* Euro hits four-month lows vs dollar, govt bonds rally * Italy's five-year debt cost highest since Oct 2012 By Wanfeng Zhou NEW YORK, March 27 (Reuters) - Major stock markets fell and the euro slumped to a four-month low against the dollar on Wednesday, hit by a disappointing Italian bond auction and concern about the possibility of a wider impact the Cyprus bailout may have on the euro zone. Bleak euro zone economic data added to a sour tone in markets, driving demand for safe haven assets. U.S. Treasuries debt prices jumped, with benchmark yields falling to their lowest levels in three weeks and German bunds gained. Gold rose above $1,600 an ounce. Italy, at a debt auction on Wednesday, paid more to borrow over five years than it has since October as lack of progress in forming a new government and worries about Cyprus's bailout hurt demand. Cyprus is finalising capital control measures to prevent a run on banks by depositors after the country agreed a bailout deal that will wipe out some senior bank bondholders and impose losses on large depositors. The worry among investors is that despite attempts by some officials to dismiss the idea, the plan could become a blueprint for any future euro zone bailout. "The overhang of the Cypriot bailout, and especially its implications for euro zone-wide banking depositors, along with a dip in confidence and lacklustre Italian debt auctions, have upset the apple cart for U.S. investors determined to assault record stock market highs," said Andrew Wilkinson, chief economic strategist at Miller Tabak + Co, LLC in New York. MSCI's index of world shares, which tracks 6000 stocks in 45 countries, fell 0.4 percent to 357.98 points. European shares dropped 0.5 percent to 1,182.81 points. U.S. stocks fell after a robust rally a day earlier sent the Dow Industrials to another record close and the S&P 500 to within striking distance of an all-time closing high. The Dow Jones industrial average dropped 56.18 points, or 0.39 percent, to 14,503.47. The Standard & Poor's 500 Index fell 5.91 points, or 0.38 percent, to 1,557.86. The Nasdaq Composite Index lost 10.04 points, or 0.31 percent, to 3,242.45. Benchmark U.S. 10-year Treasury notes were up 19/32 in price to yield 1.8454 percent. The euro fell as low as $1.2750, the weakest since Nov. 21, and last traded at $1.2772, down 0.7 percent on the day. "Rising Italian borrowing costs and its political situation are both negatives," said Greg Anderson, G10 strategist at Citigroup in New York. "Investors are not overly short the euro, so there is plenty of scope for the euro to test the lows of the past cycle." Data on Wednesday showed confidence in the euro zone's economy fell more than expected in March after four straight months of gains. Other reports showed an ongoing slump in Italian manufacturing and retail sales and contraction in France's economy at the end of last year. The dollar slipped 0.2 percent to 94.26 yen, while the dollar index, which tracks the greenback versus a basket of major currencies, rose to a more than seven-month high of 83.302 . German government Bund futures, an asset that investors value in times of increased tension, rose 75 ticks, their biggest jump since inconclusive Italian elections last month rattled markets. Gold rebounded from early losses, with spot gold up 0.2 percent at $1,602 an ounce, as investors piled money into safe-haven investments. Brent crude slipped 17 cents to $109.19 a barrel and U.S. oil fell 65 cents to $95.69 in choppy trade after the Energy Information Administration said crude stocks rose but refined product stocks fell in the United States last week, by more than analysts had expected. Worries over the debt crisis in Cyprus pushed the euro lower, eroding the attractiveness of commodities priced in the U.S. currency.