Wall Street Shaken As Home Price Index Drops to 20-year Low

Global stock markets endured a fresh burst of volatility yesterday as new evidence emerged over the depth of America's sub-prime mortgage crisis, prompting nervousness over interest rates and economic stability.

The FTSE 100 index fell 117 points to 6,102, pushed downwards by a dive in banking shares. Markets across Europe experienced similar drops and in New York the Dow Jones industrial average dropped 279 points to 13,042.

Newly published minutes from the Federal Reserve's August meeting revealed that the US central bank felt obliged to keep a close eye on the situation and hinted at a possible change to interest rates if conditions worsen. "A further deterioration in financial conditions could not be ruled out and, to the extent that such a development could have an adverse effect on growth prospects, might require a policy response," the Fed said. "Policymakers would need to watch the situation carefully."

The gloom was reinforced by the Standard & Poor's housing index which revealed a 3.2% fall in US home prices - the worst quarterly drop since the measure began in 1987. There was a particularly sharp fall in home prices in Boston, Washington and Detroit. Of 20 cities included in the survey, 15 saw a year-on-year fall. The S&P index's committee chairman, David Blitzer, said: "We still don't see anything that looks like a clear bottom ... We're still headed down."

Concern over defaults on sub-prime mortgages by less affluent homeowners have caused a sharp contraction of credit, hurting banks and lending firms. The impact is becoming clear worldwide.

Effects surfaced at the Boston-based investment bank State Street and Guernsey fund Carlyle Capital Corporation. Two German banks have been dragged into the crisis, the Bank of China this week revealed substantial exposure and in London, Barclays was forced on to the back foot over suggestions that it has hundreds of millions of pounds of exposure to failed debt vehicles. Despite a vehement denial of any problems, Barclays' shares dropped by 3.6%, leading blue-chip stocks downwards. HSBC lost 1.9% and Lloyds TSB slipped 3%.

The European Central Bank, the Bank of Japan and the Bank of Canada all said market turmoil could affect their interest rate decisions.

Fueling concern that the sub-prime crisis could have an impact on retail spending, the New York-based Conference Board's monthly consumer confidence figures showed a rapid weakening from July's figure of 111.9 to 105 in August. This was the biggest drop since September 2005, when America was hit by Hurricane Katrina.

Lynne Franco, director of the board's consumer research center, said: "The volatility in financial markets and continued sub-prime housing woes may have played a role in dampening consumers' spirits.

She added that in historical terms consumers remain relatively upbeat: "Despite less favorable conditions and in spite of all the recent turmoil, consumers still remain confident."

The Credit Union National Association suggested that some American consumers were using credit cards to keep up monthly mortgage payments - a sign that further defaults could be around the corner.