Mr Sarkozy returned from the Riviera to chair an emergency meeting in Paris with his inner cabinet and the central bank chief, Christian Noyer, breaking the sacrosanct August holiday.
The key ministries were given one week to draw up radical austerity measures.
"Whatever the impact of global uncertainty, or the S&P's downgrade of America's debt, or the turbulence of the markets, we will take the necessary steps, " said finance minister François Baroin.
The political drama came as swirling rumours set off a collapse of French bank shares.
Société Générale fell 21pc before recovering partially, plagued by fears that it may be heavily exposed to tumbling global stockmarkets through its role in the equity derivatives market. Credit Agricole closed down 13pc, and BNP Paribas fell 10pc.
French banks have €410bn (£360bn) of exposure to Italy alone according to the Bank for International Settlements. The twin crises in France and Italy are now intimately linked and appear to be feeding on each other.
The MIB index on the Milan bourse fell 6.7pc as the euphoria following the European Central Bank's intervention in the Italian bond markets gave way to angst that the EU bailout machinery may not be large enough to back stop the whole of southern Europe.
France's CAC 40 closed down 5.5pc.
Morgan Stanley said the flight from French bank equities was "overdone".
BNP Paribas does not need to tap the capital markets this year, while SocGen is 93pc funded. The European Central Bank has kept its lending window open and offered a 6-month tender.
Julian Callow from Barclays Capital said the credibility of the €440bn rescue fund (EFSF) depends on France retaining its AAA rating.
That is now highly questionable despite assurances from all three rating agencies on Wednesday that nothing had changed.
"The debt ratios of the US and France are very similar. France also suffers from economic rigidities and now has this extra burden of the EFSF. People are asking themselves whether S&P can downgrade US without downgrading France," he said.
Mr Callow said France has a current account deficit of 3pc of GDP, unlike other members of the eurozone core. This is a sign of slipping competitiveness and a warning that France may struggle to carry the burden of escalating bail-outs.
French industrial output fell by 1.6pc in June and economic growth ground to a halt in the second quarter, further eroding budget finances.
The fiscal deficit was running at 7pc of GDP in the first half. It will take draconian cuts at this point to meet the 5.7pc target agreed with the EU.
With Spain, Britain, and even Italy now forcing the pace on austerity, France cannot appear nonchalant. Italy's premier Silvio Berlusconi met union leaders on Wednesay to forge a deal on €20bn of anti-deficit measures and labour reforms demanded by the ECB.
He has recalled parliament to vote on a balanced budget amendment to the constitution.
The ratings agencies are under intense pressure in Europe and may no longer be able to carry out their work effectively. Italian prosecutors have raided the offices of S&P and Moody's in Milan, accusing them of issuing "false and unfounded judgements" on the Italian financial system.
S&P said the accusations are "without any merit"
The Procura di Trani said the agencies had jumped the gun by issuing a report in early July on draft budget proposals.
Three analysts from S&P are accused of "market manipulation" and "abuse of privileged information" by issuing "inaccurate" reports over a period of several months.
This sort of judicial action against rating agencies is highly unusual. If it is shown in any way that the charges are politically motivated, the episode may inflict damage to Italy's reputation as a safe place to conduct business.
Marchel Alexandrivich from Jefferies Fixed Income said investors are worried that the latest contagion to France could bring the eurozone's bubbling problems to a head in a dramatic fashion.
"If France is dragged into the problem, then we will hit crisis point. They will either have to move to a full-blown eurobond -- and German politicians are set against that -- or face a break-up. There is a significant chance that the euro will no longer exist in its current form within twelve months," he said.
President Sarkozy said France would include a "golden rule" in its constitution to restore fiscal probity, adding that the fiscal targets for 2011 and 2012 were "untouchable".
The new budget measures will be introduced on August 24 and are expected to include the closure of 500 tax loopholes, .
The IMF said France has the highest debt ratio of any AAA state this year at 85pc of GDP and may have to tighten further next year. Like the US, France has also built up huge pension debt and contingent liabilities.The Telegraph
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