ROME/ATHENS Italy's parliament on Friday began rushing through austerity measures demanded by the European Union to avert a euro zone meltdown and Washington ratcheted up pressure for more dramatic action from the currency bloc.
The Italian Senate approved a new budget law, clearing the way for approval of the package in the lower house on Saturday and the formation of an emergency government to replace that of Prime Minister Silvio Berlusconi.
In Athens, former European Central Bank policymaker Lucas Papademos was sworn in as Greek prime minister after days of political wrangling, tasked with meeting the terms of a bailout plan to avert bankruptcy.
After President Barack Obama spoke with German Chancellor Angela Merkel and France's Nicolas Sarkozy late on Thursday and called Italian President Giorgio Napolitano, U.S. Treasury Secretary Timothy Geithner demanded fast action from Europe.
"The crisis in Europe remains the central challenge to global growth. It is crucial that Europe move quickly to put in place a strong plan to restore financial stability," Geithner said in a statement.
After months of dither and delay, Rome appears to have got the message as bond markets pushed it to the brink of needing a bailout that the euro zone cannot afford to give.
If the votes pass smoothly, Napolitano will accept Berlusconi's resignation over the weekend and ask veteran former European commissioner Mario Monti, a technocrat like Papademos, to form a government.
Berlusconi has promised to resign after the financial stability law is passed by both houses of parliament. He is no longer insisting on early elections and markets were calmed by the prospect of an interim government, rather than a three-month vacuum before a elections are held.
Sarkozy told Napolitano by phone he believed a government able to solve the crisis could be formed soon.
"The most important element to overcome this crisis is a very trusted and able new Italian government that can really fulfill the structural changes that are needed," ECB policymaker Ewald Nowotny told Reuters in Beijing.
The euro made its strongest gains against the dollar in two weeks and Italian bond yields, which had raced above sustainable levels this week, fell in relief at the prospect of a new government.
European shares also rose, with Italian banks like Intesa Sanpaolo rallying.
But some investors doubted the recovery would last, as even a technocrat government might struggle for progress on fiscal reforms Italy has long promised but never delivered.
"We can have maybe two or three days of calm -- in inverted commas -- but nothing has really changed underneath," one bond trader said.
Spain, the euro zone's fourth largest economy and due to hold elections in nine days, stopped growing in the third quarter, putting its deficit-reduction goals in doubt.
With European leaders dithering over how to tackle the deepening crisis, pressure has mounted on the European Central Bank to act more forcefully by becoming a full lender of last resort like the U.S. Federal Reserve and the Bank of England.
"There is real turbulence in the markets, real question marks over whether countries can deal with their debts and a big question mark over the future of the euro zone," British Prime Minister David Cameron said.
Prime Minister Vladimir Putin expressed doubts that Europe had the firepower to avoid the "catastrophe" of an Italian collapse and said Russian experts "believe that without direct intervention from the ECB this problem cannot be solved."
On the same day that the head of the 440 billion-euro European Financial Stability Facility (EFSF) was quoted saying market turmoil had made it more difficult to boost the bailout fund, Putin said the Europe Union -- which accounts for half his country's trade -- badly needed more emergency funding.
"The EFSF, alone or cooperating with the IMF, does not have the necessary resources. I believe that the resources needed to overcome the crisis are about 1.5 trillion euros," said Putin.
MORE ZEROS WON'T HELP
EFSF chief Klaus Regling told the Financial Times it would now be a challenge to boost the fund to 1 trillion euros as euro zone leaders proposed in a late-October summit, hoping to lure bond investors by offering to insure any eventual losses.
"The political turmoil that we saw in the last 10 days probably reduces the potential for leverage," said Regling.
But ECB policymaker Juergen Stark from Germany reiterated his view that it is up to politicians and not central bankers to solve the problems in the euro zone.
"I personally doubt very much that adding two or three zeros to the bailout volume can solve the structural and political problems," Stark, who opposes the ECB's strategy of buying the bonds of problem states like Greece to prop them up and will quit the bank early this year, told a Swiss paper.
Senior ECB policymakers have rebuffed arm-twisting from investors and world leaders to intervene massively on bond markets to shield Italy and Spain from financial contagion.
Germany, Europe's biggest economy, strongly opposes the ECB taking on a broader crisis-fighting role, arguing that this would compromise the central bank's independence.
In Athens, Papademos, a former ECB vice president, faces major challenges at the helm of a unity government forged after a chaotic power struggle between the two main political forces.
"With the unity of all people, we will succeed," Greece's new technocrat premier told George Papandreou, who led the previous Socialist administration that fell apart last week.
Papademos has about 100 days to start fulfilling the terms of a 130 billion euro bailout plan to keep Greece solvent while placating warring political factions.
Socialist party big-hitter Evangelos Venizelos will remain finance minister in a new cabinet that includes many of the same politicians who led the nation into crisis.
Automotive giant Daimler, a leading German exporter, spoke out against keeping Greece in the euro zone at all costs and said the euro could survive without it.
"I wouldn't consider one link splitting off from the rest as a 'break-up' of the euro zone," Chief Executive Dieter Zetsche told Reuters in an interview.
(Additional reporting by James Mackenzie in Rome, Renee Maltezou in Athens, Nick Edwards in Beijing, Ana Nicolai da Costa and Francesco Canepa in London and Gleb Bryanski in Russia; Writing by Mike Peacock and Stephen Brown; Editing by Angus MacSwan)