The Munich-based Ifo economic research institute said on Tuesday its business climate index, based on a monthly poll of around 7,000 firms, rose to 104.1 from 103.4 in January. A Reuters poll of economists had pointed to a fall to 102.8.

The rise was driven by a pick-up in the retail sector, suggesting a reversal of the weak spending pattern seen in the fourth quarter of 2007, when private consumption subtracted 0.4 percentage points from German gross domestic product (GDP).

“That’s a positive surprise,” UniCredit economist Alexander Koch said of the Ifo reading. “Private consumption in Q1 might at least no longer be a burden on growth.”

The euro rose against the dollar and Bund futures fell after the release of the stronger-than-expected Ifo data, which showed a rise in the index for the second month running.

Earlier, official data showed private consumption declined by 0.8% in the October-December period, compared with a quarterly increase of 0.3% in the previous quarter.

The drop in spending slowed fourth quarter GDP growth, which registered 0.3% in seasonally adjusted terms compared with the third quarter, when growth of 0.7% was recorded.

German households have been reluctant to lift their spending despite falling unemployment, with many worried that welfare reforms mean they will have to provide more for themselves in old age, and increasing their savings rate as a result.

An acceleration in inflation to its highest level in nearly 14 years in Q4 of 2007 also hit the economy.

“People are concerned about higher prices and are putting their money aside,” Ulrike Kastens, an economist at Sal. Oppenheim, said after the release of the GDP figures.

The Ifo reading pointed to a revival in retail activity in February. Ifo’s retailing index rose to 1.3 from -17.5 in January, reaching its most positive level in 11-1/2 years.

An index on wholesaling rose to 5.8 from 3.2.

“The improvement in the retail and wholesale climate indicators could be a sign that there is better news on the way about the German consumer after significant weakness at the end of last year,” said Nick Kounis at Fortis.

“This is in line with our view that consumer spending will revive on the back of acceleration in disposable income growth … and that this will help to offset the likely drag from a slowing global economy and the rise in the euro,” he added.

In positive news from Germany’s corporate sector, sportswear maker Puma on Tuesday reported a 20.7% rise in Q4 earnings before interest and tax (EBIT) and said it expected EBIT to rise further in 2008.

The rise in German sentiment contrasted with a bleaker picture in Italy, where business morale fell for the fourth month running in February to its lowest level in 28 months as firms reported a fall in orders.

In the Netherlands, consumer confidence fell to its lowest level in two years in February.

“On the whole, the economic situation of German industry and trade is robust, but the expectations continue to point to a cyclical weakening,” Ifo said in a statement.

A separate Ifo gauge of current conditions rose to 110.3 in February from 107.9 the previous month. A reading of 107.2 had been forecast. The survey’s expectations component dipped to 98.2 from 99.0 in January, compared with the forecast 98.7.

“The pressure on the ECB to cut rates has eased somewhat,” Commerzbank economist Ralph Solveen said. “However, we still expect the ECB to ease monetary policy in Q2.”

Earlier, Ifo President Hans-Werner Sinn told reporters in Brussels it would be premature for the European Central Bank to cut interest rates. The ECB left interest rates on hold at a six-year high of 4% earlier this month. (Reuters)