LONDON/NEW YORK (Reuters) - American International Group Inc shares tumbled 50 percent after the giant U.S. insurer's credit ratings were slashed, feeding market fears as top U.S. investment bank Goldman Sachs reported sharply lower quarterly earnings.

The cost of borrowing between banks surged as financing troubles piled up for AIG and the markets faced further fallout from the failure of investment bank Lehman Brothers Holdings Inc.

The insurer has "a day" to solve its problems, New York Gov. David Paterson said on CNBC television. A failure would result in a "catastrophic problem" for the market, said Paterson, whose administration oversees regulation of AIG.

"A lot is riding on AIG. They got hung up in the real estate debacle," said Andre Bakhos, president of Princeton Financial Group in Princeton, New Jersey. "The longer we go without a tentative deal to inject capital into AIG, the worse things will get."

Britain's Barclays emerged as a possible buyer of some Lehman assets as talks resumed a day after the U.S. investment bank filed for bankruptcy protection.

Leading U.S. and European stock indexes extended their losses as interbank lending rates jumped in a sign of faltering confidence between banks. The overnight LIBOR dollar fixing was the highest since January 2001.

The Dow Jones industrial average slid 150 points in early trading, with banks like Washington Mutual Inc (WaMu) again leading the market broadly lower.

Europe's FTSEurofirst 300 index was down 3.6 percent, while the Dow Jones Stoxx bank index was off 7.5 percent. UBS fell 21 percent, Britain's HBOS lost 35 percent, and Barclays was down 9.8 percent.

AIG was down 50 percent, bringing its decline for the year to 96 percent. Before the decline, AIG was the top U.S. insurer by market capitalization.

Both Moody's and Fitch Ratings cut AIG's rating by two notches, while Standard & Poor's Rating Services lowered its rating by three pegs.

The downgrades mean that AIG's trading partners can require the insurer to post an additional $14.5 billion of collateral, according to an August 6 regulatory filing. They could also result in the early termination of some contracts, requiring an additional $5.4 billion of payments, the filing shows.

"You don't just have a potential impact on the reinsurer side, you have it on the institutions that might be holding AIG paper," said Lorraine Tan, director of research for Asia at agency Standard and Poor's in Singapore.

"This would have a much bigger impact than a bank going down like Lehman or Bear (Stearns), or even a Wachovia or WaMu in the U.S. AIG has a much bigger presence globally. Their reach to a global customer base is quite sizable," she said.

AIG ended 2007 with 116,000 employees, more than four times as many as Lehman.

Asian share markets, many of them closed for a holiday on Monday, tumbled as investors absorbed the weekend's dramatic events on Wall Street, where Merrill Lynch agreed to be sold to Bank of America for $50 billion.

In Singapore, hundreds of anxious investors thronged the office of an AIG unit to redeem their policies.

Again seeking a private solution to Wall Street's woes, the Fed has asked JPMorgan Chase & Co and Goldman Sachs Group Inc to explore arranging $70-$75 billion in loans to support AIG, among other financing options, a person familiar with the situation said.

AIG turned to the Fed late on Sunday after failed talks with several buyout firms and Warren Buffett's Berkshire Hathaway. AIG has also said it is exploring asset sales.

Sharply lower earnings from Goldman, while ahead of expectations, did little to relieve the gloom.

"Revenues were weaker than expected and the stock is trading down," said Steve Goldman, market strategist at Weeden & Co in Greenwich, Connecticut. "All eyes are really on the eye of the storm, which is AIG and the systemic risk it poses to the broader market."

The cost of insuring the debt of Goldman and rival Morgan Stanley against default rose on Tuesday.