Panic as £72bn wiped off stocks

The FTSE 100 Index slumped by up to three per cent at times yesterday, pushing it below the 5000 barrier, as banking stocks tumbled amid fears they were running out of cash and borrowers would not repay debts.

Markets were also dogged by worries the US and eurozone economies would slide back into recession, crippled by the weight of their debts, while emerging markets such as China would also suffer.

London’s leading share index clawed back most of its gains in late trading but still closed down one per cent, or 51.5 points, at 5040.8. Its performance was boosted by early gains made by the Dow Jones Industrial Average in the US, which helped to settle traders’ nerves.

Earlier this month, the US Federal Reserve, led by Ben Bernanke, indicated its “ultra-low” interest rate policy would stay in place until 2013. Analysts said this indicated the US economy would remain weak.

Richard Hunter, head of UK equities at Hargreaves Lansdown Stockbrokers, said the absence of concrete plans for addressing global concerns was frustrating investors, adding: “There seems to have been little co-ordinated action in an effort either to spur growth or to put in place a roadmap for dealing with the increasingly difficult debt situation of many developed economies, most notably the US and Europe.”

The market turmoil of the past two days has dashed any hopes of a quiet second half of August – a normally quiet period when trading dries up until the US returns from the Labour Day holiday in early September.

Financial markets have wrestled for several weeks with fears a new recession in the US is in the offing. A woeful manufacturing survey from the Federal Reserve Bank of Philadelphia renewed recession fears, adding to a dismal set of economic indicators, with rising unemployment, an increase in consumer inflation, and its stricken housing market seeing a further drop in sales.

Analysts have warned both Europe and the US are dangerously close to recession.

Reports US regulators were looking at the US arms of big European banks to make sure they have enough money for day-to-day operations have fuelled the panic.

On Thursday some European banks paid higher rates for US dollar loans, increasing investor worries about the impact the euro zone debt crisis was having. One European bank is reported to have asked for $500m (£303m) from the European Central Bank’s swap line with the US Federal Reserve as it could not get the money from the markets.

Gerard Lane, equity strategist at Shore Capital, said: “Lending conditions are deteriorating with an impaired, maybe broken, banking system. Leading indicators of money supply suggest the GDP growth rates will continue to drift downwards across Europe, including the UK.”

Banks have borne the brunt of the selling while the price of gold, seen as a safe haven, lifted to a record $1,878 an ounce, and crude prices fell as investors feared a global slowdown will slash demand for oil.

Lloyds Banking was down another 5 per cent yesterday after a 9 per cent fall on Thursday, while taxpayer-backed Royal Bank of Scotland was also down 5 per cent. Its shares are now at 20.8p – less than half the 50p-per-share price the Government paid for its 81 per cent stake in the bank. Shares in Lloyds are at 28.4p, compared with the 63p paid for by the Government for its 41 per cent stake.