared choices which Europe, international opinion and economic and financial actors urgently expect of Italy, the statement said.
The Head of State considers it his duty to verify whether the conditions exist to implement such a perspective.
With the political pressure mounting, Italian bonds were hit by a new wave of selling Tuesday as markets reeled from Greek Prime Minister George Papandreou's surprise decision to hold a referendum on the latest EU bailout package for his country.
As president, Napolitano has considerable influence over the formation of a new government and if Berlusconi fell, he would decide either to call elections or appoint an alternative administration.
He cannot dismiss a prime minister with a safe majority in parliament, but his highly formal words suggested that he was seriously considering the possibility of a broad-based government including representatives from outside the ruling centre-right because of his concerns about the economic situation.
However, it was not clear how this could be engineered if Berlusconi continued to refuse to step down.
Despite an array of scandals, Berlusconi has won repeated votes of confidence in parliament this year. But he has been struggling to contain divisions with his Northern League coalition partners and has faced growing pressure to resign.
Too big to bail out if its borrowing costs get out of control, Italy has a mix of sluggish growth, a divided and ineffective government and a public debt equivalent to 120 percent of gross domestic product that pose a growing threat to the survival of the euro.
Fears that a divisive election campaign could add to uncertainty and aggravate the crisis have fuelled speculation about an interim government of national unity, led by a respected outside figure such as former European Commissioner Mario Monti.
The opposition centre-left Democratic Party, which earlier repeated calls for Berlusconi to resign, said it welcomed the president's statement.
We believe that the conditions can emerge rapidly for a new and strong political framework to guide Italy in this dramatic moment, senior party official Enrico Letta said in a statement.
Tuesday, shortly before Napolitano's statement, Italy's main business associations said the prime minister should act immediately or draw the consequences.
Berlusconi has repeatedly rejected calls to step down but there are growing expectations that the government will fall soon, leading to new elections in the spring, the period when Italians normally go to the polls.
Yields on Italy's 10-year BTP bonds rose to 6.366 percent on Tuesday, an unsustainable level just short of the point they reached in August when the European Central Bank stepped in to prop up the market by buying Italian debt.
Last week, the Treasury was forced to pay a record yield of 6.06 percent at an auction of its 10-year bonds, a price which would add billions to already heavy interest payments if it did not come down quickly.
The ECB intervened again Tuesday to buy Italian bonds but yields have continued to move closer to 7 percent, a level which many analysts fear could trigger a so-called buyers' strike where it becomes difficult to sell government paper.
If 10-year yields get to 7 percent, it becomes increasingly difficult for a country to sustain its debt, said Pavan Wadhwa, global head of interest rate strategy at JP Morgan in London.
Italy is now 50 to 75 basis points away from those levels and our view is that the ECB will be forced to pick up the pace of its bond purchases to avoid Italy being shut out of funding markets, he said.
With Athens facing the growing risk of a default which would destabilise the euro zone, Italy, the bloc's third largest economy, is now at the centre of the crisis and EU leaders are desperate for it to avoid following Greece.
Berlusconi spoke to both German Chancellor Angela Merkel and Napolitano by telephone and repeated that he was determined to press ahead with the reforms promised at last week's European Union summit in Brussels.
He was meeting senior ministers in Rome late Tuesday and said consultations would continue at the meeting of the Group of 20 economic powers in France Thursday.
Berlusconi has promised new reforms, among them easier rules on redundancies, including for civil servants, and an increase in the pension age.
There is already talk that the package, which follows a series of austerity plans over the past three months, will have to be toughened up, with cuts to tax breaks and welfare spending among the options to ensure budget targets are met.
(Additional reporting by Valentina Za; Editing by Barry Moody and Tim Pearce)