Italy's coalition broke down on Wednesday when three of Draghi's main partners rejected a confidence vote he had called to try to end divisions in their fractious alliance.
Labeled 'Super Mario' for helping steer Europe through the Ukraine conflict, Draghi's leadership has been characterized as bringing stability to Italy's fractured political landscape.
However, his planned exit has triggered a selloff of Italian bonds and stocks just as markets were bracing for the first interest rate hike from the European Central Bank since 2011.
"It is a big blow to Italy's ability to deliver policies and reforms over the near term," said Lorenzo Codogno, head of LC Macro Advisers and a former senior Italian Treasury official. "There will be delays and disruptions with early elections, and most likely no budget by year-end."
Draghi had already tendered his resignation last week after one of his partners, the populist 5-Star Movement, failed to back him in a confidence vote on measures tackling the high cost of living.
Mattarella rejected the resignation and told him to go before parliament to see if he could maintain the broad coalition going until the planned end of the legislature in early 2023.
In a speech to the Senate, Draghi called for unity and set out a series of issues facing Italy ranging from the Ukraine conflict to wealth inequality and spiraling prices.
But the 5-Star once again decided not to back him, saying he had not addressed their core concerns.
In addition, the rightist Forza Italia and League parties rejected the vote, saying they wanted a commitment that Draghi would create a new administration without 5-Star.
Polls say the conservative bloc, which includes the far-right Brothers of Italy party, would likely win a ballot.
Cover picture: Italian President Sergio Mattarella signed the decree dissolving parliament on Thursday. Paolo Giandotti/Italian Presidential Palace/Handout via Reuters