Cyprus moved closer to becoming the fourth eurozone country to need a bail-out after Moody’s downgraded its bonds to just two notches above junk, arguing that political turmoil on the island and its exposure to Greek debt raised questions about its ability to service its own debt.

Senior European officials insisted there were no special talks underway with Nicosia and said they did not believe a bail-out was imminent.

“It is not on my immediate radar screen,” François Baroin, France’s finance minister, told the Financial Times on Wednesday.

But the Cypriot banks’ Greek debt exposure has raised concerns, particularly after last week’s eurozone deal, which will lead to defaults of some Greek bonds.

The country also faces political turmoil, with President Demetris Christofias calling for the resignations of all members of his cabinet at a meeting scheduled for Thursday.

A munitions dump explosion near the country’s largest power plant two weeks ago killed 13 and led to rolling blackouts across the island. The economic impact of the accident could be substantial. Moody’s said it now believed there would be no growth in 2011; the Cypriot government had projected 1.5 per cent.

The accident has led accusations and ministerial resignations over what the government knew about the risks to the power plant. The upheaval has stalled an austerity package that European Union officials believed was essential to restoring the country’s fiscal health.

Cypriot banks are among the eurozone’s largest holders of Greek bonds. According to the European Banking Authority, Bank of Cyprus holds €2.4bn in Greek debt and Marfin Popular Bank holds €3.4bn.

Yields on Cyprus’ 10-year bonds maturing in 2014 jumped 0.85 percentage points to 10.18 per cent, well above the borrowing rates that forced countries like Ireland and Portugal into bail-outs.

“We are monitoring the situation of the banking sector in Cyprus closely and are in contact with the authorities,” said one senior European official.

Standard and Poor’s cut its rating on Greek sovereign debt from triple C to double C, the same level as Moody’s, in anticipation of a selective default on some Greek bonds.

Additional reporting by Richard Milne and Ben Hall in London

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