News the annual U.S. trade deficit had declined meant U.S. products were selling well overseas, but a strong rally in the commodities markets sparked inflation concerns.

Fed Chairman Ben Bernanke testified before the Senate Banking Committee, saying he expected the economic stimulus package to have little impact before the second half of the year.

The Dow Jones industrial average dropped steadily Thursday, falling to 12,376.98 points on the close, off 1.4 percent or 175.26 points. The Standard & Poor's 500 index lost18.35 points to 1,348.86, down 1.34 percent. The The Nasdaq composite index declined 41.39, off 1.74 percent, to 2,332.54.

Stocks declined with 748 stocks up and 2,356 down on the New York Stock Exchange with 3.616 billion shares trading hands.

The 10-year U.S. Treasury note fell 31/32 to yield 3.8 percent.

The dollar was lower. The euro traded at $1.4639, compared with $1.4569 Wednesday while the dollar traded at 107.97 yen, up from 108.27 yen Wednesday.

In Tokyo, the Nikkei average followed U.S. markets' strong posting on Wednesday with a big jump, rising 558.15 points or 4.25 percent to 13,626.45.

The FTSE 100 index in London was virtually unchanged at 5,879.30.