The FTSE 100 ended the day up 99.7 points at 5,331.2 - a seven-week high - on rising hopes of further cuts in interest rates.
The CBI, which forecast that a further 28,000 manufacturing jobs would be lost before Christmas, warned that the risks of recession would be substantially increased if the Bank of England failed to act on interest rates next week.
Adair Turner, the CBI's director general, said: "This survey suggests a sharp downturn for the UK in the short term, with an increased risk of outright recession. We are therefore calling for a cut of a half per cent in interest rates to ensure this downturn is not unnecessarily prolonged."
Economists said the rapid fall in the CBI's measure of business confidence - traditionally a good predictor of changes in UK economic growth - suggested that recession was now a real possibility.
"Today's grim news on business confidence fully justifies a further rate reduction next Thursday," said Adam Cole at HSBC Securities.
David Coleman at CIBC Markets commented: "Perhaps the most disturbing aspect of this survey is the sharp decline in employment expectations."
Just 3 per cent of manufacturing firms are more optimistic than three months ago, according to the CBI, compared with 61 per cent which are less optimistic. This gives a negative balance of 58 per cent of survey respondents who are pessimistic about the future, compared with a negative balance of 44 per cent in July, a drop of 14 points. This fall in manufacturing confidence is the steepest since July 1980.
The CBI survey reveals weakness in both demand from abroad and demand in the UK. New export orders received by manufacturers over the last quarter fell at their fastest rate since 1977, while new domestic orders fell at their fastest rate since January 1992.
Looking ahead, domestic orders are forecast to fall further, albeit more slowly, while the pressure on exporters shouldease slightly following recent falls in the pound.
Mr Coleman said: "There have been some modest improvements in export balances, reflecting the fall in sterling since the last survey was conducted, but too little to make any impression on the overall picture."
Stephen Byers, Chief Secretary to the Treasury, again hinted that the Government would also like to see lower interest rates. He said the Bank, when it meets next week, will look in detail at this survey.
The Treasury , which is worried about the possibility of the UK "talking itself into recession", yesterday took the unusual step of noting that the CBI's findings were only survey results. Official statistics paint a rosier picture of the nation's economic health.
The pound, already well below its highs of earlier in the year, fell further yesterday. It ended the day down almost a pfennig against the German mark at DM2.767.
Rate cut hopes across Europe were given a boost by the larger-than-expected cut in Italy. All the large European bourses closed higher following the Italian central bank's decision to cut its discount rate by one percentage point to 4 per cent.
Italy - like other EMU participants such as Ireland - needs to cut its rate to 3.3 per cent, the level prevailing in France and Germany, by the end of the year.
Meanwhile, further evidence of the economic slowdown came from Abbey National, the bank, which admitted that mortgage arrears and bad debts were rising and 3i, the investment group, which said there were signs of banks tightening up on lending.
Separately, the Credit Card Research Group said credit card spending growth was just 11 per cent last month.
Outlook, page 19Reuse content