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Italy's New Government Passes First Market Test

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Italy's ten-year borrowing costs fell on Monday to the lowest point since October 2010 after the country's new prime minister named his cabinet over the weekend, ending two months of political deadlock in Italy.

Italy's new economy minister is presenting his economic plan to parliament on Monday, with Europe's financial markets looking on carefully to see if the country's political and economic reforms – on hold as Italy struggled to form a government - will be put back on track.

According to Reuters, Fabrizio Saccomanni, the coalition government's new economy minister, has already announced he will halt the scheduled June installment of a hated property tax, and is considering reforming it further.

(Read More: Italy's New Leader Throws Down Gauntlet on Austerity)

Saccomanni, who is currently deputy governor of Italy's central bank, told the Italian newspaper La Repubblica on Sunday that he wanted to "restructure the state budget" to support companies and low-earners, while cutting some unproductive public spending to create resources needed to reduce taxes.

He said it was important to instill confidence in Italy's economy and proposed to do this by creating a "pact" with banks, consumers and businesses to boost lending, consumption and investments. He did not provide any more details on what such a "pact" could entail.

Saccomanni said that Italy's borrowing costs, which have remained stable despite two months of political deadlock, could plummet. The interest rate differential between Italian 10-year bonds and the German benchmark could fall to 1 percentage point or less from the current 3 points, he said.

Saccomanni's optimism was tested on Monday as the Italian Treasury sold 3 billion euros ($3.9 billion) of ten-year bonds on Monday morning, at 3.94 percent. That compared with a yield of 4.66 percent it paid at a similar auction one month ago.

John Wraith, fixed income strategist of BofA Merrill Lynch Global Research, told CNBC that it was unlikely that Saccomanni could lower Italy's borrowing costs by as much as he hoped.

"I think that's stretching it a little bit. We've seen spreads come in an awfully long way in the last nine months or so, they could certainly go a little further still. There is some degree of optimism that Italy has managed to get through some of their political issues but we think we're starting to run out of road now for some of these peripheral spreads," Wraith told CNBC Europe's "Squawk Box" on Monday.

A senior official from Moody's credit rating agency told an Italian newspaper on Monday that it was not yet possible to exclude the possibility that Italy will have to ask for financial aid from the European Central Bank (ECB) and ESM (the European Stability Mechanism) in the future.

The official said that Moody's would verify the Italian government's ability to pursue reforms and the situation remains difficult. Moody's gave the country a Baa2 rating last July on a negative watch.

(Read More: Italy's President Invites Letta to Form Government)

Saccomanni is expected to announce an economic plan and growth agenda on Monday, after a cabinet headed by Prime Minister Enrico Letta was sworn in on Sunday. Letta is heading a coalition government of politicians and technocrats from both the left and right.

During the ceremony, an unemployed man shot two police officers outside his office. When arrested, the man said he had wanted to attack politicians rather than the officers.

The government now has to win to confidence votes in parliament on Monday and is expected to do so, ending two months of political deadlock. The apparent political stability has translated into a bounce for Italian market confidence as the Italian FTSE MIB stock index is expected to open up 179 points at 16,744.

On analyst told CNBC that the composition of the government was not surprising and said that the head of the center-right bloc, Silvio Berlusconi, whose party deputy Angelino Alfano has become deputy prime minister, could try to usurp the fragile coalition.

(Read More: Hollow Victory for Italy as More Turmoil Looms)

"The composition [of the government] is pretty much what we were expecting. We always knew there would be a technocrat at the economy ministry - that was never not going to happen. A senior Berlusconi figure was always going to be deputy prime minister and interior minister [as well]. There are no great surprises here," David Lea, a senior European analyst at consultancy ControlRisks, told CNBC.

"I'm pretty sure there will be a snap election at some point. If you asked me whether this government would last until the end of 2014 I'd say probably not. In fact I'd bet slightly earlier than that."

-By CNBC's Holly Ellyatt. follow her on Twitter @HollyEllyatt

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