Feb. 27 (Bloomberg) -- European retail sales dropped for a second month in February after a tax increase discouraged German shoppers, the Bloomberg purchasing managers index showed.

A gauge measuring retail sales in the 13-nation euro economy was a seasonally adjusted 49.8 after January's 47.9, a survey of more than 1,000 retail executives compiled for Bloomberg LP by NTC Economics Ltd. showed. A reading below 50 indicates a contraction.

The European Commission and private economists predict that expansion in the 13 euro nations will slow from the fastest pace in six years as export growth ebbs and the European Central Bank lifts borrowing costs. The sales drop slowed in February, underscoring forecasts that the tax increase's impact will fade.

``The first few months of the year will be delicate, especially in Germany,'' said Marco Valli, an economist at UniCredit Markets & Investment Banking in Milan. ``After that, we should see a recovery that's more in line with fundamentals.''

German retail sales led the decline with an index reading of 45 after last month's 43.9, today's report showed. In France, the index rose to 54.7 from a 10-month low in February, and in Italy they rose for a second month.

The region's economic expansion will slow to about 2.2 percent this year from 2.7 percent in 2006, the most since 2000, according to European Central Bank forecasts.

`Spending Less'

``Consumers are spending less and less, not more and more,'' said Maurizio Costantini, director of the Chieti, Italy store of Acqua & Sapone SpA, which sells soaps and beauty products at 400 branches. ``There's a perception that families' income is being squeezed from many sides.''

German retailers, anticipating a drop in first-half sales, will cut more that 20,000 jobs this year, the HDE lobby group estimates. Angela Merkel's government increased value-added taxes to 19 percent from 16 percent on Jan. 1 to reduce the country's budget deficit.

Retail employment fell a second month as companies sought to reduce costs amid falling sales, NTC said. Retailers' profits declined at the fastest pace in six months, with a gauge of profit margins dropping to 44.3 from 45.4 in January, today's report showed.

``It's hard to imagine that activity will continue at the same pace as last year,'' said Susana Garcia-Cervero, senior economist at Deutsche Bank AG in London. ``There should be a gradual deceleration of growth across Europe through the year.''

Price Cuts

Price-cutting in Italy and France helped sustain growth there. At Paris-based Carrefour SA, Europe's largest retailer, fourth-quarter revenue dropped 2.3 percent at stores open at least a year in France, the source of almost half of total sales.

Retailers became more confident about business next month. A gauge of expected sales rose to 59.6 from 54.9, ``suggesting that sales growth may recover over the coming month.'' NTC said. Optimism was the highest among French retailers and the lowest in Italy.

The ECB has already signaled it will raise interest rates again next month to curb inflation after six increases since December 2005. ECB Governign Council Member Nicholas Garganas said economic growth may prove stronger than the bank forecasts and inflation risks are increasing.

``The risks to inflation are clearly on the upside and are growing,'' Garganas said in an interview yesterday. Garganas said rate increases beyond March will depend on the strength of economic data in the second quarter.

Investors expect the Frankfurt-based ECB to raise its main lending rate, currently at 3.5 percent, to 4 percent by September, futures markets suggest.

For the Bloomberg retail indicator, NTC recruited a representative panel of retail companies in Germany, France and Italy, which together make up 80 percent of total euro-region retail sales by value. The panel includes large chain retailers as well as smaller stores.

To contact the report on this story: Sheyam Ghieth in Rome at sghieth@bloomberg.net.

Last Updated: February 27, 2007 07:25 EST