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Testing time for German economy as business morale dips

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(Globalpost/GlobalPost)

By Annika Breidthardt

BERLIN (Reuters) - German business morale fell in March, breaking a four-month run of gains and highlighting concerns the reignited debt crisis in the euro zone will test the resilience of Europe's largest economy.

The Munich-based Ifo think tank said on Friday its business climate index, based on a monthly survey of some 7,000 firms, fell to 106.7 in March, down from 107.4 in February and below a forecast of 107.6.

Months of relative calm in the euro zone came to an end with an inconclusive election in the bloc's third-largest economy Italy, and a crisis over emergency funds for Cyprus that could culminate in the island state exiting the common currency.

Ifo economist Klaus Wohlrabe said more than 85 percent of survey responses had come before the latest developments in Cyprus, whose leaders are scrambling to strike a bailout deal with international lenders to avert a banking collapse and sovereign default.

David Brown of New View Economics said the survey suggested "the bells are starting to toll in Germany that the euro zone crisis is about to hit recovery prospects again.

"The biggest risk right now is that euro contagion is once again uncaged and ready to rip through the heart of economic confidence," he said.

The Ifo data, which followed on from a modest PMI survey on Thursday that showed Germany's business expansion lost steam in March, sent the euro to a two-week low against the yen.

But most economists still expect Germany to skirt recession and regain economic momentum as 2013 progresses.

"TEFLON ECONOMY"

Germany shrugged off the first two years of the euro zone crisis with solid growth, gaining the sobriquet "Teflon economy". But weakness in its main trading partners weighed in the fourth quarter, causing it to shrink by 0.6 percent.

Wohlrabe said he expected a bounce-back to growth in the first quarter and in the year as a whole. The government expects economic growth of 0.4 percent this year after 0.7 percent in 2012.

Benefiting from a strong labour market with unemployment near a two-decade low, Germany's economy contrasts sharply with that of recession-mired countries in Europe's heavily indebted southern periphery such as Greece, Italy and Spain.

Nearly two thirds of Germans, however, expect the euro zone crisis to worsen and almost half fear for their savings, according to an opinion poll released on Friday.

Germany has led a push to get the rest of the euro zone to embrace tough reforms to regain competitiveness and reduce debt, and officials have voiced concerns over growth even in France, the euro zone's second largest economy.

Manufacturing industry morale in France, a closely watched business sentiment indicator, was stable this month, data showed on Friday, a day after PMI data showed French business activity worsened in March at the fastest pace in four years.

But at 90 it is still much lower than the historical average of 100 and, together with a 4 point drop in the services sentiment indicator to 84, helps paint a bleak picture of an economy struggling to stay out of recession and increasingly falling further behind Germany.

Recent data have drawn a mixed picture in Germany, with some economists noting that positive sentiment indicators have overshot actual performance. Industrial output stalled in January and orders slid, while retail sales rose sharply, already-low unemployment edged down and exports increased.

CORRECTION

Carsten Brzeski of ING said the March fall in the Ifo was a correction after a very strong February reading.

"Despite today's drop, the absolute level of all components still points to growth in the first quarter," he said.

Ifo said expectations for exports, traditionally the backbone of Germany's economy, had clearly sunk but remained positive. It added that strong domestic demand helped the German economy remain on track in a "challenging environment".

Some German companies are looking beyond Europe for growth in order to make up for a tougher environment closer to home.

Fashion house Hugo Boss <BOSSn.DE> said it expected stronger sales in Asia this year and HeidelbergCement <HEIG.DE> said on Thursday it expected operating income to grow due to stronger demand from North America, Asia and Africa.

Volkswagen <VOWG_p.DE>, Europe's biggest carmaker, plans to almost double output capacity in China over the next five years.

A gauge on firms' expectations fell to 103.6 from 104.6 in February, while the assessment of their current situation also darkened to 109.9 from 110.2.

(Reporting by Berlin bureau, additional reporting by Ingrid Melander in Paris,; Writing by Annika Breidthardt; Editing by Gareth Jones and John Stonestreet)

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