Crisis worsens in Italy, but defiant Silvio Berlusconi clings to power

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A senior member of his government says it is 'pointless to persist', but last night the prime minister was still in place. Michael Day reports

The money markets called time on Silvio Berlusconi yesterday, rallying on rumours that the Italian leader's resignation was only days – or even hours – away.

Share prices surged and Italy's borrowing costs fell back briefly from "frighteningly high" levels after two prominent pundits, who are normally supportive of the prime minister, said he was on the verge of quitting. Their views were given credence by the Italian interior minister, Roberto Maroni, who said: "It seems there's no longer a majority, given the latest news [of parliamentary defections]", before adding that it was "pointless to persist".

But Mr Berlusconi confounded this burst of market optimism by saying he was going nowhere – and insisting that Italy needed him to stay in power until 2013. "The rumours of my resignation are without foundation and I don't understand how they're circulating," he said in the middle of the day on his Facebook page, in response to the claims – from the editor of Il Foglio and the deputy editor of Libero, two right-wing, pro-Berlusconi papers – that his resignation was just hours away.

Last night he made a defiant declaration that he would not go before today's Budget vote so he could see who from his own party was jumping ship. "I want to see face to face those who want to betray me," he said. At last week's G20 meeting in Cannes, Mr Berlusconi was compelled by world leaders, nervous that Italy could be on the brink of default, to invite the International Monetary Fund to monitor the country's national finances.

Other eurozone leaders heaped fresh pressure on Mr Berlusconi's tottering government yesterday to bring down its borrowing levels and enact economic reform.

"Italy has to stick to what has been announced," the German finance minister, Wolfgang Schauble, said. "If Italy will deliver; will reduce its debt, there is no problem." This tough message was reinforced by the EU economic affairs commissioner, Olli Rehn, who confirmed that he had sent a questionnaire to Rome asking the government to clarify what "concrete action plans" it had for cutting debt and the timeline for implementing them.

Eurozone finance ministers met in Brussels yesterday to discuss efforts to boost the firepower of the European bailout fund, known as the European Financial Stability Facility (EFSF). The German Chancellor, Angela Merkel, let slip in Cannes last Friday that plans to get other countries to invest in the EFSF had won no support among emerging market nations. The Russian finance minister, Sergei Lavrov, confirmed yesterday that his nations would only be interested in channelling support funds into Europe through the IMF.

Investors are panicking about Italy's €1.8 trillion (£1.5 trillion) debt mountain and the inability of Mr Berlusconi's lame duck administration to bring it down. These fears are causing the country's borrowing costs to soar. Before the rumours of a rapid Berlusconi exit spread, the yield for Italian 10-year bonds rose above 6.6 per cent, the highest rate since the introduction of the euro. If bond costs are too high for too long, Italy could be forced to default on its debts, spelling potential disaster for the euro, the European banking system and the global economy.

As Italy waited yesterday for signs that the 75-year-old premier might fall on his sword, many pundits said the first real test for his teetering coalition could come today, with the lower house of the legislature due to vote on a report passing last year's Budget. If Mr Berlusconi loses this vote, some members of his People of Freedom (PDL) party predict there will be a stampede for the door. Subsequent votes over the next 10 days to pass austerity measures demanded by the EU, or possibly a vote of no confidence proposed by the opposition, would then almost certainly finish off the government.

If this happened, President Giorgio Napolitano could consult with political parties to see if an alternative majority might be formed – perhaps a centre-right coalition led by a less-contentious member of Mr Berlusconi's party, or a group of centre-left parties.

But given the precarious financial situation, Mr Napolitano might opt for a technical, stop-gap administration government led by a non-political figure who would be charged with implementing the economic reforms and preparing the country for new elections.

Ireland's finance minister, Michael Noonan, said: "The proposals to leverage up the firewall protection of the EFSF are quite good proposals, but of course it will take time before the technical work is done to make that happen."

In case Mr Berlusconi had failed to interpret yesterday's market reaction to rumours of his imminent departure, financial analysts spelt it out for him.

Louise Cooper at BGC Partners said: "The leader and his country are in danger of taking the rest of Europe, if not the world, into economic hell."

The French foreign minister, Alain Juppé, said pointedly at the weekend that Italy had "a problem of credibility".

What next? the chances of Italian reform

Parliament loses confidence; new government formed

He loses a confidence vote within the coming days and head of state, President Giorgio Napolitano, steps in and asks the centrist and centre-right blocks in parliament to form a new government, with a less contentious figure, such as Senate leader, Renato Schifani, or cabinet undersecretary Gianni Letta as prime minister. This would give the vital austerity measures a chance of being implemented.

Berlusconi survives

Increasingly improbable, but Berlusconi might once again pull a rabbit out of the hat – and lure back enough defectors to keep his government afloat, for a few more months at least. Bad news for the euro.

Government of national unity

If the centre-right implodes, President Napolitano might try for a government of national unity with centre-left parties including the main opposition Democratic Party and centre-right rebels.

General elections

The Berlusconi government falls and President Napolitano fails to form an interim administration, and so the country heads for a general election, most likely in spring. This might bring with it more uncertainty – and more woes for the euro.

President ignores political parties and appoints interim PM

President Napolitano might try to put a technocrat, such as the former EU commissioner Mario Monti, into office, charged with leading a caretaker government to implement economic reforms demanded by the EU and to prepare the country for elections.

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