Pound hits 2-1/2-year low vs dollar

The spread of U.S. economic weakness to other countries was reflected in global stock markets. Evaporating risk appetite pushed sterling to a 12-year low against a basket of currencies.

"Markets are just very, very risk averse ... we're seeing liquidation across the board. High-yielding assets are being sold," said Geoffrey Yu, currency strategist at UBS.

"Sterling is considered a risk currency under current circumstances: it's got a slowing economy and a current account deficit ... so trades taken on for yield are being unwound."

The Bank of England left interest rates unchanged at 5 percent on Thursday, but a rapidly deteriorating economic outlook has lent support to arguments for a rate cut, even though inflation pressures persist.

Such a move would decrease sterling's yield advantage over assets denominated in other currencies.

On a trade-weighted basis, the pound extended losses for 10th consecutive day to fall to 87.9, its lowest since October 1996.

Sterling slumped as low as $1.7538 before recovering to $1.7611 by 9:30 a.m., up a touch on the day. Still, the exchange rate has fallen nearly 3 percent this week, a phenomenon that has occurred only three times since 2000.

It continued to suffer against the euro, which rose 0.2 percent to 81.02 pence, staying near a record high of 81.86 pence hit on Thursday.

Risk aversion was stoked by a 0.7 percent slide in European shares , which followed steep losses in Asian and U.S. shock markets.