Leaders from the 17 countries sharing the euro sealed a dramatic deal Friday to direct emergency measures at crisis-hit Italy and Spain and boost the embattled economy, sending markets sharply upwards.

Italian Prime Minister Mario Monti (C) leaves after an overnight eurozone meeting on the sidelines of the European Union leaders summit in Brussels on June 29.

European markets shot skywards, Milan and Madrid in particular gaining more than three points at the open. The interest rates which Spain and Italy must pay to borrow fell sharply.

Early reaction from Asian markets too was positive, with the Tokyo stock market closing up by 1.50 percent and oil prices and the euro surging higher.

European Commission President Jose Manuel Barroso welcomed a "very ambitious decision that shows once again the commitment of the member states ... to the irreversibility of the euro and I think this will be recognised by all."

The accord paves the way for the eurozone's 500-billion-euro ($630 billion) bailout fund to recapitalise ailing banks directly, without passing through national budgets and adding to struggling countries' debt mountains.

This however, would occur only after a Europe-wide banking supervisory body is set up, with leaders aiming for this to happen at the end of the year.

Another key measure agreed was that eurozone bailout funds would be used "in a flexible and efficient manner in order to stabilise markets" -- a reference to buying countries' bonds to drive down high borrowing costs that in recent weeks have crippled Spain and Italy.

"We took a good decision on growth," said German Chancellor Angela Merkel as she left the meeting.

Merkel appeared to have dropped her insistence on recapitalisation funds to banks being channelled through governments but kept her demand that any such aid be combined with demands for reform of the financial sector.

EU leaders also agreed a package of measures worth some 120 billion euros they hope will bolster growth in the recession-hit bloc.

They pledged to boost the capital of the European Investment Bank by 10 billion euros in order to increase its overall lending capacity by 60 billion and help vulnerable countries "grow themselves out of the crisis."

Another 55 billion euros is to be scraped together from unused EU funds and earmarked for small- and medium-sized enterprises and youth employment schemes, the EU chief said.

But in a shock midnight about-turn, Italian Prime Minister Mario Monti and his Spanish counterpart Mariano Rajoy threatened to block a wider "growth pact" unless they won concessions on short-term moves to drag their economies from the mire.

This prompted one European diplomat to fume that Madrid and Rome were "holding the pact hostage."

However, the head of the eurogroup finance ministers, Luxembourg Prime Minister Jean-Claude Juncker, subsequently said that Italy and Spain then dropped their resistance in return for short-term measures to stabilise their economies.

A beaming Monti told reporters afterwards: "Everything is very important for the future of the EU and the eurozone. Italy is doubly satisfied."

He acknowledged there were "some tensions" in what sources said were at times volatile talks. Monti added that he had to "put quite a bit of pressure" on other leaders to force through his wishes.

The summit, which continues later on Friday, was being scrutinised both by jittery financial markets and world leaders, as the eurozone battles to solve a two and a half year debt crisis endangering the global economy.

The euro jumped 1.2 percent to $1.2594 in afternoon Asian trade on news of a deal.

"Because the expectations were so low to start with, people really weren't expecting anything to come out of it and we've got some positive development," said Justin Harper, an oil market strategist for IG Markets Singapore.

In a longer-term perspective, EU leaders also agreed on a tentative "roadmap" for the future shape of the eurozone that could include a banking union and a budgetary union, Van Rompuy said.

He said he would produce another report with a "specific and time-bound roadmap for the achievement of a genuine economic and monetary union" in October.

Berenberg Bank chief economist Holger Schmieding said the European Central Bank would play a key role in ensuring success of the new deal.

"Whether or not it will calm markets for long will likely depend on the ECB," which might have to "massively support EFSF/ESM interventions," Schmieding said in reference to the eurozone rescue pots.