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LONDON (Reuters) - The euro jumped and European shares turned higher on Wednesday after a European Central Bank policymaker said there were reasons to boost the firepower of the euro zone's new bailout fund to tackle the region's deepening debt crisis.
Governing Council member Ewald Nowotny said there were arguments for giving Europe's permanent rescue fund a banking license which would allow it to borrow unlimited ECB money, an idea that the central bank has rejected so far.
Investors have become increasingly worried that the firepower of the new fund would be hugely diminished if, as widely expected, Spain needs a full scale sovereign bailout on top of the rescue deal for its banks.
The euro jumped 0.5 percent to $1.2128 on the comments although its outlook remains weak with the single currency not far from a two-year low of $1.2042.
"The market is desperate and jumping on anything that even looks remotely positive. The squeeze higher will fade now and we'll probably print a fresh negative later on today," said Geoff Kendrick, currency strategist at Nomura.
Weak economic data from Germany and the UK reinforced that expectation as it showed the European Union's biggest economies are being dragged into the mire of the debt crisis.
German business sentiment dropped in July for the third straight month to its lowest level since March 2010, according to the latest survey by the Munich-based Ifo think tank.
The monthly survey of some 7,000 companies, produced an Ifo index reading of 103.3 for this month from a revised 105.2 in June.
"Today's Ifo index sends a clear warning that even the most solid ship can capsize in a rough thunderstorm," Carsten Brzeski, senior economist at ING Group said.
"With austerity-driven slowdowns coming now also to most other core euro zone countries, an obvious cooling of the Chinese economy and a still not very dynamic U.S. recovery, order books are emptying and companies have started to reduce stocks," he said.
Britain's economy is also suffering heavily from the impact of the euro zone crisis on business and consumer sentiment.
The UK tipped into a second recession within four years at the end of last year, and second-quarter data out Wednesday showed the situation had worsened. ECONGB
The Office for National Statistics said Britain's gross domestic product fell 0.7 percent in the second quarter of 2012 after contracting by 0.3 percent at the start of the year, much worse than forecasts.
"The economy looks to be badly holed below the water line at this stage. It's a far worse period of activity than we'd expected," said Peter Dixon, an economist from Commerzbank.
Worries about Spain's ability to fund itself as it faces rising demands from regional governments for help overcoming spiraling deficits were undiminished and unaffected by the Nowotny comments.
Spanish 10-year government bond yields were three basis points higher at 7.67 percent, close to a euro era high of about 7.75 percent.
Spain needs to find 50 billion euros in funding this year and an auction of three- and six-month bills on Tuesday, at which it paid the second highest yield on short-term debt in the euro era, showed its access to market was shrinking.
Greece was also back in the headlines with inspectors from the EU, ECB and International Monetary Fund in Athens to decide whether to keep it hooked up to a 130-billion-euro lifeline or let it go bust.
Three EU officials have said the team was likely to conclude Greece cannot repay what it owes, making a further debt restructuring necessary.
The combined concerns over growth and the euro zone debt crisis saw MSCI's world equity index .MIWD00000PUS edge down about 0.1 percent to 303.03 points, but the index has already lost about 2.7 percent this week.
The FTSE Eurofirst .FTEU3 index of top European shares, which had opened lower for a fourth straight day, edged up 0.1 percent at 1,019.67 points helped by the hopes of ECB action.
U.S. stock index futures pointed to a mixed open on Wall Street with disappointing results from tech giant Apple (AAPL.O) and forecasts for lower earnings from Ford (F.N), the second-largest U.S. automaker, expected to hurt sentiment.
Apple stock AAPL.F shed 6 percent on Wednesday in Frankfurt trading.
In oil markets Brent crude slipped below $103 a barrel as worries about declining demand from the euro zone offset any gains to prices sparked by concerns about Middle East supply.
Brent crude slipped 55 cents to $102.87 a barrel by 0651 GMT while U.S. crude fell 66 cents to $87.84.
Additional reporting by Nia Williams, Sven Egenter and the Berlin bureau; Editing by Anna Willard