In a reminder of the dire state of the world economy, a senior US Federal Reserve official said the world's biggest economy already appeared to be in recession, while Bank of Japan Governor Masaki Shirakawa said global financial markets remained very strained.
The US government on Tuesday put aside its misgivings about state intervention in the private sector and unveiled a plan to spend up to US$250 billion (S$367 billion) on equity stakes in US banks, joining a global effort to shore up the banking system.
The plan, coming hot on the heels of big bank bailouts announced in London, Paris, Berlin and other world capitals, helped sustain a two-day stock market rally after the worst week in markets' history.
But share markets turned lower in late Wall Street trade and Asian markets fell on Wednesday on concern the rescue would come at a huge economic cost and do little to repair the damage already done by a 14-month credit crunch.
'While the financial system crisis appears to be heading in a positive direction, the economy appears to be increasingly bad, and this is raising worries about company earnings. We still don't know how much these might be hit,' said Mr Hiroaki Osakabe, a fund manager at Chibagin Asset Management in Japan.
The Dow Jones industrial average closed 0.8 per cent lower and the S&P 500 was down 0.5 per cent.
Both indices on Monday had registered their biggest one-day points gain in the wake of last week's panic sell-off.
Tokyo shares dropped 1.4 per cent after clocking up their biggest ever daily gain on Tuesday.
Oil prices fell, while the yen and US Treasuries climbed, amid worries that the bank rescue package could push up government borrowing, with the 2008 US budget deficit already at a record US$455 billion.
Governments have pledged around $3.2 trillion in a variety of schemes that guarantee bank deposits, bank-to-bank lending, and the purchase of new securities to shore up bank capital.
That money is on top of huge open-ended central bank commitments to inject temporary funds to get lending moving again in the face of the gravest financial crisis since the Great Depression in the 1930s.
The nagging uncertainty over how much damage the repackaged toxic US debt linked to US low-quality mortgages has inflicted on corporate and bank balance sheets has made banks increasingly reluctant to lend, threatening to strangle the global economy.
The crisis reached new proportions last month when the failure of Wall Street stalwart Lehman Brothers and US government bailouts of mortgage giants Fannie Mae and Freddie Mac and insurance firm AIG, raised the spectre of an all-out financial sector meltdown.
A flurry of initiatives, including last week's unprecedented round of coordinated interest rate cuts, has calmed fears of a global bank sector collapse and put funds back into money markets, the lifeblood of the financial system.
The Bank of Japan on Tuesday joined other central banks in trying to ease funding bottlenecks, relaxing its collateral rules, but keeping rates unchanged at an extraordinary meeting.
Overnight dollar deposit rates were quoted around 2.0-2.2 per cent in Asia, just above the Fed's 1.5 per cent target.
But the actions are not expected to kick-start the economy any time soon.
'By now, virtually every major sector of the economy has been hit by the financial shock,' Ms Janet Yellen, President of the Federal Reserve Bank of San Francisco, said on Tuesday.
'The economy was weaker than expected in the third quarter, probably showing essentially no growth at all. Growth in the fourth quarter appears to be weaker yet, with an outright contraction quite likely,' she said.
Fellow non-voting Fed member James Bullard said interest rate cuts would do little to counter the credit crisis, and aggressive action by the Fed and the government offered hope the United States would avoid a repeat of Japan's 'lost decade' of stagnation in the 1990s.
The third-quarter corporate earnings season is underway and the US Commerce Department is due to release third-quarter GDP data on Oct 30.
Only a handful of smaller countries, including New Zealand, Ireland and Singapore have so far confirmed they are in a recession, but Japan and Germany, the world's second- and third-biggest economies, have said they were on the brink of a downturn.
For months, market hopes have been pinned on new economic powerhouses such as China and India, but even they are feeling the strain from the global turbulence.
While China's Vice Prime Minister Wang Qishan said the world's fourth-biggest economy was coping well with the global headwinds, a senior government economist warned China should concentrate its efforts on safeguarding growth.
The US bank initiative, which Treasury Secretary Henry Paulson described as 'objectionable', but necessary, would see the Treasury buy non-voting preferred shares in major banks, with stakes in each limited to US$25 billion.
Mr Paulson said nine 'healthy institutions' had agreed to accept government stakes for the good of the US economy. In return, bank executives will have to accept limits on their pay. -- REUTERS