Business confidence in Germany dropped steeply in July, raising fears that Europe's largest economy could stop growing again.

Germany is the epicentre of economic weakness in the eurozone

Goldman Sachs economist

Given Germany's economic importance, the fall in the closely-watched Ifo index also implies a greater risk of sluggish growth in the rest of Europe, economists said.

In response, Finance Minister Hans Eichel has insisted Germany remains "back on the path to growth" after grappling with a recession during the last six months of 2001.

The Ifo index, compiled from a poll of 7,000 German companies, fell to 89.9 points in July from 91.3 points in June, said the Munich-based research group that produces it.

Interest rates

"Germany is the epicentre of economic weakness in the eurozone," said Fabio Scacciavillani, an economist at Goldman Sachs in London.

Economists had been expecting the Ifo to weaken for the second month in a row, but the decline was much worse than the consensus forecast of 91.1.

As a result, the European Central Bank is unlikely to raise interest rates soon, analysts said.

Weak business confidence is bad news for centre-left Chancellor Gerhard Schroeder, who faces a general election in September and is lagging behind his conservative rival in the opinion polls.

Election issue

German manufacturing firms were the most pessimistic of those surveyed, while service sector firms forecast little change.

The data raises the chances that economic growth will stutter to a halt again in Germany to "fifty-fifty", said Gernot Nerb, chief economist of the Munich-based Ifo research firm.

He said it was too soon to tell if this would happen as another month's figures would be needed.

"We can't yet say from today's data if the German economy is entering if a new downturn or if it's only a short pause," he said.

French shoppers spend more

France's economy presented a brighter picture, however, with consumer spending in June up 1% on the previous month, official figures showed.

However, French economists remained cautious. "It is better than expected though it does not fully compensate for the fall in May," said Emmanuel Ferry of Exane in Paris.

"Consumption is holding up relatively well...However, we remain cautious over prospects for the coming months because of the uncertain job market, the fall in company profits and the rise in public service rates," said Marie-Pierre Ripert, of CDC Ixis.