After years of booming house prices and cheap credit - interest rates have been historically low - the US housing market is now in reverse with loans becoming more expensive and prices falling.
Defaults and repossessions
This has caused high numbers of defaults and repossessions as borrowers, particularly high-risk subprime borrowers, struggle to keep up with their repayments.
After several weeks of turmoil on world stock markets due to the subprime crisis, fears appeared to recede earlier this week.
But on Thursday French banking giant BNP Paribas spooked the market when it said it had suspended three investment funds exposed to the US housing market because it was unable to value the assets.
A short time later the European Central Bank pumped a record 94.8 billion euros into the money supply - far more than it had injected in the aftermath of the September 11, 2001 attacks - and followed up with another 61.05 billion euros on Friday.
An analyst at the Morgan Stanley US investment bank, adding that "the European financial system is facing a serious but not catastrophic crisis".
US liquidity injection
The Federal Reserve for its part pumped $35 billion into the US banking system and said it was ready to inject more if necessary.
Before Wall Street opened, the Fed infused $19 billion in a market operation that was conducted more than an hour before its usual time.
"It's that unnerving effect of the unknown which is spooking investors at the moment"
Henk Potts,
analyst at Barclays Stockbrokers |
It also took the unusual step of making a statement after the first operation - the first time it's done so since the September 11, 2001 - in an attempt to calm investors' fears.
By late morning, $16 billion had been injected in a second market operation - an unusual occurrence for a Friday.
The last time the Fed conducted two operations on a Friday was more than two years ago.
US stock indexes sharply cut their morning losses after the Fed's second liquidity injection, which occurred shortly before 1500 GMT.
At midday, the Dow Jones industrial average briefly turned higher and then dipped in volatile trading. Both the Standard & Poor's 500 index and the Nasdaq Composite Index achieved modest gains after 1600 GMT, reversing their earlier slide.
In its statement after Friday's first market operation, the Fed said it would provide liquidity as needed "to facilitate the orderly functioning of financial markets.
World Market slide
Several other central banks around the world pumped lesser amounts into their banking systems.
But stock markets continued to slump across the world, with volatile US markets moving sharply lower before rebounding in midday trade.
"It's that unnerving effect of the unknown which is spooking investors at the moment," Henk Potts of Barclays Stockbrokers in London said.
Banking stocks were among the worst hit.
The human face of the current financial crisis is likely to be a low-earning American, possibly someone who took on a mortgage they could ill-afford and whose mortgage broker did inadequate checks on their ability to repay.
The link between these people and turmoil in financial markets involves much financial trickery that enabled banks and funds all over the world to make investments that are essentially bets on borrowers repaying their mortgages.
Banks are now setting aside cash as a precaution against further losses from their bad investments and have become far more cautious about lending.
This is known as a "credit squeeze," but the fear is that this could become a veritable "credit crunch" in which companies and consumers have inadequate access to loans.
A shortage of liquidity would restrict the ability of companies, and eventually consumers, to borrow, potentially slowing economic growth worldwide.