It is the first time Brussels has taken such steps against a member state and means Bulgaria could lose up to 500 million (£400 million) in funding.

The commission inflicted further humiliation on Sofia by withdrawing the accreditation of two Bulgarian government agencies to handle EU money.

Using blunt language far removed from Brussels' usual diplomatic tones, Johannes Laitenberger, the commission's chief spokesman, said: "The fight against high-level corruption and organised crime is not producing enough results."

Too often in corruption cases, people "go unpunished", he said.

Romania, which joined the European Union along with Bulgaria in January 2007, was also criticised by Brussels over judicial reform and the politicisation of criminal cases, but it escaped any financial sanction.

The decision to punish Bulgaria came after scathing EU reports into judicial reform and Sofia's failed attempts to combat the problem of organised crime and corruption that still leaves a bloody mark on the land.

In perhaps the harshest criticism ever levelled at an EU state, one report said Bulgaria's crime-fighting "institutions and procedures look good on paper but do not produce good results in practice". It also attributed Sofia's failure to "act decisively" in corruption cases to the influence of organised crime networks.

Sergei Stanishev, Bulgaria's socialist prime minister, said he regretted the EC's move but added he had ordered urgent measures to improve the country's fight against corruption.

"We are working on an action plan that is expected to be ready by the end of this week," he told a told a news conference in the Black Sea city of Varna. "I will require concrete measures, proposals and deadlines for their implementation."

Despite the fighting talk, the Bulgarian government will struggle to contend with the damaging political fall-out, with the opposition already calling for a no-confidence vote in parliament. One opposition politician, Yordan Bakalov, branded the government "arrogant" and said it was "incapable of running the country".

Many Bulgarians are actually sympathetic to the EU measures, as they, too, suffer from corruption. Nikolai Vassilev, 48, a construction worker in Sofia, said: "I am pleased with the report. The government must resign. It has been proved it is corrupt."

But Kiril Avramov, of the Political Capital Research Institute in Sofia, warned: "I don't expect any drastic changes to be made by this political elite. It refuses to give up the old game and play by the rules of the new game, which requires transparency and accountability."

Although Sofia can take some solace in that the commission shied away from the threat to delay the country's entry into the eurozone and the Schengen passport-free area, yesterday's decision will still come as an embarrassing blow.

This year has already seen the murders of the head of a nuclear energy company, and of Georgi Stoev, an author who had written about the Bulgarian Mafia, in assassinations attributed to the criminal gangs.

Earlier this week the country's chief prosecutor, Boris Velchev, conceded that attempts to tackle the problem had been a failure, while in April, Rumen Petkov, the interior minister, resigned following the arrest of two high-ranking police officers and amid allegations he was connected to shadowy figures in Sofia's criminal underworld.

A report by the US justice department has already criticised Bulgaria over corruption, suggesting the FBI and CIA were reluctant to share information with their counterparts in the country owing to fears that they might relay to it criminal networks.

Bulgaria, the EU's poorest state, is in desperate need of funding to improve its ailing infrastructure and invigorate economic performance. Capital Economics, a London-based research company, said punishing Bulgaria by withholding EU funds would "hit the Balkan economy hard".

Contract killers gun down Mafia author at bus stop

WHEN the contract killers came for Georgi Stoev they did so with brash impunity.

At one o'clock in the afternoon at one of Sofia's busiest bus stops they shot the writer three times. He died later that day, and his death sent a message across Europe that organised crime in Bulgaria has no qualms about high-profile murder.

And few doubt that it was the Bulgarian Mafia that killed 35-year-old Stoev.

A one-time criminal, Stoev had turned his back on the gangs that flourished in post-communist Bulgaria and had instead written about the world he knew in a series of nine books. Mixing fact and fiction they exposed the operations of Bulgaria's ruthless Mafia, and it was this that police believe earmarked Stoev for assassination.

In one book, Godfather 3, he made little attempt to disguise the identity of a secret service officer and politician tied to the Mafia, and told his publisher that "the book will get me killed".

In the aftermath of his death police said they plan to interview two notorious figures from the Sofia underworld, both of whom had featured in Stoev's books.

But while police investigate, the chances that his murderers, or the people who ordered his death, will ever face justice remain slim.