The FTSEurofirst 300 index of leading European shares fell 4.1 per cent to 910.06 points, the lowest close since 19 August.
The Euro Stoxx 50 dropped even more heavily, down 5.1 per cent on the day, while there were also serious losses in the French CAC, which closed down 4.73 per cent, and the German DAX, which tumbled 5.28 per cent. In London, the FTSE shed 3.6 per cent.
Banks across Europe were also hit by the US lawsuit connected to the packaging of toxic mortgage debt.
The STOXX Europe 600 Banks index fell 5.9 per cent and hit a 29-month low. It has lost more than a third of its value in 2011, and is the worst performing European sector.
Deutsche Bank fell 8.9 per cent, extending a decline from Friday, when news of the lawsuit first hit shares in the sector.
Other banks to fall included Royal Bank of Scotland, down 12.3 per cent yesterday.