Near-record consumer credit numbers provided further evidence of the UK's improving economic prospects, and the FTSE tumbled almost 115 points as investors reassessed the outlook for interest rates.
Sterling strengthened 0.5p to 68p against the euro, and also made up ground against the dollar. On Wall Street, the Dow Jones was trading lower in the early afternoon following the release of stronger-than-expected US data.
In the UK, the Chartered Institute of Purchasing and Supply survey of manufacturing found signs of stronger demand, particularly for exports.
The CIPS Purchasing Managers' Index - an indicator of overall activity in the sector - rose 1.5 points to 45.5, its highest level since last September.
As the PMI remains below its neutral level of 50, the manufacturing sector remains in decline, CIPS said. But the rise in the index between January and February suggests that the pace of decline has slowed.
Speaking last night at a KPMG profitability seminar, Eddie George, Governor of the Bank of England, said: "We expect the slowdown to be comparatively mild and short-lived."
Separate consumer credit figures published by the Bank of England provided further evidence the UK economy could be on course for a soft landing.
Consumer credit rebounded in January to pounds 1.4bn, almost double December's level, and there was a near-record rise in the value of bank loans and overdrafts. Analysts said the data was consistent with January's bounce- back in retail sales and indicated that sales should continue to grow.
Meanwhile, in the US, rate cut hopes were dealt another blow by robust manufacturing and income data. American incomes grew strongly in January, while the US Purchasing Managers' Index for manufacturing surged back over the critical 50 mark for the first time in nine months.
In Europe, analysts said the European Central Bank seemed unlikely to cut rates on Thursday following stronger-than-expected money supply figures and hawkish comments from ECB officials.
Christian Noyer, ECB vice-president, said there seemed no reason to cut interest rates "at the moment".