Gloomy economic data and warnings from the U.S. Federal Reserve that hard times were still to come wiped out two days of relative optimism about the credit crisis and sent markets into free-fall on Wednesday.
The Dow Jones industrial average .DJI> ended down 733 points or 7.87 percent, and the S&P 500 index lost 9 percent -- their worst one-day percentage declines since October 1987. The losses reversed Monday's record surges that had been sparked by optimism about bank bailouts.
Fed Chairman Ben Bernanke warned that credit market turmoil posed a "significant threat" to an already weak economy as new data reinforced signs of further slowing.
European shares shed 6 percent and U.S. crude fell more than $4 a barrel to a 13-month low of $74.54.
France, Britain and Germany led calls for an overhaul of the world financial system to prevent a repeat of the worst credit crisis since the Great Depression.
The White House said leaders of the Group of Eight nations were expected to meet on the crisis by the end of the year.
The United States reported its biggest monthly decline in retail sales in more than three years, and Europe offered negative economic data and outlooks of its own.
Governments around the world have pledged $3.2 trillion in emergency measures, including taking stakes in banks to help them stabilize, rallying world markets on Monday.
Optimism quickly gave way to fears that major economies were headed for recession despite government intervention.
"By restricting flows of credit to households, businesses, and state and local governments, the turmoil in financial markets and the funding pressures on financial firms pose a significant threat to economic growth," Bernanke said.
Suggesting an openness to further interest-rate cuts, Bernanke said concerns about inflation were diminishing. He said it would take time to restore normal flows of credit.
U.S. stock market declines accelerated and the dollar rose against the euro after his comments.
Safe haven assets such as gold and short term U.S. treasuries rose as investors switched from riskier stocks.
"It looks like everything that's economically sensitive is getting hit pretty good," said Scott Vergin, portfolio manager at Thrivent Financial in Minneapolis, Minnesota.
"The thing is, how much has the credit crunch already impacted the real economy?" added Vergin. "That's what everyone's really worried about."
SUMMIT TO REFORM FINANCIAL SYSTEM
In Brussels, British Prime Minister Gordon Brown and German Chancellor Angela Merkel backed a proposal by French President Nicolas Sarkozy to hold a meeting to revamp financial structures set up at the Bretton Woods conference in 1944.
"I believe a forum to decide on big changes in the international economy can be held in the next few months," Brown said at the start of a two-day European Union summit.
Dutch Finance Minister Wouter Bos said a stronger role for the International Monetary Fund was needed "in the absence of American leadership at the moment."
French President Nicolas Sarkozy told the summit a "new form of capitalism" was needed.
The United States on Tuesday offered to take up to $250 billion worth of equity in its banks, an astonishing move in the home of free market capitalism.
U.S. President George W. Bush stressed that the move was temporary. "I'm confident in the long run this economy will come back," he told reporters before a cabinet meeting on Wednesday.
The U.S. action followed an agreement by European leaders on Sunday to undertake a 2.2 trillion euro ($3 trillion) rescue of European banking giants, which have been hit by a credit crisis brought on by defaulting mortgages in the United States.
The G8 said in a statement that changes to regulatory regimes were needed, and that it would hold a leaders' meeting with key countries "at an appropriate time in the near future to adopt an agenda for reforms."
The White House said G8 leaders were expected to meet by the end of the year, and that Bush was expected to attend.
DATA POINTS TO RECESSION
Signs of a looming recession abounded on Wednesday.
The U.S. government said retail sales dropped 1.2 percent in September, the biggest monthly decline in three years, and wholesale prices slipped 0.4 percent. Manufacturing activity in New York state fell in October.
The Fed's Beige Book report said economic activity weakened across the United States in September as businesses revised capital investments and consumers curtailed spending.
U.S. bank JPMorgan Chase said third-quarter profit plunged 84 percent, while Wells Fargo & Co reported a 25 percent drop in earnings.
British unemployment rose to 5.7 percent, its highest level in eight years, according to government data. And German economic growth will only be slightly above zero in 2009, Finance Minister Peer Steinbrueck said.
The European Central Bank said it would allow banks to swap a larger range of their assets for central bank funds and offer extra U.S. dollar liquidity through foreign exchange swaps.
Southeast Asian nations, backed by $10 billion from the World Bank, were the latest to join the rescue effort, agreeing to create a multibillion fund to help banks.
The fund will buy up toxic debt and support banks in the region, Philippines President Gloria Macapagal Arroyo said.
Iceland, driven close to bankruptcy by the effects of frozen credit markets on its banks, cut interest rates a staggering 3.5 percentage points as its officials pursued help from Russia via a multibillion-euro loan.
The economy is dominating the U.S. presidential campaign, which sees a final debate between the candidates on Wednesday.
Democrat Barack Obama has accused Republicans of presiding over unfettered financial deregulation while John McCain has sought to regain his footing on economic issues after drawing criticism for saying U.S. fundamentals were strong.