* PM Letta warns that govt collapse would anger voters
* Repeats he will not increase debt
* Calls for new electoral law by October
Italian Prime Minister Enrico Letta on Sunday warned that the collapse of his government would undermine economic recovery and anger voters after local media reported centre-right leader Silvio Berlusconi was poised to pull the plug on the executive.
Italian newspapers said Berlusconi, who was convicted of tax fraud earlier this month, would bring down the government in October if he is expelled from the Senate - a measure the court ruling foresees but which requires a parliamentary vote to enact.
Berlusconi's People of Liberty (PDL) party and Letta's Democratic Party (PD) joined forces in an awkward right-left coalition in April to break a stalemate that followed February's inconclusive national election.
"No one should block the hopeful path we have started down," Letta said in his first major speech since the Berlusconi verdict. "An exit from this crisis is within reach."
"Italians will punish anyone who puts their personal interests ahead of the common good, which is getting out of this crisis," he said at a meeting of Communion and Liberation, an influential Catholic group.
The former rival parties have often been at loggerheads in the four months they have governed together.
Now they are locked in a dispute over cancelling a hated property levy by the end of the month, two weeks before the next payment of the tax is due. The PDL says the government's survival depends on it.
Letta on Sunday repeated he would not back any measure that increased the country's debt, the second-highest in the European Union behind Greece, while the PDL has called for an end to the painful austerity that has worsened the economic slump.
Italy's economy, the euro zone's third-biggest, has been mired in its longest post-war recession which began in mid-2011.
But borrowing costs have fallen dramatically since Berlusconi resigned almost two years ago in the midst of the euro zone debt crisis.
"During this same period in 2011, the spread (between yields on Italian benchmark bonds and German bunds) was rising, and it seemed like the end of the world, while in recent days the spread has returned to where it was before that dramatic moment," Letta said.
The gap between Italian benchmark bonds and the safer German Bunds fell to 2.31 percentage points on Friday, down from its high of more than 5.5 percentage points at the height of the euro zone debt crisis.
Letta said that parliament's priority going forward should be to replace the flawed electoral law by October, and to abolish public funding for political parties, both measures that have been stymied in parliament so far.