FRANKFURT (MarketWatch) — Italian government bond yields rose Tuesday after Standard & Poor’s Ratings Services cut Italy’s credit rating one notch, putting further pressure on euro-zone leaders to stem the region’s ongoing sovereign-debt crisis. 
 
 Late Monday, S&P; lowered Italy’s long-term credit rating to A from A-plus and cut its short-term rating to A-1 from A-1-plus, citing a weak economic outlook and ongoing political gridlock. S&P; also said the outlook for Italy’s ratings is negative, meaning a further cut is possible. 
 
 The move by S&P; took markets somewhat by surprise. All eyes had been on rival ratings firm Moody’s Investors Service, which had announced last week it would take an additional month to decide whether to downgrade Italy’s ratings. 
 
 “Just when everyone was waiting for Moody’s to downgrade Italy, S&P; gets in first with what is a much more damaging downgrade as its rating of Italy was already the lowest of the three agencies,” said Gary Jenkins, head of fixed income at Evolution Securities in London. 
 
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 The yield on 10-year Italian government bonds /quotes/zigman/4869096/delayed IT:10YR_ITA -0.07% jumped as many as 16 basis points, but trimmed the initial rise to trade at 5.59% in recent action, a rise of 7 basis points, according to FactSet Research. Yields move inversely to bond prices. 
 
 Meanwhile, the premium demanded by investors to hold Italian 10-year bonds over German bunds /quotes/zigman/4869083/delayed DE:10YR_GER +0.02% widened by around 9 basis points to stand at 3.82 percentage points. 
 
 Talk of further buying of Italian bonds by the European Central Bank helped pull down yields from initial highs, analysts said. 
 
 The downgrade could increase Italy’s borrowing costs just as the country embarks on a large-scale refinancing program that entails nearly 30 billion euros ($41.3 billion) of gross bond issuance in October and November, said Boris Schlossberg, director of currency research at GFT. 
 
 “These upcoming bond auctions could become the true test of the country’s credit strength and, if investors balk at rolling over its debt, the downward pressure on the euro could quickly accelerate,” he said. 
 
 On Tuesday, the euro initially dropped against the dollar U.S. in the wake of the downgrade, then bounced. The euro /quotes/zigman/4867933/sampled EURUSD +0.1148% lately traded at $1.3666 in recent action, down from around $1.3685 in North American trade late Monday. 
 
 Worries about the banks 
 
 Rising borrowing costs highlight worries that the region’s sovereign-debt crisis could engulf Italy, outstripping the euro zone’s rescue resources and throwing the future of the euro into doubt. Italy’s economy is the third-largest in the euro zone and its bond market is the third-largest in the world. 
 
 The European Central Bank began buying Italian and Spanish bonds in early August, pulling Italy’s yield down from more than 6% to less than 5%. But yields have crept back up in recent weeks. 
 
 Italy’s downgrade highlights worries about Europe’s banking sector, particularly French banks. 
 
 Fears over the potential impact of a Greek default on highly-exposed French banks and the rest of the region’s banking sector prompted the European Central Bank and other major central banks last week to pledge to provide increased dollar liquidity amid signs banks are becoming increasingly reluctant to lend to each other. ||||| LONDON — The Italian government reacted angrily Tuesday to the decision by the credit rating agency Standard & Poor’s to downgrade its debt, describing the move as out of touch with reality. 
 
 Late Monday, S.&P.; cut the rating by one notch to A from A+, citing the country’s weakening economic growth prospects and higher-than-expected levels of government debt. 
 
 The agency said Italy’s fragile governing coalition and policy differences in Parliament would continue to limit the government’s ability to respond decisively to economic head winds. It also cast doubt on whether the government’s projected €60 billion, or $82 billion, in fiscal savings would be realized because growth prospects are weakening, the budgetary savings rely on revenue increases, and market interest rates are anticipated to rise. 
 
 Prime Minister Silvio Berlusconi’s office issued a statement early Tuesday noting that his government had a solid majority in Parliament. It said the government was preparing steps to lift growth and recently passed measures to control public finances through tax increases and spending cuts. 
 
 “The evaluations of Standard & Poor's seem dictated more by behind the scenes reports in newspapers than reality and seems influenced by political considerations,” the statement said. 
 
 The yield on Italian 10-year bonds was up slightly by midday Tuesday, but at more than 5.6 percent Italy’s borrowing costs are more than three times what Germany, the euro-zone anchor, pays. Stock markets in Europe also brushed off the downgrade, as investors reacted to positive signals on discussions about aiding Greece, and Spain sold another offering of Treasury bills. 
 
