By Emily Kaiser and Mike Peacock
WASHINGTON/LONDON (Reuters) - The U.S. government pushed on Saturday to finalize a plan to buy direct stakes in American banks as the International Monetary Fund warned markets could drop another 20 percent in a worst-case scenario.
Global stocks plunged to five-year lows on Friday as panic gripped. The U.S. S&P index and European stocks suffered their worst week ever, losing around a fifth of their value.
"In a worst-case scenario, governments will need a few more weeks to take the correct measures and the markets could fall another 20 percent. Then, we'll turn around," the IMF's chief economist Olivier Blanchard was quoted as saying in Italian daily Corriere della Sera.
The world's rich nations vowed on Friday to take all necessary steps to unfreeze credit markets and ensure banks can raise money but they offered no collective course of action to avert a deep global recession.
In a surprisingly brief statement after a 3-1/2 hour meeting, the Group of Seven stopped short of backing a British plan to guarantee lending between banks, something many on Wall Street saw as vital to end growing market panic.
However, an emergency meeting of euro zone leaders on Sunday would discuss a bank rescue package taking Britain's initiative as a reference point, a source close to the French presidency said, even though as a non-euro member Britain would not attend.
Reports say Germany is thinking along the same lines.
Britain's rescue plan, launched last week, involved injecting 50 billion pounds ($86 billion) of taxpayers' money into its banks and, crucially, to underwrite interbank lending which has all but frozen around the globe.
Treasury Secretary Henry Paulson said the U.S. government would buy shares of financial institutions if necessary to halt market turmoil that has wiped out trillions of dollars of wealth and threatens to throw the global economy into major recession.
"We're going to do it as we can do it in a proper way that will be effective. Trust me, we're not wasting time, we're working around the clock," Paulson said late on Friday after the G7 meeting broke up.
He declined to discuss the size of the U.S. bank equity purchases but said details were being developed quickly.
Analysts said the G7 statement was unlikely to allay the panic that has swept through markets in recent weeks.
"Right now, everybody's scared, they're panicking," said Mark Waggoner, president of Excel Futures Inc in California.
"No matter what they (G7) do it's not going to be an instantaneous fix and everybody wants a fix that's immediate."
The IMF's Blanchard estimated there was about a 50 percent chance of a recession in the United States and Europe.
EURO ZONE TO PONDER UK MODEL
Leaders of euro zone countries will meet in Paris on Sunday. The Group of 20, which includes reserve-rich emerging economies such as China and Russia, will meet later on Saturday.
EU chiefs are due to hold a regular summit in Brussels on October 15, but the ferocity of this week's turbulence persuaded French President Nicolas Sarkozy to summon the 15 states that have adopted the euro currency for emergency talks.
"There are two competing models. The American model, which no one wishes to draw inspiration from, and the British model. This is what everyone is talking about," the source close to the French presidency said, on condition of anonymity.
French Economy Minister Christine Lagarde told French radio there would be new initiatives. "I am sure there will be new proposals," she said, without elaborating.
Newspaper Die Welt reported on Friday that Berlin was also working on a British-style rescue plan which could involve guarantees of over 100 billion euros and big capital injections.
Magazine Der Spiegel said on Saturday the German rescue package would be fast-tracked into law in the next few days.
Finance Minister Peer Steinbrueck would only say the government was working on a plan, but did add that by Monday a signal would need to be sent "to calm things down."
A meltdown in the U.S. subprime mortgage market last year has crippled parts of the global financial system, leaving many banks facing huge losses and making them reluctant to lend to other banks and big customers in case they go bust.
Without credit, world economic growth will collapse. Investors had hoped the G7 would produce a globally-coordinated plan to get money flowing smoothly again.
Borrowing costs spiked this week even after central banks poured hundreds of billions of dollars into markets and cut interest rates in their broadest coordinated action in history.
U.S. PLAN
Under the U.S. plan, the Treasury will use authority granted by Congress in last week's $700 billion financial rescue legislation to buy shares in financial firms in addition to buying some of their distressed assets such as soured mortgages and illiquid securities.
The move would clear some bad assets off the banks' balance sheets, theoretically freeing them up to lend again. Paulson said a two-pronged approach would be more effective.
"We can use the taxpayers' money more effectively and more efficiently, have it go farther and get more for their dollars and more protection if we develop a standardized program for making and encouraging equity participation," he said.
Japan's finance minister said his country was also considering injecting capital into banks.
(Writing by Mike Peacock; Editing by Janet Lawrence)
