America took the axe to interest rates today, cutting its key federal funds rate by a drastic 0.75 per cent - the biggest cut in 26 years - in a desperate attempt to prevent recession and restore calm to panicky financial markets.

However, the reduction to 3.5 per cent - the fourth cut since the credit crunch hit last summer - did little to placate nervous traders.

In the first half hour of trading this afternoon, Wall Street's closely watched Dow Jones Industrial Average, an index of blue chip companies, plunged by 356 points to 11,743.

It was the first opportunity for US investors to react to the massive shares sell-off in the rest of the world yesterday because Wall Street was closed for a public holiday.

In London, after a roller coaster day during which prices swung wildly, the FTSE 100 was by up 44.5 points to 5,677.7 in mid-afternoon trading. Earlier it had plunged by as much as 239.5 points.

The US Federal Reserve said today that it was reducing its rate to 3.5 per cent "in view of a weakening of the economic outlook and increasing downside risks to growth".

The Bank of England said this afternoon that it had no plans to bring forward its interest rate decision due at the beginning of February after keeping borrowing costs unchanged at 5.5 per cent this month.

America's emergency cut came a week before the normally scheduled six-weekly meeting of the Fed's interest rate setting committee. In its explanatory statement, it referred to the deterioration in financial market conditions, a deepening of the housing market contraction and a softening in the jobs market.

Ted Scott, manager of F&C's UK Growth & Income Fund, said: "The rate cut is a response to the rapidly deteriorating economic conditions that the market is increasingly factoring in.

“In the short term that may provide a fillip to equities and a relief to borrowers. However, the move also smacks of panic. It suggests that the economy is already in dire straits and paradoxically confirms the markets worst fears.”

The Dow Jones closed down 1.1 per cent while the FTSE rallied up 2.9 per cent at close.

Economic gloom continued to hit energy and commodity prices. Crude oil prices fell $2.38 to $88.19 on the New York Mercantile Exchange.

Overnight, Japanese shares suffered one of the worst trading days in history, with the Nikkei diving 5.7 per cent as entire trading screens turned crimson with “sell” orders.

So far this week, the Nikkei has lost 1,288 points, or 9 per cent of its value.

In Hong Kong, a second day of misery saw the Hang Seng in near freefall, down more than 8.4 per cent towards the end of afternoon trading.

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