Growing panic about the debts of big eurozone countries like Italy and Spain, paired with fears the U.S. may be heading back into recession. Jobs figures later could well go a long way to determining whether the U.S. economy is indeed on the point of shrinking again.
The biggest one-day points decline on Wall Street since the 2008 financial crisis Thursday carried into Asian and European markets Friday, taking down oil prices as well, as investors were preparing for a slowdown in demand.
In Europe, major markets were firmly in the red once again, although stocks were regaining some ground from earlier in the day. London's FTSE 100 declined 2.5 percent to 5,260 and Germany's DAX shed 2.1 percent to 6,282. France's CAC-40 lost 0.7 percent to 3,297.
Only Spain's Ibex and Italy's FTSE MIB were in positive territory, with Spanish stocks gaining 0.4 percent while Italian shares were up 0.2 percent, even though figures showed both economies barely grew in the second quarter of the year.
Wall Street was set for a lower open with Dow futures down 0.5 percent at 11,317 while S&P 500 futures fell 0.4 percent to 1,193.
Falling stocks are a sign of diminishing confidence in the global economy and that's being felt in oil prices too. The main New York contract was down a further 79 cents a barrel at $85.84 a barrel, having earlier dipped below $85.
Investors around the world are waiting anxiously for U.S. employment figures this afternoon, which could give a firm indication on whether the world's largest economy is indeed headed for a double-dip recession. Analysts expect payrolls to increase by 85,000 and the jobless rate to remain at 9.2-percent.
"If we get a strong jobs report, this could be enough to send stock markets higher - the relief rally we are looking for - but given the depth of the economic crisis facing the developed world, I am not sure how long such a relief rally will last," said Louise Cooper, markets analyst at BGC Partners. "A poor number could see further declines."
The protracted debate about raising the debt ceiling in the U.S. and confusion about Europe's strategy to fight its worsening debt crisis have undermined confidence in policy makers' willingness and ability to finally draw a line under the financial troubles that have plagued the Western world for four years.
Disagreements in the U.S. Congress are set to herald more struggles about budget cuts at a time when many economists are calling for economic stimulus, while investors fear that Europe may be overwhelmed by growing troubles in Italy and Spain, the eurozone's third and fourth largest economies.
Eurozone leaders' reluctance to increase the size of their bailout fund and quickly implement changes to its powers, such as giving it the ability to buy up government bonds, have left the currency union without a clear defense against market troubles over the summer.
The European Central Bank on Thursday bought up Irish and Portuguese government bonds, but is reluctant to do the same for Italy and Spain until the two countries have taken additional budgetary measures, the head of Belgian's central bank Luc Coene told Belgian radio station RTBF.
Coene, who sits on the ECB's decision-making board, warned that without stricter rules on debts and deficits the euro was not viable in the long-term.
The single currency regained some of its recent losses Friday, trading up 0.6 percent at $1.4250.
The yield, or interest rate, on Italian 10-year bonds surpassed their Spanish equivalents for the first time since May 2010, indicating that investors are now more worried about Rome's massive debts, the second highest in the eurozone, and its difficult political landscape. Italian 10-year yields were at 6.13 percent, while Spain's traded at 6.11 percent - below records seen earlier in the week but still at levels deemed unsustainable in the long-term.
Earlier in Asia, Japan's Nikkei 225 stock average slid 3.7 percent to 9,299.88 and Hong Kong's Hang Seng dived 4.3 percent to 20,946.14. China's Shanghai Composite Index lost 2.2 percent to 2,626.42.
The dollar edged down to 78.48 yen from late Thursday's 79.02. On Thursday, Japan's government intervened in markets to weaken the yen against the dollar to support exporters. Finance Minister Yoshihiko Noda said authorities acted to protect the economic recovery following the March 11 earthquake and tsunami.
The dollar had fallen as low as 76.29 yen on Monday. It hit a record post-World War II low of 76.25 yen in the days following the March 11 earthquake and tsunami.
Alex Kennedy in Singapore and Joe McDonald in Beijing contributed.