European stocks have fallen sharply in early trading after George Papandreou, the Greek prime minister, called for a national referendum on a eurozone-backed rescue package for his country's debt-crippled economy.

In Frankfurt, Germany's Dax benchmark financial index was down 3.5 per cent early on Tuesday while Paris' CAC dropped 3.4 per cent and London's FTSE opened 2.2 per cent lower.

Asian markets also suffered losses with the Nikkei in Tokyo closing down 1.7 per cent and the Hang Seng in Hong Kong ending the day down 2.5 per cent.

French banks, which are considered to be particularly exposed to any Greek default, suffered the steepest falls with Societe Generale 10 per cent, BNP Paribas 8.9 per cent, UniCredit down 8.1 per cent and Credit Agricole down 10 per cent.

Papandreou's call for a referendum raised the prospect that Greeks, a majority of whom oppose crippling austerity cuts which have been a precondition for international bailout funds according to polls, will derail the rescue efforts agreed by European leaders last week that would provide a $140bn loan to Athens and write off half of the country's debt.

There is concern that the referendum would be unlikely to take place before January, creating months of uncertainty for the markets.

"We trust citizens, we believe in their judgement, we believe in their decision," Papandreou, told ruling Socialist politicians on Monday.

Papandreou's announcement isn't fully endorsed by all members of his party. On Tuesday the majority of his Socialist parliamentary grouphas now fallen to two as Milena Apostolaki quit the PASOK group because of the referendum.

'Supreme act of democracy'

"This is a supreme act of democracy and of patriotism for the people to make their own decision," he continued. "We have a duty to promote the role and the responsibility of the citizen."

The announcement has taken other European leaders by surprise, ahead of the G-20 summit in Cannes, France, later this week.

French newspaper Le Monde reported that French President Nicolas Sarkozy was "appalled" by Papandreou’s decision, which comes after Sarkozy had thought he had played a leading role in finding a resolution to the crisis last week.

"This move by the Greeks is irrational and, from their point of view, dangerous," a source close to Sarkozy was quoted as saying.

In Germany, a member of Angela Merkel’s centre-right coalition said the news of the referendum gave the impression that Greece was trying to backtrack on its deal with EU leaders.

"I was irritated (by the news)," Rainer Bruederle, the parliamentary floor leader for the Free Democrats Party (FDP), told Deutschlandfunk radio. "This sounds to me like someone is trying to wriggle out of what was agreed -- a strange thing to do."

"Mr. Papandreou is dangerous, he tosses Greece's EU membership like a coin in the air."

- Yannis Michelakis, New Democracy party spokesman

"The prime minister had (agreed) to a rescue package that benefited his country. Other countries are making considerable sacrifices for decades of mismanagement and poor leadership in Greece -- wrong decisions were made and the country manoeuvred itself into this crisis.”

Jan Randolph from the London based IHS Global Insight told Al Jazeera "markets don't like uncertainty, and if Greece votes no, it means they'll leave the eurozone."

'Coin in the air'
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Papandreou also came in for criticism from domestic political opponents.

"Mr. Papandreou is dangerous, he tosses Greece's EU membership like a coin in the air," said Yannis Michelakis, a spokesman for the main conservative opposition New Democracy party.

"He cannot govern and instead of withdrawing honourably, he dynamites everything," he added.

Papandreou on Monday also announced plans to seek a vote of confidence in parliament.

His government has seen its majority reduced to just three seats and its approval ratings plummet amid harsh austerity measures that have fuelled national proteststs and are likely to send the country into a fourth year of recession in 2012.

'Make-or-break moment'

John Psaropoulos, a journalist in Athens, told Al Jazeera that Papandreou's government was seeking new ways to legitimise itself following months in which it had faced public scorn over austerity measures.

"I think Papandreou has decided that this is his make-or-break moment and he doesn't want to stay in power any longer if he's going to be questioned," said Psaropoulos.

Nearly 60 per cent of Greeks view Thursday's EU summit agreement on a new euro bailout package as negative, or probably negative, a survey showed on Saturday.

Some parliamentarians even questioned the referendum's legality under the constitution, which does not allow referendums on economic issues but only matters of great national importance.

The last time Greeks held a referendum was in December 1974, when they voted to abolish the monarchy shortly after the collapse of a military dictatorship