By Iain Rogers
Williams appeared to have given up the ghost well before she sent a forehand over the baseline on the Russian's first match point.
Serena's defeat put a slight dampener on the Williams family celebrations as sister Venus had earlier made sure she would climb back to number two in the world rankings following her 3-6 6-1 6-2 win over Francesca Schiavone.
"We definitely can celebrate," Serena said at a news conference.
"I think it's a great feat to be back at world number one and two. That's so amazing and I feel really good. It's a moment that we can definitely hold no matter what."
Venus has made no secret of her desire to snatch back the top spot back and laughingly said: "I congratulate her on that ranking but I am aiming to get there myself!"
"Serena and I being number one and two in the world is what we dreamed of growing up, but we've each dreamed of being number one. Neither of us dreamed of being number two."
Seventh seed Jelena Jankovic edged a tense all-Serbian second-round battle when she beat Ana Ivanovic 4-6 6-4 6-1.
Both players looked well below par in a match littered with errors on the clay of Manolo Santana center court.
They struggled to hold serve throughout, with Jankovic, wearing a bright green dress, breaking her orange-clad compatriot 11 times and losing her own serve on eight occasions.
Jankovic, the world number four and runner-up in Rome last week, will play Spaniard Anabel Medina Garrigues for a place in the quarter-finals.
"Overall, I am not really happy with the way that I played but a win is a win," she said.
"I had quite a lot of trouble in the first set and I didn't serve well and I wasn't really feeling the shots," the 25-year-old former number one added.
"I was quite a long way from where I was playing the past few weeks but then I just tried to stay as positive as possible."
French Open champion in 2008, Ivanovic has won just one Tier II tournament since that breakthrough grand slam triumph and has slipped down the rankings but a run to the Rome semi-finals lifted her to 42nd.
"I don't think either of us played so well today," the 22-year-old said.
"It's always hard to play someone from your own country but it was also a bit hard to find a rhythm.
"I think what made the big difference was that she had a high percentage of first serves in, and that made a big difference in the second and third sets."
(Editing by Pritha Sarkar)