Recession fears re-ignited as would markets slump

The FTSE 100 Index was 4.4% or 231.2 points lower after the US Federal Reserve flagged “significant downside risks to the economic outlook” and failed to inspire traders with its latest emergency measures to prop up the country’s wavering recovery, which included a process dubbed Operation Twist.

The unusual move, designed to keep US interest rates lower for longer, disappointed markets, which had surged in recent days in hope that the Fed might embark on a third package of quantitative easing.

Ben Potter, analyst at IG Markets, said: “Judging by the huge amounts of selling, it seems the market doesn’t believe Operation Twist is enough to kick-start the spluttering economy.”

The Dax in Germany dropped 4.3% while France’s Cac-40 fell 5.1% following a similarly shocking performance on Wall Street, where the Dow Jones Industrial Average closed 2.4% down.

Oil prices tumbled on global growth fears with Brent crude in London dropping nearly 2% to 106.79 US dollars a barrel and light crude on the New York Mercantile Exchange off 4.5% to 82.02 US dollars a barrel.

The grim outlook from the Fed - which pointed to weakness in the US labour and housing market - was the latest shock to already volatile global markets, most recently shaken by financial uncertainty in Greece, which is verging on a debt default.

The dismal picture was compounded by weak manufacturing data in Asian powerhouse China and from Purchasing Managers’ Index data in the eurozone, which revealed a decline in both manufacturing and services.

Miners and bankers were the biggest losers amid growing fears for the health of the global economy after the International Monetary Fund earlier this week warned that the world was entering a dangerous phase.

Fears of a slump in demand for mineral resources saw declines for Vedanta Resources, Kazakhmys and Antofagasta which all lost nearly 10% of their value.

Weak sentiment towards the banking sector was aggravated yesterday when agency Moody’s downgraded credit ratings for three major US banks - Bank of America, Wells Fargo, and Citigroup.

Barclays was down 7%, Lloyds Banking Group was off 7% and Royal Bank of Scotland dropped 4%.

Some economists still expect the Fed to roll out so-called QE3 as early as November - which would boost asset prices around the globe by pumping more money into the financial system.

Operation Twist - which will see short-term government loans sold in favour of notes that expire over a longer period - was met with scepticism about whether it will be as effective. The last time such a tactic was adopted, in 1961, it only lowered rates by 0.15%.

Interest rates in the US are already at a record low yet the economy is still struggling to grow.

Mike McCudden, head of derivatives at UK financial services provider Interactive Investor, said: “With a consensus demanding bold and swift action now, Operation Twist didn’t inspire investors. Combined with (Fed chairman) Ben Bernanke’s bleak outlook for the global economy, traders turned to despair.”