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Concerns over the weak U.S. recovery and Europe's inability to tame its spreading debt crisis have turned an intense spotlight on the monthly non-farm payrolls report.

"The report is going to be very critical. One of the things that has been the largest headwind to economic growth has been the high unemployment rate," said Jason Ware, a senior research analyst at Albion Financial Group in Salt Lake City, Utah.

"If there isn't job growth, it crystallizes in a lot of people's minds that we are in fact in an environment where growth may be really difficult to come by."

U.S. stocks on Thursday suffered their worst sell-off in two years. European stocks slumped to a level not seen since after the financial crisis in mid-2009.

U.S. payrolls probably rose by 85,000, according to a Reuters survey, after a measly 18,000 gain in June. The unemployment rate is expected to hold steady at 9.2 percent.

Top policymakers at the Federal Reserve will sift through the report when they meet on Tuesday but are not expected to announce any new measures to support the sputtering recovery.

The U.S. central bank has cut interest rates to zero and spent $2.3 trillion on bonds. Policymakers have said they want to see how the economy fares before taking any further action.

July's anticipated jobs growth might not be sufficient to soothe jittery investors. June's rise was the smallest since September 2010 and followed a gain of just 25,000 in May.

The Labor Department will release the July employment report at 8:30 a.m. (1230 GMT)

GROWTH HAS STALLED

U.S. growth stalled in the first half of 2011, fanning fears of a new downturn. Gross domestic product grew at a 1.3 percent annual pace in the second quarter after a scant 0.4 percent rise in the first three months of the year.

Economists said the weakness did not explain the abrupt slowdown in hiring in May and June. Average private payroll growth in the two months skidded to 65,000. It had averaged 230,000 in March and April.

"There is an extremely elevated degree of anxiety that has dominated recently, both the corporate and the consumer sectors. This tends to aggravate what started initially as a moderate slowdown in economic activity in the spring," said Anthony Karydakis, chief economist at Commerzbank in New York.

A stand-off between Democrats and Republicans over raising the country's debt ceiling poisoned the atmosphere for employers and consumers. The economy's poor health has eroded President Barack Obama's popularity among Americans and could hurt his chances of reelection.

The borrowing limit was raised this week in a deal that relied on spending cuts. Economists estimate the budget cuts and expiring stimulus -- including a payroll tax cut and emergency unemployment benefits -- could subtract more than a percentage point from GDP growth next year.

PRIVATE HIRING TO STEP UP

All the gains in non-farm employment in July are expected to come from the private sector, where employment is seen rising 115,000 -- an acceleration from June's 57,000 increase.

Only a fraction of the more than 8 million jobs lost during the downturn have been recovered.

Government payrolls are expected to have dropped by about 30,000 in July, a ninth straight month of job losses. But there is a risk of a steeper decline after a government shutdown in Minnesota left thousands of state workers without paychecks during the survey period for July payrolls.

"Since the jobs recovery began in March last year government agencies have cut 410,000 jobs," said Patrick O'Keefe, head of economic research at J.H. Cohn in Roseland, New Jersey.

With looming budget cuts at the federal government level and state and local governments still tightening their belts, the burden of job creation falls on the private sector.

At an average of 145,000 private jobs a month, O'Keefe said it would take four years to return to the pre-recession employment level.

Within the private sector, most of the job gains are likely to be concentrated in the services sector. Temporary help -- a harbinger of permanent hiring -- will be closely watched after declining for three straight months.

Manufacturing payrolls are expected to add to June's 6,000 gain because of fewer auto plant shutdowns in July for annual retooling. Most auto manufacturers brought forward their plant shutdowns to deal with a shortage of parts from Japan after the March earthquake and tsunami.

The employment report is also expected to show the average work week unchanged at 34.4 hours and with average hourly earnings rising 0.2 percent after being flat in June.

(Editing by Kenneth Barry)

The Dow and the S&P tumbled more than 4 percent on Thursday and the Nasdaq lost 5 percent on fear the United States is staring at another recession and that Europe's sovereign debt crisis is swallowing two of its largest economies.

