Investors were heartened last night by news that Greek Prime Minister George Papandreou had managed to stave off a revolt from his fellow Socialist deputies. At the same time, however, cracks in the eurozone’s financial system are continuing to widen.

Papandreou called a last-minute emergency meeting of his Socialist parliamentary group to give dissidents an opportunity to express their grievances before he announced his new government. But Papandreou used the meeting to rally his wavering deputies.

According to the French newspaper Le Monde, Papandreou reminded the Socialist deputies that Greece faced a “dramatic moment”, and called on everyone to work together to overcome the crisis: “The challenge is in front of us, it is an historic time. Either Europe is going to write history, or history will efface the European Union.”

Papandreou received long applause when he stepped up to the podium, and again several times during his speech. In his speech he conceded there had been “errors and failures”, and promised his new government would be more efficient and cohesive.

Already two Socialist deputies have resigned, and another two have defected in protest against the latest austerity package, which entails a massive sell-off of government assets, and big cuts in the government payroll. Investors are worried that if more deputies defect, the Socialist party, which previously controlled 155 seats in Greece’s 300 member parliament, could lack the numbers to get its unpopular austerity plan passed.

Papandreou is expected to seek a vote of confidence in his new government next Tuesday. After that, Greece’s parliament must vote on the latest five-year, €28.4 billion ($US40.3 billion) austerity plan, which was crafted with input from the European Union and the IMF.

If the Greek parliament rejects the package, Papandreou would be forced to call a snap election, and Greece could miss out on the latest instalment of its €110 billion EU-IMF emergency loan, which is due to be paid in July. This could see Greece default on its debt payments.

As the Greek political crisis intensified, the European Union was at pains overnight to assure investors that Greece is on track to receive its latest €12 billion in funding. A more prickly issue, however, is Greece’s new bailout package, which could be as much as €120 billion.

German Chancellor Angela Merkel and French President Nicolas Sarkozy will meet later today in an attempt to settle the rift that’s emerged between the two countries over the new package. Berlin is insisting that private investors — such as banks, insurance companies and pension funds — should bear some of the costs of the new package. They want investors to exchange €30 billion of Greek bonds maturing between 2012 and 2014 with longer-dated bonds.

But the European Central Bank, with the backing of France, is staunchly opposed to this scheme, warning that it could trigger a major financial crisis in the eurozone.

The fear that Greece will eventually default on its debts prompted investors to dump Greek bonds overnight, with yields soaring to fresh euro-era highs. At one point, yields on two-year Greek bonds surged above 30%. But Greece’s financial woes are spreading to other peripheral eurozone countries, with Spain’s borrowing costs now at the highest level in 11 years.

*This article was originally published at Business Spectator