The premium demanded by investors to buy Italian debt rised to 369 basis points on Monday (5 September), more than 30 points higher than the equivalent Spanish spread.
Yields on Italian 10-year bonds climbed to nearly 5.6%, approaching the levels of more than 6% seen before the European Central Bank began buying bonds last month.
On Monday, Mario Draghi, who takes over as head of the ECB in November, stepped up calls for Italy to act, delivering a pointed warning that the central bank's willingness to continue buying bonds "should not be taken for granted".
Italy's European partners have been watching with mounting alarm as government wrangling has overshadowed an austerity package presented in August. German Chancellor Angela Merkel told members of her party on Monday that the situation in Italy was "extremely fragile".
Political crisis brewing
Italy has wrestled with sluggish growth and one of the world's highest levels of public debt for years but a modest deficit, high private savings and a conservative banking system had kept it largely on the margins of the crisis until July.
Berlusconi's government, which until recently boasted repeatedly of keeping Italy out of the crisis, has struggled to build a defence against the market pressure, hampered by deep divisions in its own ranks over tax and pension issues.
Measures ranging from a tax on high earners, retirement delays for some university graduates, cuts to local government funding proposed or the abolition of small town councils have been proposed and then dropped with bewildering speed.
In their place, the increasingly beleagured Economy Minister Giulio Tremonti is putting his faith in stepped up measures to combat tax evasion despite a long history of failure by successive Italian governments.
Berlusconi and Tremonti have appeared increasingly at odds over the package, heightening speculation of a possible political crisis which could bring down the government.
Austerity plan moves to Senate
The Italian parliament begins debating the much-criticised austerity package on Tuesday (6 September) after President Giorgio Napolitano issued a stark warning that urgent action was needed to restore trust in public finances.
Italy's largest trade union, the CGIL, has called a general strike against the measures and plans rallies across the country on Tuesday, underlining the air of emergency in the euro zone's third-largest economy.
In a statement after markets closed, Napolitano said a sell-off of Italian government bonds on Monday had sent an "alarming signal" that markets had lost faith in Italy.
"It is a sign of the persistent difficulty in regaining [the] trust [that] is urgently and indispensably required," he said, urging all parties not to block measures needed to restore credibility.
He said there was still time to insert measures "capable of reinforcing the efficiency and credibility" of the austerity package passed in parliament last month and which is currently undergoing revision.
Tuesday's debate in the Senate is due to start at 4.30 p.m. with upper house approval possible as early as Wednesday, after the centre-left opposition Democratic Party said late on Monday it was willing to allow a swift vote.
The package would then move to the lower house before final approval, originally expected by 20 September.
The European Central Bank has been shielding Rome from the full force of the market by purchasing Italian bonds in a bid to hold down yields and stop borrowing costs from flying to unsustainable levels.
But its patience has been stretched by the chaotic manner in which the austerity package has been handled and by the absence of concrete steps to meet the government's pledge of balancing the budget by 2013.
EurActiv with Reuters
