By Steven C. Johnson
NEW YORK (Reuters) - Europe's debt crisis looks more intractable than ever. The Federal Reserve appears to be shooting blanks when it comes to firing up the U.S. economy.
Add in signs that Chinese growth is slowing by the day, and it explains why financial markets took a hammering on Thursday, with global stock markets, oil, metals and even gold sliding.
And investors now fear there isn't much that authorities can do to stop the slide: central banks are running out of ammunition and political will among U.S. and European leaders is in short supply.
Even as central bankers and finance ministers from the world's largest economies met in Washington, few were holding out hope for a miracle solution.
"People are losing confidence in policymakers altogether," said Kathy Lien, director of research at GFT Forex, an online retail currency platform. "If they keep failing to boost growth and confidence, we may see the kind of deep global crisis we saw three years ago."
In 2008, investment bank Lehman Brothers' collapse nearly brought down the entire American banking system and pushed much of the world economy into recession.
This time, the main fault lines are in Europe, where officials have struggled to come up with decisive plans to address a possible Greek default and drum up resources to support other troubled countries and banks.
But U.S. officials have hardly been more inspiring. Fed policies look increasingly impotent, and political bickering ahead of the 2012 election has reached a fever pitch.
"Popular trust in the agencies of government is declining everywhere," said Robert Madsen, senior fellow at the MIT Center for International Studies. "The pattern of a crisis followed two or three years later by a stark deterioration in political power is exactly what occurred in most of the major economies other than the United States in the early 1930s."
That left governments grasping at bad policies such as protectionism, which halted world trade and deepened the depression in most economies. In Germany, Madsen noted, economic privation and distrust in leaders enabled the rise of Hitler.
"I don't see anything like Nazism happening now," he said, "but the gradual erosion of centrist power seems almost inevitable."
EYE OF THE STORM
Markets are already flashing signs of distress.
The S&P 500 tumbled 3.2 percent Thursday, its fourth straight decline, and European shares hit a 26-month low. Copper crashed 7.5 percent to its lowest price in a year, benchmark Brent crude oil fell more than 5 percent, while the 10-year Treasury yield fell to 1.71 percent, its lowest in at least 60 years, as investors sought safety.
Investors worry a default in Greece or elsewhere could spark a crisis for euro zone banks with a lot of troubled government debt on their balance sheets.
David Gilmore, principal of currency advisory firm Foreign Exchange Solutions, said the lack of a common fiscal policy and bickering among national leaders does not inspire hope.
"I can't see how Europe avoids a major crash in asset prices, the euro and the banking system, and I can't see how anywhere else on the planet avoids serious contagion," he said.
Seven world leaders urged Europe on Thursday to "confront the debt overhang to prevent contagion to the wider global economy.
Possible remedies, such as recapitalizing European banks so they can cope with sovereign defaults or adopting a common eurobond for member states, have so far gained little traction.
A European Central Bank study, co-authored by an outgoing executive board member, said the euro project is in danger due to runaway spending and the ongoing sovereign debt crisis.
The euro hit an eight-month low beneath $1.34 Thursday, and there are predictions that it will fall further. Barclays Capital sees the euro falling to $1.25 in three months.
FED OUT OF AMMO?
Many have taken the ECB to task for being slow to cut interest rates. The Fed, meanwhile, appears to be all out of bullets -- and markets know it.
In 2008, the U.S. central bank cut rates sharply to zero and recently pledged to hold them there until at least 2013. It has also poured $2.3 trillion into the financial system through asset purchases, a policy that helped boost stock prices but did little for an economy where growth has slowed to a crawl and the jobless rate remains stuck above 9 percent.
But the Fed's latest move on Wednesday -- targeting lower long-term interest rates by selling Treasuries with short maturities to buy longer-dated ones -- was met with a sharp stock market selloff and widespread doubts about its ability to boost growth.
"It was a terrible omen, because the stock market had rallied like clockwork after previous Fed policy moves as if it were Christmas day," said Michael Cheah, who helps oversee $1.5 billion at SunAmerica Asset Management. "This was the first time the market reacted very badly. It shows they are out of magic dust."
Bill Gross, manager of PIMCO, the world's largest bond fund, told Reuters in August, "It is increasingly apparent to us that policy options are limited and that economic growth is slowing down."
With consumers not willing to spend and businesses wary of hiring, some investors have called for the government to step up spending to keep the economy afloat.
"Without it, at best, we muddle along. At worst, we double dip," Doug Kass, who runs hedge fund Seabreeze Partners in Palm Beach, Florida, wrote in a note to clients.
But with the United States already running one of the largest budget deficits as a share of output since World War Two, political opposition to such spending is high.
President Barack Obama proposed a $447 billion job package this month but is facing stiff resistance from Republicans, who object to tax hikes on the rich to pay for it.
In the past 24 hours, markets even had the specter of a government shutdown to contend with after the House of Representatives defeated a bill Wednesday that would fund federal operations past September 30.
Republicans said the issue will be sorted out, but the flap conjured bad memories of a summer battle over the debt ceiling that ended with the United States losing its top AAA credit rating.
What's more, a bipartisan group of U.S. senators is pushing a bill that would crack down on China for keeping its currency undervalued against the dollar. Economists fear that may spark a trade war, another threat to a healthy world economy and another echo of the 1930s.
ROOM FOR OPTIMISM
There could be a silver lining to all the turmoil, though. "Policymakers -- be they in the U.S. Congress or Europe -- often need a crisis to act," said Jack Ablin, chief investment officer at Harris Private Bank, with $55 billion under management. "Maybe watching the stock market plunge in the last 24 hours will light a fire under them."
For the bold, the latest market swoon may be a golden opportunity to buy on the cheap.
David Kotok, chairman and chief investment officer at Cumberland Advisors, said guaranteed S&P 500 index yields as a percentage of stock prices still look set to outpace yields on government bonds, calling it "an extraordinarily high reward for anyone willing to invest in stocks."
But Cheah said investors should play it safe for now.
"When driving into a thunderstorm, you slow down and, if possible, stop the car. This is not the time to say the stock market is cheap, I want to buy or the bond market's overvalued, I'm going to short it," he said. "If you go to cash, you live to fight another day."
(Additional reporting by Jennifer Ablan in New York; Editing by Martin Howell and Leslie Adler)