The FTSE 100 dropped sharply in morning trading as investors fretted over the future of Italy following a spike in the country's bond yields to record levels.
Despite the news Italian prime minister Silvio Berlusconi is poised to resign, investors sold stocks across the continent as Italian bond yields spiked to record highs above the crucial 7% level.
The jump to 7.4% this morning put pressure on stocks as investors fretted Italy could end up in a similar situation to Greece.
Shares plunged in response, with the FTSE 100 down 1.6% or 96.54 points, at 5,470.
In Europe shares also retreated, with the German Dax down 1.9% at 5,850, and the French Cac 40 off by the same amount at 3,082.6 points.
Last night Berlusconi pledged to step down after the Italian parliament passes the austerity package required by the European Union. The move came after he failed to secure backing from a majority of voters in the Chamber of Deputies, leading to calls for his resignation.
Markets had initially responded positively to the news, with the Dow Jones industrial Average up 102 points to 12,170, the S&P 500 rising 15 to 1,276 and the NASDAQ Composite advancing 32 to 2,727.
The FTSE 100 had also opened 0.82% higher after gains in Asia.
The MSCI Asia Pacific index rallied 1.3% at 4 pm in Tokyo while the Hang Seng jumped 2.6%. Japan's Nikkei 225 Stock Average added 1.2%.
Figures were also released showing China's consumer price inflation cooled to 5.5% in October from 6.1% the previous month, while producer prices fell by more than economists had forecast, signaling the government may be able to reduce measures to cool its economy.
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