A deterioration in business confidence in Germany has increased the chances that the European Central Bank (ECB) could cut interest rates as early as next week.
Ifo, the Munich-based economic institute, said its closely watched business climate index had fallen to 95.4 this month from 96.4 in February - the second successive monthly fall - and warned that the fragile euro-zone recovery was at risk.
Mr Hans-Werner Sinn, the Ifo president, said the ECB needed to act now or risk seeing the upturn in Europe "come to grief". He strongly urged the central bank to cut rates by a quarter point to boost flagging confidence.
Financial markets have been buzzing with speculation of a rate cut since the ECB's policymakers showed signs of softening their tone in the run up to the rate-setting meeting scheduled for next Thursday.
Earlier this week, Mr Jean-Claude Trichet, ECB president, hinted that the bank might reassess its policy stance if household consumption failed to pick up as expected.
He was backed by Mr Guy Quaden, governor of Belgium's central bank, who said the European bank still had "ammunition available" if it was needed to boost the fragile recovery.
Economists have interpreted the comments as a strong signal that the ECB is ready to cut rates if economic data weaken.
The bank had "opened the door" to the possibility of a cut, according to Mr José Luis Alzola, of Citigroup.
However, the economists have said that the timing of the ECB's next move remained uncertain.
Mr Lorenzo Codogno, at Bank of America, said he expected a 50 basis point cut in the second quarter. Next week was "a little bit too early", he said, although it could not be ruled out.
But Mr Robert Prior, of HSBC, said a cut on Thursday was "a pretty close call".
The fall in the index added to mounting evidence of a faltering euro-zone upturn and fuelled fears that Germany, which accounts for one-third of the currency area's output, may be slipping back into stagnation.
Mr Wolfgang Clement, German Economics Minister, said it was a "further warning signal".
Mr Wolfgang Wiegard, head of the government's panel of economic advisers, said the risks to the German recovery had grown.
Mr Sinn said the drop in business sentiment was not a temporary blip that might soon be reversed. He added that the Ifo survey had shown no significant impact from the Madrid bomb attacks two weeks ago.
Ifo said confidence had been hit by the weakness of domestic demand and noted a sharp drop in sentiment in the retail sector, which will be of concern to the ECB. Mr Trichet has stressed that a revival in consumer spending is vital to sustain the euro-zone recovery.
