Investors are spooked by worsening Greek turmoil

Against a backdrop of violent protests in Athens, prime minister George Papandreou is attempting to push through a 6.4 billion (£5.6 billion) package of spending cuts to secure bailout funds but faces a vote of confidence in his new government on Sunday.

The premier was reshuffling his cabinet after coalition talks collapsed yesterday. Papandreou has a wafer-thin majority, but a new five-year austerity bill must be passed this month if Greece is to continue receiving funds from its 110 billion international bailout.

Major European bourses fell by more than 1% as Greece's cost of borrowing for two years soared past 30%. Its benchmark 10-year borrowing ballooned to 17.45%, while other nations seen at risk of contagion such as Spain were also hit.

The euro lost ground against the pound despite a poor day for sterling on weak retail sales numbers, and lost nearly a cent against the dollar.

Financial information firm Markit said traders were pricing in a near-80% chance of a Greek default. The International Monetary Fund added to the sense of crisis as it said it was "very concerned" by the political turmoil but is ready to help if the government can win consent for its austerity plan. IMF special adviser Zhu Min said "I am concerned the situation has changed very dramatically in the past 24 hours."

Lloyds Bank Corporate Markets analyst Charlie Diebel said: "The real risk is that this is flagging is the whole "austerity fatigue" story. These people are democracies and if you give them enough stick they just throw you out of power. It raises the risk of the worst-case scenario of a disorderly default bringing contagion across the eurozone."

The conflict between nations like Germany, which have been pushing for private holders of Greek debt to take a hit, and the European Central Bank, which wants banks to voluntarily roll over existing debts, is adding to the uncertainty, analysts added.

Deutsche Bank analyst Jim Reid said: "The ECB, the Germans and the Greek politicians need to reach a compromise or one needs to aggressively back down fairly quickly. We believe the most likely scenario is still an 11th-hour, 59th-minute and 59th-second market-friendly outcome, but the risks are building."