HONG KONG (Reuters) - Recession fears grew and investors raced for safe havens after U.S. lawmakers' shock rejection of a $700 billion rescue plan for the financial industry, with Asian stocks skidding after Wall Street's biggest fall since the crash of 1987.
Violent market reaction increased pressure on Washington to approve compromise bailout legislation and fueled expectations that the Fed would cut interest rates on or before its next meeting, which is scheduled for October 29.
"The markets are sending a clear message of the need for a U.S. government scheme of administration of its banking system soon -- anything short of this is not an option," said Peter Pontikis, a strategist at Suncorp Medway in Sydney.
"Unwarranted delays will merely prolong the timeframe of an eventual U.S. recovery," he said.
A week that started badly with the rescue of three banks in Europe and the distressed sale of big U.S. lender Wachovia to Citigroup grew worse after the U.S. Congress was unable to agree on a rescue package.
Shares in Asia were down 3.4 percent in the afternoon, with Tokyo falling more than 4 percent. European stock markets were set to open between 2.5 and 4.4 percent lower after dropping 5.2 percent on Monday to a three-and-a-half year closing low.
Russia's stock exchanges suspended trading on Tuesday after the benchmark index lost more than 7 percent on Monday.
Uncertainty about what comes next, and whether the U.S. Congress can agree on legislation to relieve the worst financial crisis since the Great Depression sent investors into gold and U.S. Treasuries. Oil fell on fears of further economic slowdown, and the Japanese yen hit a 4-month high.
Investors worried that a collapse in financial markets would tip the United States economy into a painful recession that drags the rest of the world down with it.
"We do not rule out a U.S. recession being deep and long and having a severe global impact," said Gerard Lyons, chief economist at Standard Chartered in London.
However, Kansas City Federal Reserve Bank President Thomas Hoenig said that despite a sense that "the sky is falling," the U.S. economy is resilient and will emerge stronger from the current credit crisis.
"We need to take a deep breath and think about what is happening," he told a Kansas City Fed economic forum in Gering, Nebraska.
Fed funds futures showed the market saw a 76 percent chance of a 50 basis point rate cut by October 29.
"With the financial storm as strong as ever and investors now looking to scramble and seek shelter, many see the Fed coming in and cutting rates to stimulate some confidence," Martin Batur, deputy head of dealing at IG Markets wrote in a note.
U.S. President George W. Bush was scheduled to make a statement on the rescue package at 1245 GMT on Tuesday after meeting on Monday with economic advisers including Federal Reserve Chairman Ben Bernanke to consider the administration's next move.
"I was disappointed in the vote that the United States Congress (had) on the economic rescue plan," Bush told reporters in Washington. "Our strategy is to continue to address this economic situation head-on and we'll be working to develop a strategy that will enable us to continue to move forward."
Both supporters and opponents complained about the way the administration presented the proposal as an urgent demand, accompanied by warnings of potential economic collapse, after years of sky-rocketing Wall Street bonuses, abusive mortgage lending, and regulatory neglect by the administration.
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