Italy's market watchdog on Monday imposed a week-long ban on the short-selling of financial stocks as the Milan index plunged amid fears that if Spain needs a bailout, Italy could be next.
The main stock index, the FTSE-MIB, closed 2.8 percent lower after being down by more than 5 percent in the morning.
European markets have been battered by fears that Spain — which has already sought a bailout for its banks — could need a sovereign bailout as its borrowing rates remain prohibitively high.
A bailout for Spain would stretch Europe's financial resources and put all eyes on Italy, which has the eurozone's third-largest economy and very high public debt. The continent's bailout fund would have no more money to help Italy.
In a short sale, investors sell stock that they do not own, betting that they can buy it back at a lower price. Short-selling of shares has been blamed for driving down markets during the financial crisis and several European regulators have in the past imposed temporary bans on the practice. Italy in February let expire a ban that had been imposed the previous summer.
Premier Mario Monti said the situation for the eurozone was "difficult."
"It is a motive for us to search for solid relations in the real industrial and commercial economy," Monti said during a visit to Russia that included the signing of business deals. He emphasized the strategic importance of Russia for Italy, highlighting €46 billion ($55.68 billion) in annual trade.
Meanwhile, the Italian government's borrowing rates rose on concern that it may eventually need a bailout. The 10-year bond yield rose 0.25 percentage points to 6.32 percent.
Fresh figures from Eurostat showed that Italy's debt to GDP ratio has reached 123 percent, the second highest in Europe after Greece.
Monti has expressed disappointment that investors have continued to demand higher interest rates to lend to Italy even though his government of technocrats has passed big reforms since it came to power last November. Monti says the reforms, which include making the labor market more flexible, will help the economy grow in the medium-term.
As the financial crisis rages on, reports have persisted about the chance of early elections, possibly in the fall. That could happen if Monti's government loses the support of the main political parties.
Monti indicated in an interview with a Russian newspaper that he intends to stay until the current legislative session ends next spring, and that he has no intention of seeking office.
"I place great hope that the political parties will know how to assume the responsibility," Monti told the Rossiyskaya Gazeta.
In Milan, trading in some banks and financial groups — such as banks UniCredit and Intesa Sanpaolo and insurance company Generali — was halted temporarily in the morning because of excessive losses.
After trading resumed, Unicredit shares recovered to close down only 0.2 percent to €2.43 while Intesa shares closed 1.8 percent lower at €0.92.