Carnage returns to world markets

Global stock markets took a major battering yesterday as sliding commodity prices and inflationary fears combined with a warning from China that it plans to slow its red-hot economy.

Stock markets from the Far East to the Americas suffered sharp falls on fears that hikes in interest rates needed to quell inflation could push the world economy into recession.

Traders were still panicked by last week's rise in US inflation and fears the long-awaited unwinding of the global imbalances had begun.

In London the FTSE 100 closed down 124 points at 5,532 - the first time it has fallen below its starting level for 2006.

Markets were also rattled by a warning by the International Monetary Fund that the US might need to continue raising rates. Rodrigo de Rato, its managing director, said: "Some measures might be needed in the future, but that will depend very much on the data on the strength of the US economy."

Experienced City analysts said the scale of the falls was a sign of distress in the market and yesterday's moves prompted policymakers to intervene to calm markets.

"Prices never move as rapidly as when people are feeling pain," said Stephen Lewis, the chief economist at Insinger de Beaufort, a City bank. "The question is whether the distress is going to build up into a systemic threat.

"If I were a supervisor of these markets I would be on red alert - and indeed I think some are on red alert."

Policymakers yesterday moved to calm market nerves. Klaus Liebscher, a member of the European Central Bank, said: "From time to time, a correction is something that is necessary ... and one should not over-exaggerate this development."

One of the most dramatic casualties was the Indian stock market, which fell as much as 10 per cent before the authorities stepped in to suspend trading.

Mumbai (formerly Bombay), which has seen stellar gains this year, staged a partial recovery to close 4.2 per cent down. Indonesian stocks slumped 6 per cent while markets in Malaysia, Thailand, Hong Kong and Singapore all fell about 3 per cent.

Japan fell almost 2 per cent. Asian markets were jolted after the People's Bank of China (PBoC) said it would use a combination of "monetary tools" to slow growth in lending.

This could include raising banks' required reserve ratio, which would be seen as a sign the authorities were determined to slow the country's economic boom.

Binit Patel, an analyst at Goldman Sachs, said: "The reaction of the Asian markets to the apparent hawkish comments by the PBoC and the over-reaction of global asset markets last week to US inflation indicate just how unsure the markets are about underlying trends.

"Equally it suggests that volatility in markets around each incoming data point is likely to remain high."

The rout moved across the globe, hitting Russia first where the main index slumped by more than 11 per cent, forcing the exchange to suspend trading. Across Europe every main index fell, with the exception of Malta and Croatia.

The FTSE 100 hit a five-year high only a few weeks ago, on the back of soaring commodity prices, takeover activity and healthy profit levels. But the index has lost 600 points since it peaked.

"I do not think the news flow has justified a 500-point sell off in the market," said Robert Parkes, a UK equity strategist at HSBC. "We think markets will bounce back. The valuations now are starting to look very attractive again."

But Insinger's Mr Lewis said that the London market was vulnerable to its exposure to mining stocks.

He pointed out the Japanese market had fallen further than the UK from its peak to the latest trough. "The fact that the UK has a much bigger commodity weighting than Japan may mean that the UK has quite a way further to fall," he said.

The FTSE-All Share index has fallen 10.02 per cent in the past 20 trading days, the second biggest drop on record for this point in the month, according to David Schwartz, the stock market historian. "The question is no longer will there be a bear market. Today's key question is how painful will the bear market be," he said.