The economic and social mayhem gripping Europe's peripheries appeared to have claimed the scalp of another government after the Greek prime minister admitted he could not drive through reforms to shore up the beleaguered economy, and offered to make way for a government of national unity.

After a day on which tens of thousands marched on parliament to oppose the swingeing austerity measures designed to stave off bankruptcy, George Papandreou effectively conceded that he had not been able to muster enough support in parliament for the swingeing cuts required by international creditors to enable Greece to balance its books.

Emerging from intense negotiations with his conservative opposite number, Antonis Samaras, Papandreou said that his bid to create a unity government of broad acceptance had failed.

Catching even his own cabinet ministers off guard, the US-born leader had offered to step down if his political opponent accepted further cost-cutting measures.

"I will form a new government and seek a vote of confidence," the prime minister said in an address to the nation following the talks.

Earlier in the day Papandreou had told Samaras, head of New Democracy, that he would stand aside for a new leader if the opposition joined his party in a national unity government committed to sweeping reform to prevent Greece's tailspinning economy from crashing.

"We're in deadlock. George can't vote through the new package [of spending cuts and tax increases] and the government is unable to deliver what is necessary for the country," a senior aide to the leader told the Guardian. "A new government has to be formed and a new prime minister found … that may be a technocrat, we still don't know, but it seems that this is the only way of winning consensus for the measures."

Greece's economy is drowning in more than €300bn of debt – more than the country's entire annual output. Unemployment has rocketed to 16.2%, and the economy is predicted to contract by as much as 3% this year, making it Europe's worst performing economy, and one of the worst in the world.

Under a bailout agreed with the EU and IMF a year ago, the country was to implement painful austerity measures, cutting spending deeply and privatising large swaths of the economy. Papandreou's plan provided for €6.5bn in tax rises and spending cuts this year.

Samaras, a Harvard-trained economist, has vehemently opposed the measures, arguing their implementation has thrown Greece into a vicious cycle of spiralling debt and recession – a view with which a growing number of Greeks appear to agree.

"Papandreou has essentially resigned … his own MPS are outraged. After today he can no longer be prime minister," said Alexis Papahelas, a prominent political commentator.

A wave of strikes and riots have shown how deeply unpopular the reforms are, and have reduced Athens to a smouldering mess of shattered windows and shuttered storefronts, furious during daytime riots, derelict and desolate by night.

Earlier on Wednesday, police used teargas on demonstrators rallying outside parliament. At least 11 people were injured and another 20 were detained, according to police, as protesters responded by hurling stones and firebombs.

Cafe tables and chairs lay overturned as rubbish bins burned. Heavy clouds of teargas hung over Syntagma Square and wafted as far as the presidential mansion behind parliament, where Papandreou briefed country's president, Karolos Papoulias, on the severity of the situation.

"We want them out. Obviously these measures are not going to get us out of the crisis," Antony Vatselas, a 28-year-old mechanical engineer crying from teargas, told Reuters.

"They want only us to pay for it. And they are doing nothing. I want the debt to be erased. If this doesn't happen, there is no exit for Greece."

Papandreou has suffered plummeting approval ratings and an open revolt from within his own Pasok socialist party over the austerity bill, which is set to increase taxes and cut spending until 2015, two years beyond the current government's mandate.

Several MPs indicated they would not support his reform plan, threatening his slim majority in parliament, where Pasok has 155 seats in the 300-seat chamber.

The only alternative to financial austerity appears to be a default on Greece's large stack of loans, an outcome that European leaders have been desperate to avoid for fear the contagion would ripple through the international financial system.