Analysts predicted further losses even though stocks have fallen on nine of the last 10 days. Two-year Treasury yields fell to a record low as investors sought safety in short-term government bonds.

"People are throwing in the towel because they can't find relief on any front," said Milton Ezrati, market strategist at Lord Abbett Co. in Jersey City, New Jersey, which manages $110 billion in assets.

The S&P 500's drop puts it more than 10 percent below its April 29 high, considered a correction. Nearly 14 billion shares changed hands, the busiest trading day in more than a year. Decliners beat advancers on the New York Stock Exchange by about 19 to 1.

The market's recent malaise stems from a number of factors. U.S. economic data has worsened, suggesting slowing growth from already sluggish pace in the first half. Europe's sovereign debt crisis has defied remedies and threatens to engulf large euro-zone economies Spain and Italy.

"The debt troubles in Europe, especially with the yields on Italian and Spanish government bonds soaring, are making investors gather as much liquidity as possible," said Stephen Massocca, managing director of Wedbush Morgan in San Francisco.

The Dow Jones industrial average was down 512.46 points, or 4.31 percent, at 11,383.98. The Standard & Poor's 500 Index fell 60.21 points, or 4.78 percent, at 1,200.13. The Nasdaq Composite Index lost 136.68 points, or 5.08 percent, at 2,556.39.

Some 13.92 billion shares changed hands on the New York Stock Exchange, NYSE Amex and Nasdaq, the highest since June 25, 2010, and well above the daily average of around 7.48 billion.

Losses occurred in all sectors. Among stocks hitting new 52-week lows were Bank of America, down 7.4 percent at $8.83, Citigroup, down 6.6 percent at $34.81, and Hewlett-Packard, down 5.1 percent at $32.54.

Among sectors, losses in energy and materials outpaced others, with S&P energy down 6.8 percent and materials down more than 6.6 percent.

U.S. crude futures settled down $5.30 to $86.63 a barrel in New York.

The CBOE Volatility index jumped 35.4 percent to 31.66, its highest since July 2010. It was the biggest rise since February 2007.

Overseas, the European Central Bank signaled it was buying government bonds in response to a deepening European debt crisis. In Japan, the government intervened in currency markets to stem recent gains in the yen.

On Friday the government releases July's payrolls report, a closely watched number to gauge the U.S. economy.

(Reporting by Angela Moon; Additional reporting by Richard Leong; Editing by Kenneth Barry)

The comments from Washington's two biggest foreign creditors pointed to growing concern of contagion as Asian stock markets tumbled following Wall Street's steep dive a day earlier. European markets were expected to open down sharply.

French President Nicolas Sarkozy will discuss financial markets with German Chancellor Angela Merkel and Spanish Prime Minister Jose Luis Rodriguez Zapatero on Friday, Sarkozy's office said in a statement.

In Japan, Finance Minister Yoshihiko Noda said global policymakers needed to confront currency distortions, the debt crises and concerns about the U.S. economy.

"I agree that these subjects should be discussed," he told reporters a day after Japan intervened to sell yen. "Each problem is important, but how to prioritize these issues is something to discuss from here on in."

Traders said Japan sold yen for a second consecutive day to try to cap the currency's rise, which puts its exporters at a competitive disadvantage. The yen has become a popular safe-haven bet as concerns about the United States and Europe grow.

China Foreign Minister Yang Jiechi said U.S. debt risks were escalating and countries should step up cooperation on global economic risks. Yang, who is visiting Poland, called on the United States to adopt "responsible" monetary policies and protect the dollar investments of other nations.

The U.S. Federal Reserve holds its next policy-setting meeting on Tuesday, and economists say there is little more it can do to try to spur growth. A flurry of weak economic data and Europe's debt woes have fed fears of a fresh recession, triggering Thursday's sell-off on Wall Street, which was the worst since the global financial crisis.

IHS Global Insight said there was now a 40 percent chance the United States could slip into recession.

CASH IS KING

The market rout extended into Asia on Friday, where markets skidded as much as 5 percent. With investment options running out, funds are flooding into cash.

