European stock markets have fallen, with the inconclusive election result in Italy raising fears that political deadlock will delay economic reforms.

Italy's FTSE MIB index fell 4.9%, while London's FTSE 100 shed 1.3% and share markets in Frankfurt and Paris fell well over 2% each.

The yield on Italian government bonds also rose sharply, implying markets are more wary of lending to Italy.

However, shares in New York rebounded on surprise strong US economic data.

The Dow Jones ended the day up 116 points (0.8%) at 13,900, having fallen 1.5% on Monday in reaction to the election results.

Oil prices also dropped, hit by worries that uncertainty in the eurozone could hit demand, with Brent crude falling almost two dollars to $112.7 a barrel.

With all domestic votes counted in Italy's parliamentary election, the centre-left bloc won the lower house by a tiny margin, but did not secure a majority in the Senate.

Fears are that a split parliament will make it harder for one group to push through their plans to revive the economy, and that may stall Italy's process of cutting its public debt levels.

However, one of the big three ratings agencies, Standard & Poor's, said that Italy's credit rating was not immediately at risk.

S&P rates Italy BBB+, perilously close to the cross-over point into the high-risk "junk" credit ratings, which many large institutional investors are restricted from buying.

'Jump to nowhere'

The stark warning from Italy is that the voters are getting angrier and hungrier Annalisa Piras, Italian journalist and documentary maker Reaction: Euro crisis fears return

Banks were the biggest fallers on the stock markets, with shares in major banks across Europe down more than 4%. Italian banks fell 6%-9%.

Italy's short-term borrowing costs rose at an auction of six-month bonds, which were sold at a gross yield of 1.24%, up from 0.73% at a similar auction a month ago.

The yield on Italian 10-year government bonds - which provides an indication of the yearly interest rate Rome would have to pay to borrow new money - rose to 4.89% from 4.48%.

In contrast, the yield on German 10-year bonds, considered the safest in the eurozone, fell to 1.45% from 1.55%, meaning that the gap or "spread" in borrowing costs between the two countries rose half a percentage point to 3.44%.

The UK - also seen as a safe haven - saw its 10-year bond yield fall from 2.08% to 1.97%, back below the 2% level for the first time since the New Year.

Former Prime Minister Silvio Berlusconi, who has conceded the lower house to Pier Luigi Bersani's centre-left bloc, played down the significance of the spread, and said he was not worried about market reaction to the vote.

But Spanish Foreign Minister Jose Manuel Garcia-Margallo said there was "extreme concern" over possible movements in bond spreads as a reaction to the results.

"This is a jump to nowhere that does not bode well either for Italy or for Europe," he said.

Spain also saw its bond yields rise moderately.

'Chilling message'

European Commission spokesman Olivier Bailly said: "Markets are free to react the way they want.

Media playback is unsupported on your device Media caption IG's Brenda Kelly: "Election results a face-off against Brussels and Berlin."

"As far as the Commission is concerned, we would like to underline our full confidence in the Italian authorities in their capacity to find and establish a political majority that will continue to deliver a growth and jobs agenda, which is what Italy needs to reduce the unsustainable level of its debt."

Italy's public debt stood at 127% of GDP in 2012 and is expected to rise to 128% in 2013 - the second highest level in Europe after Greece.

Giuseppe Fontana, professor of monetary economics at Leeds University Business School, said Italian voters had sent a "chilling message" to the markets and policymakers.

"It is not difficult to speculate that this morning markets and policymakers are asking the big question - what is the future of the euro area?" he told the BBC.

Analysis Political deadlock in the Rome Senate, consternation in European capitals. The conflicting and confused messages just sent by voters in eurozone's third largest economy seem set to trigger more than the initial plunge on the Milan stock market and an overnight hike in bond yields. It was after all only the reformist policies being pursued by Mario Monti's outgoing technocratic government which were standing between Rome and unaffordable borrowing costs. The Monti reforms were also underpinning the European Central Bank's fragile grip on monetary stability throughout the currency area. Yet now the voters have rejected those very policies, the ECB may be forced to ride to Italy's rescue. The reality is that a weak centre-left government in Italy will find it even harder to enact the kind of reforms that stand any chance of improving productivity and competitiveness, or lifting Italy out of its seemingly endless recession. The outcome of Italy's election is a strong signal that the euro debt crisis is far from over. For some, the only possible silver lining is that this latest popular backlash against Brussels-imposed austerity may force Germany and other EU partners to reconsider the pace of reforms. Italy declares anti-austerity voice

"Italy is the third largest economy in the eurozone area and there is a question about is this a way, a democratic way, to tell markets and policy makers to change course about austerity measures and start to stimulate again the economy?"

Georg Grodzki, head of credit research at Legal & General Investment Management, said the Italian result would leave markets guessing for a while.

"Uncertainty is not good for confidence. It's not bad enough for an immediate abrupt sell-off but it could well build over the next few months into some crisis," he said.

Civil unrest 'likely'

With political instability likely to continue at least in the near term, Angus Campbell from Capital Spreads said: "The uncertainty that this causes is enough to make anyone nervous and we are likely to see an interim administration for a number of months before fresh elections, unless a working coalition can be formed."

For more than a year Italy was led by technocrat Mario Monti, appointed after Mr Berlusconi's resignation in November 2011 amid an acute debt crisis.

He was tasked with reforming the economy, and introduced unpopular economic austerity measures, implementing spending cuts and tax rises.

Mr Monti resigned in December after Mr Berlusconi's conservative party withdrew its support from his government. Although he ran in the latest election, his bloc won only 10% of the vote, with the majority of voters rejecting austerity.

This vote was a rejection of the austerity being pursued by Brussels to save the single currency

Ishaq Siddiqi, market strategist at ETX Capital, warned of future turmoil in Italy.

"What is more worrying for investors is that the political deadlock in Italy would suggest that even if we do see a market-friendly scenario materialise with a reform-minded government taking control, the fact that Berlusconi managed to gain such an influence with his anti-austerity campaign means that we are likely to see a rise in civil unrest in Italy."

German Foreign Minister Guido Westerwelle urged Italy to continue its policy of structural reforms: "The politicians in Rome know that Italy still needs a policy of reform, a policy of [budgetary] consolidation."