Jan. 31 (Bloomberg) -- Confidence among European executives and consumers slumped more than forecast as inflation accelerated and concern mounted that the U.S. economy may slide into a recession.

An index of sentiment in the euro area dropped to 101.7 this month, the lowest since January 2006, from a revised 103.4 in December, the European Commission in Brussels said today. The inflation rate rose to 3.2 percent, the highest in 14 years, a separate report showed.

Slowing economic growth and soaring prices have created a dilemma for the European Central Bank, which aims to keep inflation just below 2 percent. While ECB officials say the U.S. slowdown will affect euro-area growth, accelerating inflation has restrained them from cutting interest rates and put the bank in what the International Monetary Fund calls a ``difficult'' position.

``The latest batch of data underlines the uncomfortable position the ECB finds itself in,'' said Martin van Vliet, an economist at ING Bank in Amsterdam. ``With headline inflation at a fresh high and with the risk of second-round effects still looming, the room for maneuver to soften the policy stance is limited.''

Economists had forecast that confidence would fall to 104.1 from an initial December reading of 104.7, according to the median of 27 economists surveyed by Bloomberg News. Inflation was forecast to remain at 3.1 percent, a separate survey showed.

Sharpest Drop

The euro was little changed at $1.4867 at 12:50 p.m. in Brussels, while bonds rose. The yield on the two-year German note fell 8 basis points to 3.39 percent. It has tumbled 60 basis points this month, the sharpest drop since March 1995.

Hennes & Mauritz AB, Europe's second-largest clothing retailer, said today that profit growth slowed in the fourth quarter on lower consumer spending in Germany, the U.K. and Sweden, its biggest markets.

At the same time, weaker growth in the U.S., the euro area's second-biggest export market, may curb demand at manufacturers in Europe. Goldman Sachs this week cut 2008 earnings estimates for the continent's biggest carmakers, including Volkswagen AG and Renault SA.

U.S. economic growth slowed to a 0.6 percent annual rate in the fourth quarter from 4.9 percent in the prior three months, according to figures published yesterday. That was half the pace forecast by economists. Also yesterday, the U.S. Federal Reserve lowered its benchmark interest rate by half a percentage point, its second move in less than two weeks.

Rate Cut

While the Fed's Jan. 22 emergency rate cut prompted investors to increase bets that the ECB would lower its benchmark rate later this year, ECB council member Axel Weber said Jan. 24 that such bets may be ``wishful thinking.''

The euro-area economy will be ``affected to some extent'' by slower U.S. expansion, ECB member John Hurley said yesterday. ``We haven't seen the same difficulties in the euro area,'' where economic growth ``is still strong,'' he said.

An index of manufacturers' selling-price expectations increased to a seven-month high, according to today's confidence report, while consumers' inflation expectations remained at 28, above the long-term average of 23. The measures of industrial, services, construction and consumer sentiment all declined, as did consumers' outlooks for their financial situation and for the overall economy.

The International Monetary Fund on Jan. 29 cut its forecast for global growth this year to 4.1 percent, the slowest pace since 2003. The IMF pared its euro-area estimate by half a percentage point to 1.6 percent.

Services Growth

Reports earlier this month showed services growth in the euro area cooled, while manufacturing maintained its pace. European retail sales fell for a fourth month in January as rising fuel and food prices left shoppers with less money to spend, the Bloomberg purchasing managers index showed yesterday.

The drop in retail sales came even as euro-area unemployment remained at a record low 7.2 percent in December, according to statistics office data released today. In Germany, Europe's largest economy, the jobless rate fell to the lowest level in 15 years this month, the country's statistics office said today.

``We don't see reason for lower interest rates,'' said Kenneth Broux, an economist at Lloyds TSB in London. Even though the unemployment declines ``are not feeding through into household consumption yet, it clearly shows that domestic fundamentals are still strong enough.''

The inflation figure published today is an estimate by the statistics office, which will publish a final figure on Feb. 29.

To contact the reporter on this story: Fergal O'Brien in Dublin at fobrien@bloomberg.net.

Last Updated: January 31, 2008 06:59 EST