Japan and Switzerland are trying to reduce the allure of their markets as safe havens and after gold has more than doubled in price since the global financial crisis, many investors are having second thoughts about seeking refuge in the precious metal.

Bank of New York Mellon Corp said it had been overwhelmed with deposits, prompting it to charge some big customers a fee.

Investors slashed positions after the European Central Bank failed to include Italy and Spain in a fresh round of bond buying, even though yields on their debt shot above 6 percent, the highest level since the euro was launched over a decade ago.

ECB President Jean-Claude Trichet said there was not full support in the central bank for the action, underscoring deep divisions within Europe over how to handle a debt crisis that has forced Greece, Ireland and Portugal to seek bailouts.

Investors worry that Italy and Spain, the euro area's third- and fourth-biggest economies, could be next.

Sarkozy said France, Germany and Spain had talked to Trichet. U.S. officials from the Federal Reserve, the U.S. Treasury and the White House declined to comment on whether they were holding any discussions with European or Asian officials.

Investors had hoped the ECB would target Spanish and Italian debt in reviving its bond-buying stimulus program, but it restricted the purchases to Irish and Portuguese securities, not Italy's or Spain's.

Roberto Perli, managing director at ISI Group and a former staffer at the Federal Reserve, called the ECB's action "mysterious."

"It sent the wrong message," he said.

Belying a sense of crisis, many of Europe's policymakers are still on summer vacation, although EU Economic and Monetary Affairs Commissioner Olli Rehn broke away from his holiday to return to Brussels. He plans a news conference on Friday.

Italian Economy Minister Giulio Tremonti voiced frustration at the ECB's response. When he talked to Asian investors, they had told him: "If your central bank doesn't buy your bonds, why should we buy them?"

Longer term, some sort of supranational fiscal authority was needed, transferring some of the debt burden of troubled countries to the region as a whole, analysts said. That option is not seen as politically palatable to Germany and France now.

Analysts said they would look to see if European leaders are willing to expand its emergency financial stability fund to an amount that would put a floor under the market panic.

They say the fund, currently 440 billion euros, would need to be doubled or tripled to cover economies as big as Italy and Spain.

U.S. PROBLEMS COMPOUND UNCERTAINTY

In the United States, a similar sense of political paralysis reins. Just days after a bitterly fought, last-minute deal to raise the country's debt ceiling and avoid default, realization has sunk in that many elements of the $2.1 trillion deficit reduction plan are short term and not locked in place.

Doubt has spread through markets that Congress will stick to implementing it in full after the November 2012 elections.

This, combined with a bout of poor economic data, points to a heightened risk of another slump. Lawrence Summers, a senior adviser to the U.S. president until last year, argued in a Reuters column that there is a one in three chance of recession in the United States.

U.S. employment numbers will be critical to market sentiment. Forecasts are for a tepid 85,000 jobs added in July, but a weak number or even contraction would boost concern that the United States is heading into recession.

The U.S. jobless rate has risen for three consecutive months, and another increase would send a strong recession signal, Goldman Sachs said.

Many economists say chances are slim that Congress would endorse a further round of fiscal stimulus now that it is focusing on fiscal spending cuts.

"I don't see a well functioning government that can do something," said Jeff Frankel, economics professor at Harvard University and former White House economic advisor under Bill Clinton. "If everything is blocked politically, especially fiscal policy, there's nothing much you can do."

Options for the Fed are also severely restricted. Policymakers appear reluctant to embark on another round of bond purchases, particularly given how controversial the last program proved to be.

Still, Fed Chairman Ben Bernanke has noted other options, such as bolstering its assurance that rates will stay low for an extended period.

Nonetheless, few expect such efforts to have much of an impact, particularly since the economy's chief problem at the moment appears to be a lack of jobs, not credit.

"The Fed has mentioned what their menu of tools is for easing, the problem there is several of them really have no significant macro economic benefit," said Michael Gapen, senior economist at Barclays Capital.

(Additional reporting by Kristina Cooke, Walter Brandimarte and Emily Kaiser; Editing by Stella Dawson, Neil Fullick and Dean Yates)