Gold medallist Luca Ferretti (2nd L) of Italy is flanked by his compatriots silver medallist Simone Ercoli (L) and bronze medallist Simone Ruffini as well as joint bronze medallist Spyridon Gianniotis (R) of Greece as the flag of Italy is raised during the medal ceremony of the men's 5 km open water race at the European Swimming Championships in Lake Balaton in Balatonfured August 5, 2010. REUTERS/Wolfgang Rattay (HUNGARY - Tags: SPORT SWIMMING)

The long-term cost of borrowing for Italy rose sharply on Friday after Moody's slashed the country's debt rating by two notches just hours before the government seeks to raise fresh funds.

In early deals, the Italian benchmark 10-year government bond was at 6.013 percent, back above the key 6.0 percent and up from 5.897 percent on Thursday.

The government, in the eurozone debt crisis firing line, plans to raise some 5.25 billion euros ($6.4 billion) in medium- and long-term debt later Thursday in what is being seen as another test of market confidence.

Any yield Ä the rate of return earned by investors - above 6.0 percent on long-term bonds is widely considered unsustainable and the markets had eased earlier this week following a eurozone accord on help for Spain's banks.

That accord took some of the pressure off Italy, seen as the next eurozone state most at risk in the debt crisis, but Moody's rating action has put Rome once more back at the centre of the market turmoil.

Moody's cuit Italy's rating overnight by two notches, citing the knock-on effects of a possible Greek exit from the eurozone and Spain's banking woes.

In reducing the rating to Baa2 from A3, Moody's said Italy was now “more likely to experience a further sharp increase in its funding costs or the loss of market access” for borrowing.

The move left Italy's rating just two notches above junk-bond status.

On Thursday, Italy raised 7.5 billion euros in one-year bonds at a sharply lower rate than previously, indicating improved investor confidence after the eurozone deal to help Spain earlier in the week.

“The risk of a Greek exit from the euro has risen, the Spanish banking system will experience greater credit losses than anticipated and Spain's own funding challenges are greater than previously recognized,” Moody's said.

“Italy's near-term economic outlook has deteriorated, as manifest in both weaker growth and higher unemployment, which creates risk of failure to meet fiscal consolidation targets.

“Failure to meet fiscal targets in turn could weaken market confidence further, raising the risk of a sudden stop in market funding,” it said. - Sapa-AFP