PSA Peugeot Citroen
has agreed to form an alliance with General Motors targeting $2 billion in savings, sources with knowledge of the discussions said on Wednesday.

GM will take a 7 percent Peugeot stake as part of a share issue by the French automaker, and the two companies will pool research and development, vehicle platforms and technologies, one of the sources said.

The agreement is to be announced after European markets close later on Wednesday, the sources said.

Peugeot shares, which had earlier lost as much as 4.2 percent on concern that the GM talks could have hit a sticking point, rebounded and were up 0.5 percent in late afternoon trading. GM shares, which have dropped 4.4 percent since the alliance plan was first reported by a French newspaper on February 21, edged 0.1 percent lower.

Peugeot declined to comment.

The deal, which comes as both Peugeot and GM's Opel unit grapple with slow sales and overcapacity in Europe, has met with widespread skepticism among analysts and investors.

This is not the type of solution we need to see in the European mass market, where capacity has to leave, Credit Suisse analyst Erich Hauser told investors in a note.

Like Peugeot, Opel is struggling to reverse mounting European losses compounded by the region's auto sales slump and cut-throat price competition. GM's European operations lost $747 million last year, while Peugeot's core auto division was 497 million euros in the red in the second half.

The French government is still waiting for information from Peugeot about the alliance plan, an official said on Wednesday.

French markets regulator AMF yesterday called on Peugeot to issue a statement quickly to confirm or deny reports about the GM tie-up and capital hike but the automaker has yet to do so.

Peugeot last week confirmed that alliance talks were underway, without identifying the potential partner.

The Peugeot family, which owns just over 30 percent of the car maker, has signaled that it would not be opposed to some dilution providing it remained the principal shareholder.

Despite the tie-up discussions, Peugeot remains a favorite for short sellers with 8.6 percent of outstanding shares on loan, according to London-based Data Explorers - making it the third most shorted stock on France's benchmark index. ($1 = 0.7450 euros)

(Additional reporting by Laurence Frost and Blaise Robinson in Paris; Editing by Chris Wickham and Elaine Hardcastle)