The agency downgraded Italy to A2 from Aa2, less rating than it holds on Estonia and on the par with Malta and kept a negative outlook about the rating.
The euro pared gains against the dollar and Japanese yen rigtht after the announcement which comes after Moody's rival Regular and Poor's cut its rating on Italy through one notch to A/A-1 on September 19.
The cuts underline growing investor concern concerning the euro zone's third largest economy, which is now firmly at the middle of the debt crisis and dependent on help in the European Central Bank to keep its borrowing costs in check.
"The negative outlook reflects ongoing economic and financial risks in Italy and within the euro area, " Moody's said in a declaration.
"The uncertain market environment and the risk associated with further deterioration in investor sentiment could constrain the country's use of the public debt markets, " it said.
It added that Italy's rating could "transition to substantially lower rating levels" if there have been long term uncertainty over the availability of external causes of liquidity support.
Italy's mix of chronically low development, a public debt mountain amounting to 120 percent of gross domestic product and a struggling federal government coalition has caused mounting alarm in financial marketplaces.
Moody's decision came as little surprise after the agency said on September 17 it would finish a review for possible downgrade of its rating on Italy inside a month.
But it highlights the growing vulnerability from the euro zone, which is already struggling to retain the crisis in the far smaller Greek economy and which may be overwhelmed by a crisis of a comparable scale in Italy.
"It's not that unexpected however it doesn't help the situation at all, " stated Robbert Van Batenburg, Head of Equity Research at Louis Capital in Ny.
"They have already traded as if there was somewhat of the downgrade in the works, so it will probably force Italian policymakers to attempt more austerity programs. It will put another fiscal strait-jacket in it. "
Moody's said the likelihood of a default by Italy was "remote" however it said the overall shift in sentiment on the euro area funding market implied a larger vulnerability to a loss of market access from affordable rates.
Italy's relatively modest budget deficit, conservative economic climate and high level of private savings had kept it about the sidelines of the euro zone crisis while nations like Greece and Ireland were sucked down.
"Italy has been punished not because its finances suddenly deteriorated, but because investors have grown to be more sensitive to its long-standing weaknesses, " stated Nicholas Spiro, managing director of Spiro Sovereign Technique in London.
He said markets appeared to be concentrating on the weakened center-right government's lack of progress within stimulating the stagnant economy, which many analysts be prepared to stall or even slip into recession next 12 months.
"The bond markets are more concerned about Italy's capability to grow than its commitment to reducing a fiscal deficit that is already among the smallest in the euro zone, " he stated.
Prime Minister Silvio Berlusconi shrugged off the downgrade instantly, saying the Moody's announcement had been expected and also the government was committed to its public finance focus on, which sees the budget being balanced by 2013.
Source : India Times