Italy's borrowing costs plunged in an auction of six-month bonds following government plans to cut the deficit and boost growth, with a second crucial sale of longer-term debt set for tomorrow.
Italy raised €9 billion at a rate of 3.251% - with some analysts suggesting that European banks making use of low-cost European Central Bank money were largely behind the auction's success.
Today's rate was half the 6.504% that Italy was forced to pay in November and also below the level of 3.535% it paid in October. Italy also raised €1.733 billion with zero interest bonds due in 2013 at a rate of 4.853%, compared to 7.814% last month.
Italy aims to sell between €5-8 billion tomorrow in bonds maturing in three, seven and 10 years in a closely-watched auction.
This week's bond sales were being seen as a bellwether for market sentiment on Italy - the euro zone's third largest economy - but also for the euro area as a whole at the end of a year that has questioned the future of the euro.
Borrowing costs have spiked to record highs across the 17-nation euro zone in the past few months over fears that economies like Italy could be forced to seek giant international bail-outs in the wake of Greece, Ireland and Portugal.
European leaders have agreed to strengthen rules and sanctions for keeping public accounts in order but there are lingering doubts about the deal and about the impact from an expected slowdown in euro zone growth in 2012.
Investors initially hailed today's bond auction, with stocks rising around Europe including a 1.24% jump in Milan but the enthusiasm petered out and Italian stocks were down 0.88% towards the end of trading.
Italy has spooked international markets this year with its slow growth and a sharp rise on its borrowing costs raising fears of an imminent blow-up of its giant debt - equivalent to 120% of gross domestic product (GDP).
Silvio Berlusconi's replacement by Mario Monti as prime minister in November has helped calm nerves although there is still concern about the impact on the economy of a draconian plan of tax increases and pensions adopted this month.
The rate on 10-year bonds has hit well above 7% this year - far higher than a level seen as sustainable - and the European Central Bank has been forced to intervene with massive bond purchases on the secondary market.
Analysts suggested the ECB may also have had a role in today's dramatic drop in Italian bond rates as last week it provided banks with a record €489.2 billion in three-year loans at an interest rate of just 1%.
While the injection was made in order to avoid a credit crunch, the low rate makes it easy for lenders to make money off higher-yielding bonds, and analysts have been anticipating that the funds may help bring down government borrowing costs.
In 2012, Italy will have to raise €450 billion, the Corriere della Sera daily reported. The target is seen as challenging but possible by analysts.
Italy's government has said it is planning a raft of measures to help stimulate the economy starting next year - including a liberalisation of notoriously protectionist professional associations like taxi drivers and pharmacists.
Monti is also planning an overhaul of labour market legislation to make it easier to fire people - a move that opponents say will sharply increase the unemployment rate but supporters say will actually help encourage hiring. The government is forecasting the economy will contract 0.4% in 2012.
Euro falls near to one year low
The European single currency fell today to a near one-year low, as investors fretted over the euro zone sovereign debt crisis on the eve of Italy's second bond auction in just two days.
In late afternoon deals, the euro slumped to $1.2941 - which was the lowest point since January 11. It later pulled back slightly to stand at $1.2962.
Analysts said that while Italy managed to have a successful auction of short-term six-month debt, market jitters are still there with regards to the 10-year debt on offer by Italy in tomorrow's trading session.
They added that thin trading conditions ahead of the year-end were also exacerbating moves in the foreign exchange market.
