ECB row, Italy flare on eve of euro rescue summit

A flare-up over the European Central Bank and political turmoil in Italy kept the euro zone on edge on Tuesday on the eve of a summit meant to confront the currency bloc's worsening sovereign debt crisis.

Just 24 hours before European leaders are due to adopt a plan to reduce Greece's debt burden, fortify European banks to withstand bond losses, and scale up the euro zone rescue fund to prevent market contagion, disputes raged in Rome and Berlin.

There was no sign of a deal in negotiations to reduce Greece's debt to private sector bondholders, and uncertainties remained over the size of a planned bank recapitalization and the scope for leveraging the rescue fund.

As a result, few figures may emerge from Wednesday's closely watched summit, expected to run late into the night.

Chancellor Angela Merkel, fighting to secure parliamentary backing for euro zone rescue measures, said Germany opposed a phrase in the draft summit conclusions urging the ECB to go on buying troubled states' bonds.

The draft supports a continuation of "non-standard measures in the current exceptional financial market environment."

"This sentence is not agreed with us," Merkel told reporters, adding that Germany -- a country wedded to central bank independence -- did not want a declaration from politicians telling the ECB what to do.

An opposition lawmaker said the German parliament would try to point the ECB in the opposite direction, expressing the expectation in a joint motion on Wednesday that the ECB would stop its bond purchases on the secondary market.

Test votes in her center-right coalition showed Merkel was likely to win a narrow majority of her own supporters, but 16 dissidents would either abstain or vote against the motion.

The euro and European stocks slipped and safe-haven German bonds rose after Merkel's comments since continued ECB support is widely seen as crucial to stabilizing the markets.

In Rome, Prime Minister Silvio Berlusconi's center-right coalition was split after the cabinet failed to agree on Monday on raising the retirement age, a key economic reform demanded by Italy's EU partners as a condition for supporting its bonds.

Berlusconi, mired in scandals and fading in approval ratings, responded truculently to public pressure from French President Nicolas Sarkozy and Merkel at an EU meeting on Sunday, saying that no one could teach Italy lessons.

The European Commission said the aim was not to humiliate Italy, but to ensure that a member state meets its commitments on budget discipline and economic coordination.

"It's not about challenging sovereignty, it's not about lecturing, it's not about humiliating," said the Commission spokesman on economic issues, Amadeu Altafaj.

Berlusconi's Northern League coalition partners oppose raising the retirement age to 67 from 65, and their leader Umberto Bossi told reporters the government could fall over the EU reform demands. there was growing talk of early elections next spring.

As the coalition parties held separate meetings, President Giorgio Napolitano said in a statement Italy must do everything to reduce the risk to government bonds by making its commitment to cut public debt more credible and boosting growth.