Italian bond yields rose on Monday nearly to levels seen in August when the ECB intervened to shore up debt markets, indicating new concerns that problems in the euro zone's third largest economy could threaten the entire bloc.
With Italy now firmly at the heart of the euro zone debt crisis, yields on its 10 year, fixed-rate bonds known as BTPs jumped to 6.1 percent from 5.9 last week, piling pressure on Prime Minister Silvio Berlusconi's government as it faces fresh criticism over its handling of the economy.
The new bond yield was just shy of the level reached in August when the European Central Bank stepped in to cap Rome's borrowing costs by buying its bonds.
As the premium investors demand to hold Italian bonds rather than benchmark German Bunds climbed to 410 basis points, Italian bank leaders said that tensions on sovereign bond markets risked hitting the wider economy.
Giovanni Bazoli, chairman of Italy's biggest retail bank Intesa San Paolo, told a conference in Rome that risk of a credit crunch was inevitable if tensions on the sovereign debt market continued.
Berlusconi, mired in scandal and struggling to contain tensions in his divided center-right coalition, faced a fresh call to resign, when Luca Cordero di Montezemolo, one of Italy's most prominent businessmen, urged him to make way for a government of national unity.
In a letter to the daily La Repubblica, Montezemolo, chairman of sports car maker Ferrari, said that Italy had reached the point of no return.
There is not a minute to lose. The savings of Italian people, social cohesion and Italy's membership of the euro are all at risk, he said.
We do not have time to wait for the natural evolution of the political situation, he said. The prime minister has to realize that the only way to save the country is through a government of public safety.
Italy's sluggish economy, weighed down by a public debt equivalent to 120 percent of gross domestic product faces a growing risk of recession next year, which could derail the government's target of a balanced budget by 2013.
Data on Monday showed unemployment in September climbing to 8.3 percent, its highest in almost a year, while the main domestic inflation indicator hit its highest level in three years.
Last week, Italy paid a yield of 6.06 percent at an auction of 10 year bonds, the highest since the introduction of the euro more than a decade ago.
Berlusconi, facing four separate trials over prostitution and tax fraud charges, has rejected calls to step down, repeating on Friday that he would serve out his term until 2013.
However there is growing speculation that the government will fall early in 2012, taking the country to the polls in the spring, the period when Italian elections are traditionally held.
Berlusconi has survived numerous confidence votes in parliament this year, but his coalition partners in the Northern League have expressed increasingly open doubts about whether the government can continue.
They have insisted that the only option would be new elections, rejecting the idea of an interim technical government led by an independent outsider which would be charged with passing reforms.
If the government did fall after losing a confidence vote in parliament, it would be up to President Giorgio Napolitano to decide whether to call new elections or appoint another prime minister to try to form a new majority.
Senior political figures on both the government and opposition sides say Berlusconi appears to want to keep going until at least the end of the year.
The letter from Montezemolo adds to a growing chorus of criticism of the Berlusconi government from sections of the Italian establishment, ranging from the main employers federation Confindustria to leading daily newspapers and the Catholic church.
Montezemolo, who has no formal party allegiance, said a package of reforms promised to the EU last week, including rules to make it easier for employers to lay off staff and make civil servants redundant, were manifestly insufficient given the gravity of the situation.
He proposed a five-point reform program to cut the cost of politics, reform labor laws, shift the tax burden from labor costs to assets, overhaul the pension system and open up protected sectors to competition.
(Additional reporting by Catherine Hornby, writing by James Mackenzie; Editing by Roger Atwood)