 Analysts said the mood was also helped by speculation that the United States Federal Reserve would approve a new program for monetary easing Wednesday to try to stimulate economic growth. 
 
 The Euro Stoxx 50 index of euro zone blue chips was up almost 2 percent at midday. The FTSE 100 in London up about 1.5 percent, as was the main index in Milan. Futures contracts on the Standard & Poor’s 500 index suggested a firmer opening on Wall Street. 
 
 S.&P.;’s A rating for Italy is still five steps above junk status, but it is three below that given by another agency Moody’s Investors Service, which is currently assessing Italy. 
 
 “Moody’s announcement to extend its review of Italy’s rating by another month last Friday probably gave the market a false sense of relief, especially after persistent speculation of a Moody’s downgrade last week,” said Colin Tan, an analyst at Deutsche Bank. 
 
 He added that although Italy had covered 77 percent of its 2011 debt funding needs, but there was still another €100 billion more to be raised before the end of the year. 
 
 Italy is the euro zone’s third-largest economy behind Germany and France and is considered to be too big to save should it run into the same kind of trouble that beset Greece, Portugal and Ireland. Although its budget deficit is relatively low, the big concern among investors is that Italy, whose debts stand at 120 percent of its gross domestic product, will find it increasingly costly to borrow. 
 
 As a result, the European Central Bank has been helping, buying around €5 billion to €10 billion in the riskier euro-area bonds over the last five weeks. But even that has failed to stop Italian bond yields from rising. 
 
 “The E.C.B. will probably need to do more from here,” Mr. Tan said, referring to its bond buying program. 
 
 Commerzbank said in a research note that the lengthy process of ratifying changes to the European Union’s main bailout vehicle was starting to impair the effectiveness of the central bank’s bond buying program. 
 
 In Athens, meanwhile, talks between Greece and international lenders that began on Monday were due to resume Tuesday night, according to the Greek Finance Ministry. 
 
 Greek officials described talks so far with the so-called troika — the International Monetary Fund, the E.C.B. and the European Commission — as productive, and they said that a deal may be close. 
 
 If there is an accord, the troika would then release the latest tranche of loans — which the country needs by mid-October to avoid running out of cash to pay its bills. 
 
 The Greek press published a list of 15 austerity measures that the troika was said to be demanding of the Socialist government. They included laying off another 20,000 state workers, cutting or freezing state salaries and pensions, increasing heating oil tax, shutting down loss-making state organizations, cutting health spending and speeding up privatizations. 
 
 Governments across Spain also are struggling to rein in spending. Teachers in Madrid began a three-day strike Tuesday to protest against staff cuts and longer classroom hours, news agencies reported. 
 
 Reflecting the country’s strained finances, Spain sold just under €4.5 billion in Treasury bills on Tuesday, but at a higher cost. The average yield on the 12-month bill rose to 3.591 percent, compared with 3.335 percent the last time, the securities were sold on Aug. 16, while the 18-month debt yielded 3.807 percent, compared with 3.592 percent last month. 
 
 Amid the wreckage of a collapsed housing bubble and weak economy, the latest data from the Bank of Spain showed that the ratio of non-performing loans continued to rise in July, reaching 6.9 percent of all loans. Analysts noted that the level was comparable to that of the previous banking crisis in the early to mid-1990s. 
 
 In an interview published Tuesday in the Spanish newspaper Expansion, the E.C.B. president Jean-Claude Trichet said that while Spain’s financial situation has improved considerably, policymakers must remain alert, Reuters reported. 
 
 He also said the outlook for the economy had deteriorated and that there were downside risks to growth. 
 
 “We conclude from these comments that Mr. Trichet is still envisaging that there could be a rate cut in the future, but for now he is keeping his powder dry,” said Julian Callow, chief European economist at Barclays Capital. 
 
 Elisabetta Povoledo contributed reporting from Rome.
– Silvio Berlusconi’s office reacted angrily to Standard & Poor’s downgrade of Italy’s credit rating today, insisting that it had a solid majority in parliament and was taking the necessary steps to solve Italy’s debt crisis, the New York Times reports. “The evaluations of Standard & Poor's seem dictated more by behind the scenes reports in newspapers than reality,” the government said in a statement, “and seems influenced by political considerations.” The move actually didn’t much rattle stocks; the Euro Stoxx 50 index was actually up almost 2% by midday. But the yield on Italian bonds shot up to 5.59%, increasing the beleaguered country’s borrowing costs. “Just when everyone was waiting for Moody’s to downgrade Italy, S&P gets in first with what is a much more damaging downgrade,” one securities analyst tells MarketWatch. Moody’s has extended its review period for the country.