Aug. 14 (Bloomberg) -- European consumer prices dropped more than initially estimated in July as energy costs decreased and rising unemployment prompted households to cut spending.

Prices in the 16-member euro region fell by a record 0.7 percent from the year-earlier month after declining 0.1 percent in June, the European Union statistics office in Luxembourg said today. The decline exceeded the 0.6 percent estimate published on July 31 and the median forecast of 30 economists surveyed by Bloomberg News. In the month, prices declined 0.7 percent.

Companies from Carrefour SA to Unilever have offered discounts to encourage consumers to spend just as a 39 percent drop in oil prices over the past year pushes down inflation. The European Central Bank on Aug. 6 kept its key interest rate at a record low to support the economy, with President Jean-Claude Trichet saying inflation will turn positive later this year.

“We’re in an environment of continued downward price pressures, given rising unemployment,” said Mario Jung, an economist at BHF Bank in Frankfurt. “The environment will remain very weak even with an economic recovery. It’s not enough for companies to push through higher prices.”

The core inflation rate, which excludes volatile energy and food costs, eased to 1.3 percent in July, the lowest in three years, from 1.4 percent in June. Energy prices dropped 14.4 percent in July from a year ago and fell 1.8 percent from the previous month.

‘Tough’ Conditions

Adding to signs of waning price pressures, European producer prices dropped a record 6.6 percent in July from a year earlier. In Germany, Europe’s largest economy, consumer prices posted their first annual drop in more than 22 years in July and wholesale prices plunged a record 10.6 percent.

The headline inflation rate may rise in the coming months as the impact of the oil-price decline from a July 2008 record begins to fade, said Eoin O’Callaghan, an economist at BNP Paribas in London.

The core rate “should continue to grind lower as the wide output gap continues to weigh on prices,” he said. “This should progressively challenge the view that deflationary risks in the euro area are limited.‘”

Unilever, the world’s second-largest consumer-goods maker, said on Aug. 6 that price cuts helped boost Western European sales in the second quarter. Paris-based Carrefour, Europe’s largest retailer, last month reported a second straight drop in quarterly sales due to “tough” conditions in France and Spain.

‘Confident’

Evidence is mounting that the worst of the recession may be over. The euro-area economy contracted 0.1 percent in the second quarter after shrinking 2.5 percent in the previous three months, while Germany and France returned to growth, data showed yesterday.

Henkel AG, the German maker of Persil detergent, on Aug. 5 forecast a “slightly better” performance from its adhesives unit in the current quarter. L’Oreal SA said on July 30 that second-quarter sales gained 2.6 percent. The Paris-based company is “confident” performance will keep improving in 2009, Chief Executive Officer Jean-Paul Agon said that day.

Even as growth recovers, rising unemployment may restrain consumer spending. The euro-area jobless rate increased to 9.4 percent in June, the highest in a decade. European retail sales fell for a 14th month in July, the Bloomberg purchasing managers index showed on July 30.

The ECB, which aims to keep inflation just under 2 percent, has cut its benchmark rate to a record low of 1 percent and started buying as much as 60 billion euros ($86.4 billion) of covered bonds to stimulate lending and boost the economy. The Frankfurt-based bank forecasts that euro-region inflation will average 0.3 percent this year and around 1 percent in 2010.

“At the moment, rates are appropriate,” Trichet said in an interview with Bloomberg Television in Frankfurt on Aug. 6. “We are very keen on avoiding deflationary risk and avoiding inflationary risk in the medium term.”

To contact the reporter on this story: Simone Meier in Frankfurt at smeier@bloomberg.net

Last Updated: August 14, 2009 06:16 EDT