by Eric J. Lyman

ROME, May 12 (Xinhua) -- Political leaders and investors across Europe are watching nervously as Italy inches towards the first founding member of the European Union (EU) to be led by a populist, Euro-skeptical government.

Italy's political process has been deadlocked since the March 4 general elections, where four parties combined to earn nearly 83 percent of the votes cast, but none of them approached the 50-percent threshold required to form a government.

Two of the parties, the anti-establishment Five-Star Movement and the federalist Northern League, have been in intense negotiations and could unveil an agreement for a new government as soon as Monday.

"Significant steps have been made regarding the composition of the new government and the nomination of a prime minister," Five-Star Movement head Luigi Di Maio and The League's Matteo Salvini said in a joint statement this week.

Both parties are skeptical about the euro currency, centralized decision-making, European Union fiscal rules, and the bloc's policies on refugees.

As the likelihood of a government led jointly by the two parties is increasing, market jitters are on the rise.

The yield on benchmark 10-year Italian government bonds rose to a three-month high on Thursday, nearly crossing the 2-percent barrier for the first time since March. Bond yields are a reflection of investors' confidence in a country.

Additionally, the Italian stock exchange fell by 300 points on Wednesday and Thursday before recovering slightly on Friday. The euro currency even lost ground against the U.S. dollar and other major currencies over the second half of the week.

"The European Union is facing a lot of big problems, ranging from Brexit to migrants, and from economic growth to the Middle East," Gian Franco Gallo, a political affairs analyst with Milan's ABS Securities, told Xinhua. "All of those issues become much more complex with a populist government sitting in Rome."

Media reports have said leaders in other European capitals are following the developments in Italy closely.

Gallo speculated that rules limiting deficit spending could prove to be an early topic for negotiations, as the Five-Star Movement and the Northern League have both promised more spending for young Italians and lower taxes across the board. Italy has had already the second highest level of government debt in Europe in per-capita terms.

Italy could be the first of the six founding members of the EU to be led by a populist government. With that likelihood increasing, Italian President Sergio Mattarella warned this week that Europe was in dire need to reform.

"The European project has lost its ability to meet the expectations of large portions of its population," Mattarella said.

If a deal is made, it is unlikely that either Di Maio or Salvini would allow the other to become prime minister. The parties would most likely agree to a compromise candidate, where the names being mentioned include lawyer and Northern League Senator Giulia Bongiorno, who, if selected, would become Italy's first female head of government.