The S&P/TSX composite index plunged 435.89 points to 12,380.13, its biggest one-day decline since late June, 2009, while the TSX Venture Exchange fell 112.34 points to 1,853.34.
The Canadian dollar also got caught up in the downdraft as tumbling prices for oil and metals helped push the currency down 1.8 cents to 102.09 cents US.
New York markets also fell hard, with the Dow Jones industrial average tumbling 512.76 points to 11,383.68. The Nasdaq composite index dropped 136.68 points to 2,556.39 while the S&P 500 index was down 60.27 points to 1,200.07.
Just a couple of weeks ago, investors were concerned the U.S. economy had hit a soft patch. Since then a raft of economic data have raised worries it will slip back into recession. Manufacturing, consumer spending and hiring by private companies are below levels that are consistent with a healthy economy.
"It has now become completely about the economy," said Sid Mokhtari, market technician at CIBC World Markets.
"The evidence suggest there is now the risk of a serious economic slowdown."
Investors will be looking towards economic data released Friday for more perspective on the direction of the U.S. economy.
Expectations are modest for tomorrow's U.S. non-farm payrolls report for July, with economists expecting something in the neighbourhood of 75,000 jobs created. Pessimism deepened after jobless insurance claims last week were down by only 1,000.
"If numbers are in line or below what the consensus is, I think we will see the selling pressure continue," added Mokhtari.
"If it's better, above estimates, it's reasonable to say that maybe we can set the tone a little bit better. But having said that, you need about a month or so to get another round of numbers coming at us before we can put a bottom to this thing."
Canadian jobless figures for July will also be released on Friday and economists expect about 20,000 jobs were created.
Stock buying sentiment has also been hard hit recently by concerns that Italy or Spain may need financial help from the European Union. The benchmark stock indexes in Italy, Germany and England each fell by three per cent Thursday.
Markets have also been driven lower by the weeks of bitter partisan wrangling that preceded an agreement by American lawmakers to raise the U.S. debt limit and avoid a default. The flight to safety has resulted in large investors moving so much money into cash accounts at Bank of New York that on Thursday the bank said it would begin charging some clients a 0.13 per cent fee to hold their cash.
The sour sentiment has taken a substantial toll on the TSX, which has lost ground in six of the last eight sessions, taking the Toronto market down more than eight per cent below where it started 2011 trading.
Energy stocks were a big loser on the TSX as oil prices fell a fifth day on demand concerns, plunging well below US$90 a barrel. The September crude contract on the New York Mercantile Exchange lost $5.30 to US$86.63 a barrel, the lowest close since mid-February. The day also marked oil's biggest one-day drop since early May.
The energy sector fell 4.1 per cent as Suncor Energy (TSX:SU) fell $1.53 to C$33.12 while Canadian Natural Resources (TSX:CNQ) was down 64 cents to $36.19.
Mining companies also sold off with the sector falling 7.63 per cent as September copper closed down nine cents to US$ a pound. Teck Resources (TSX:TCK.B) dropped $3.07 to C$42.90 while First Quantum (TSX:FM) declined $9.23 to C$116.19.
Gold prices backed off after investors, looking for a safe haven while fleeing risky assets such as shaky European government bonds, pushed bullion to a series of record highs recently. But on Thursday, the December contract in New York declined $7.30 to US$1,659 an ounce. Goldcorp Inc. (TSX:G) lost $2.04 to C$44.88 while Barrick Gold Corp. (TSX:ABX) faded $1.93 to $45.38.
All sectors were lower with the financials sector down 1.6 per cent amid solid earnings reports from two big insurance companies. Royal Bank (TSX:RY) fell 57 cents to $50.73 and Scotiabank (TSX:BNS) lost 98 cents to $52.30.
The Canadian dollar was also affected by the Bank of Japan's move to control the rise of the yen by selling the currency and buying the greenback.
Japanese Finance Minister Yoshihiko Noda said financial authorities decided to intervene in the currency markets because the strong yen could hurt the country's export-dependent economy.
There was plenty of earnings news for investors digest.
On Thursday, telecom giant BCE Inc. (TSX:BCE) said its profits declined 2.5 per cent in the second quarter to $590 million or 76 cents a share. The slippage was largely due to costs associated with its purchase of the rest of the assets of CTV that it didn't already own. Its shares dropped 58 cents to $36.13.
Air Canada (TSX:AC.B) shares were off 10 cents to $2.01 as it narrowed its losses to $46 million in the second quarter.
WestJet (TSX:WJA) shares lost 38 cents to $13.85 even as the carrier reported that it saw its second-quarter profits soar almost 275 per cent to $25.6 million as higher fares and cost controls helped offset increased fuel prices.
And in the U.S., General Motors Co. said its second-quarter profit nearly doubled to US$2.5 billion but its shares lost $1.18 to C$25.99.
After the markets closed Wednesday, Sun Life Financial (TSX:SLF) reported a five-fold increase in its second quarter profits to $408 million and its shares got caught up in the market selloff and lost 41 cents to $25.55.
Great-West Lifeco Inc. (TSX:GWO) shares dropped 38 cents to $23 as it reported its net earnings jumped to $526 million, up from $455 million a year ago.