UPDATE 2-German business shrinks as economy buckles to crisis

Wed Oct 24, 2012 7:22am EDT

* Ifo index surprise fall to lowest since Feb 2010

* German private sector contracts

* ECB bond-buy programme has not calmed real economy

By Annika Breidthardt

BERLIN, Oct 24 (Reuters) - German business confidence and activity plummeted in October, reigniting talk that Europe's largest economy may be headed for recession and dispelling any doubts how much damage the euro debt crisis is inflicting.

Germany's Ifo business sentiment surprisingly dropped to 100.0 in October, its sixth consecutive fall and the lowest reading since February 2010, undershooting the lowest forecasts in a Reuters poll of 45 economists.

"The clouds over the German economy are darkening," said Ifo President Hans-Werner Sinn. Ifo economist Klaus Wohlrabe added: "The uncertainty in the real economy has not decreased."

Private sector activity also shrank for a sixth straight month as factory order books thinned and demand for exports weakened, with the manufacturing element of the Purchasing Managers' Index (PMI) also below all forecasts.

Germany's relative resilience to the euro zone crisis has been gradually eroded as firms put off investment and demand for their goods and services shrinks.

Even a European Central Bank plan to buy struggling member states' debt has not helped the real economy, Ifo said.

The euro hit a one-week low against the dollar and European shares pared early gains following Ifo's release.

RECESSION ON THE CARDS

Data in recent months has suggested stagnation for the rest of the year and spurred talk of the risk of recession.

"Today's leading indicators have added clear evidence that recessionary risks in the German economy are increasing," said Carsten Brzeski, economist at ING in Brussels.

The German government now expects the economy to grow by 0.8 percent this year and by 1.0 percent next year, after 3 percent last year and its 4.2 percent spurt in 2010.

An Ifo index on current conditions also fell more than expected to 107.3 from 110.3. Despite the bleak numbers, economists took some hope from an Ifo sub-index on expectations, which remained flat at 93.2.

While this reading also missed forecasts, it points to developments five months in the future and could be a first sign of a turning point.

"The fact that the Ifo expectations index did not decline further offers the only ray of hope," said Holger Schmieding of Berenberg Bank. "(That does) not dispel the hope that the euro economy could turn the corner early next year."

Germany's export strength helped it power through the first two years of the crisis and kept the euro zone as a whole from falling into recession up until the second half of the year.

But firms are now taking the hit from the crisis and the Chamber of Industry and Commerce (DIHK) cut its estimate for 2012 growth to 1.0 percent from the 1.3 percent it forecast in May. DIHK said it did not expect a recession but the economy would likely grow just 0.7 percent next year.

Its latest survey of some 28,000 member companies reflected deepening gloom about their outlook as weakening euro zone demand for German goods dampened industrial exports.

Sports apparel maker Puma said it was looking at more cost-cutting measures after third-quarter results came in below expectations, hit by a slowdown in Europe. Puma's third quarter net earnings fell by 85.1 percent.

Industrial conglomerate Siemens aims to slash production costs and could cut jobs as business this year proves tougher than expected.

With the crisis now hitting home - even though consumers are not yet feeling the pinch - Germans may become more wary about bailing out other euro zone countries.

Polls show more Germans want Greece to remain in the euro zone than want it out, but their willingness to extend it more credit is wearing thin. Germans also fear the ECB's plans to buy unlimited amounts of bonds could stoke inflation.

ECB President Mario Draghi faces a two-hour grilling from German lawmakers on his bond-buying plan on Wednesday.

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