European stock markets suffered further heavy falls this evening due to persistent fears about the world economic outlook.

Markets extended losses after the latest batch of disappointing figures from the US, which pointed to continuing weakness in the jobs and housing markets.

The data came after a downgrade of the global growth outlook by Morgan Stanley, which said the US economy, the world's biggest, was flirting with recession.

Frankfurt was hit hardest, with the DAX closing down almost 6%, while Paris fell 5.5% and London's FTSE lost 4.5%. Dublin's ISEQ dropped more than 4%. Wall Street markets were also weaker, with the Dow Jones down 3.5% this evening.

Bank shares were affected by a Wall Street Journal report that the US Federal Reserve was taking a closer look at the US operations of Europe's biggest banks, concerned that a euro zone debt crisis could spill into the US banking system.

The report said the Fed's New York branch - which oversees the US units of many European banks - was now asking for more information about whether the banks have reliable access to the funds needed to operate in the US.

Morgan Stanley cuts global growth forecasts

Morgan Stanley has sharply cut its global growth forecast for 2011 and 2012, saying the US and the euro zone were 'dangerously close to a recession'.

It also criticised policymakers in Washington and Europe for not acting more decisively to contain the sovereign debt crisis. The bank cut its global gross domestic product growth forecast to 3.9% from 4.2% for 2011, and to 3.8% from 4.5% for 2012.

'Our revised forecasts show the US and the euro area hovering dangerously close to a recession - defined as two consecutive quarters of contraction - over the next six to 12 months,' Joachim Fels, who co-heads Morgan Stanley's global economics team, said in a research note.

That was not the bank's base case scenario, he said, noting the corporate sector still looked healthy and lower inflation will ease pressure on consumers' pocketbooks, while central banks such as the US Federal Reserve and European Central Bank could try to loosen policy further.

'It won't take much in the form of additional shocks to tip the balance,' he warned, however.

Germany reported earlier this week that its economic growth came close to stalling in the second quarter, while data from France last week showed its growth had ground to a halt, raising questions over how much drive can be expected from Europe's top economies.

The clouded growth outlook puts further pressure on European politicians who have been haggling over ways to stop the euro zone's sovereign debt crisis from engulfing larger member countries such as Spain and Italy.

Analysts warn that political wrangling and failure to deliver any concrete pledges to increase the size of Europe's rescue fund risks a renewed attack on heavily indebted countries and a further blow to business and consumer confidence.

The US economy also stumbled badly in the first half of the year and came dangerously close to contracting in the first quarter. High unemployment, a bruising political battle in Washington over the debt ceiling and spending cuts in July and a stock market slump all helped push US consumer sentiment to its lowest level in over 30 years.

'Recent policy errors - especially Europe's slow and insufficient response to the sovereign crisis and the drama around lifting the US debt ceiling - have weighed down on financial markets and eroded business and consumer confidence,' Morgan Stanley said.

Growth will also be hit by the prospect of fiscal tightening in the US and Europe where politicians are trying to appease markets by reining in public spending, it added.

It said it now sees growth in developed market economies averaging only 1.5% this year and next, down from his previous view of 1.9% and 2.4%, respectively.

'While we had been calling for a BBB recovery in developed markets all along, the path now looks even more Bumpy, Below-par and Brittle than previously thought,' Fels said, adding that emerging markets were not immune either.

Growth in emerging market economies will slow to 6.4% this year from 7.8% in 2010, Fels estimated. This means that emerging market economies - which now account for half of global GDP - will generate 80% of the global GDP growth that Morgan Stanley is forecasting for 2011 and 2012.

Most economists say they are not cutting their growth forecasts for emerging Asia for now, as the continent is less dependent on exports to Western markets than it was when the financial crisis hit in 2008.

Morgan Stanley left its 2011 growth forecast for China unchanged at 9%, compared to 10.3% last year, but dialled back growth expectations slightly for Russia and Brazil.

If the West does slump back into recession, or a prolonged period of meagre growth, analysts say China may not be in a position to reprise its role in supporting the global economy as it did in 2008, when it announced a massive stimulus programme.