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BNP Paribas, the big French banking group, set off the decline by announcing it has suspended trading in three funds with exposure to the U.S. credit markets. The bank said it could not value the funds because of a lack of liquidity. After the announcement, the European central bank loaned $130 billion to European banks to meet cash demands. That sent financial sector stocks into a tailspin. Stu Schweitzer, global market strategist at JPMorgan Asset Management, says the problem is that the credit markets are difficult to analyze.

Stocks plunged Thursday on heightened fears of a global credit crisis after one of Europe's largest banks reported subprime-related liquidity woes.

Citing troubles in the ailing U.S. mortgage sector BNP Paribas (OOTC:BPRBF) , France's largest bank, halted withdrawals from three of its subprime-related funds that had fallen sharply in value recently.

BNP said the funds couldn't be properly valued because of the "complete evaporation" of liquidity in some parts of the market.

Just last week, BNP's CEO Baudouin Prot said the bank's subprime exposure was "absolutely negligible."

BNP's news sent overnight bank-lending rates soaring in Europe.

To help reassure markets, central bankers in Europe and the U.S. turned on cash taps to signal they'll make sure liquidity keeps flowing through the system.

In an unprecedented response to trouble at a single firm, the European Central Bank offered more than $130 billion to keep overnight rates at 4% after they spiked to 4.7% on BNP's announcement.

The ECB's offer of unlimited funds to curtail a liquidity crisis amplifies fears that U.S subprime woes are spreading globally.

"The ECB was quite concerned credit was freezing up in Europe. It set out to calm markets down," said Nariman Behravesh, chief economist at Global Insight.

The Federal Reserve got into the act. It added $24 billion in temporary reserves after saying Tuesday it was worried about "tighter" credit conditions. The Bank of Canada also promised extra liquidity.

After European markets sold off hard on the news, U.S. stocks followed suit.

The Dow dived 2.8% in heavy volume, its worst percentage loss since Feb. 27. The Nasdaq fell 2.2% and the S&P 500 lost 3%.

The 10-year Treasury yield fell 9 basis points to 4.78%, while short-term rates plunged as odds for a near-term Fed rate cut soared.

Market volatility continues to increase as bad news from credit, housing and the consumer mounts on several fronts.

"I'm just surprised equity guys continue to believe this is a contained credit issue and doesn't have implications for the economy," said Peter Boockvar, equity strategist at Miller Tabak. "I know some people want to say this is a just a financial accident and markets are adjusting. But when you raise the cost of money, it has major economic implications."

Corporate bond sales hinted at just how wary buyers are now.

Yields on asset-backed commercial paper soared to the highest since '01, according to Bloomberg.

It remains unclear just how tight lending is going to get, but the stream of credit- and subprime-related problems continues to flow.

Home Depot said it may cut the $10.3 billion price in the sale of its HD Supply contractor unit to several private equity firms.

American International Group, among the top U.S. mortgage lenders, said rising defaults and delinquencies are moving beyond subprime a day after posting solid second-quarter earnings.

Goldman Sachs gs fell 6% Thursday amid reports that two of its hedge funds were among those suffering big losses recently -- and that they were liquidating some positions.

Some 46 corporate loan or bond deals worth over $60 billion have been delayed or cut in price since June 22, according to Baring Asset Management. It estimated some $400 billion worth of takeovers have yet to be financed.

If demand for such assets dried up, it could mean big problems for markets pushed to record highs earlier this year on record buyout and merger activity.

Near-term contagion fears among large bankers and lenders will remain the biggest worry for investors, central bankers and the economy.

"The worry here is that a panic will set in to the financial markets and that this 'credit crunch' will spread to areas that are not being directly affected by the subprime meltdown," Behravesh said. "The worry is credit-worthy companies will not be able to borrow or spreads for fairly high quality corporate bonds may go up quite a bit."

While Behravesh and most other analysts still see modest levels of liquidity in the system, risks continue to rise across the financial sector.

Meanwhile, the White House weighed in to reassure markets.

"The fundamentals of our economy are strong," President George Bush told reporters. "I'm told there is enough liquidity in the system to enable markets to correct."

Sen. Charles Schumer, D-N.Y., blasted back. In a press release, he called Bush "asleep at the switch" regarding credit market problems.

The Treasury Department said it was keeping a close eye on markets.

The Fed has maintained its position that it won't alter its hawkish policy stance unless market trouble spills over into the economy.

Several economists at major U.S. banks and research firms have cut GDP forecasts in recent weeks. Most still see moderate growth this year. But the housing slump, sluggish retail sales and falling stock prices are notable head winds.
http://money.cnn.com/news/newsfeeds/articles/newstex/IBD-0001-18794237.htm