LONDON (Reuters) - Signs of increasing euro zone economic gloom and rising public hostility towards austerity policies ahead of two elections kept the single currency weak on Monday and European shares snapped a four-day rally.
But trading was light ahead of May Day holidays across Europe, elections in France and Greece at the weekend and the European Central Bank meeting on Thursday when policymakers will have to consider the region's worsening economic health.
"Market stresses have re-emerged in the euro area on concerns that deficit reduction targets may be sabotaged by a return to recession," said Sarah Hewin, senior economist for Europe at Standard Chartered Bank.
Disappointing 2.2 percent first quarter growth in the United States also renewed hopes the Federal Reserve will consider further policy easing before its current program of support to the financial markets ends in June.
"The weaker-than-expected U.S. GDP report has re-heightened speculation over the prospect of further monetary stimulus from the Fed, weighing upon the dollar," said Lee Hardman, currency economist at Bank of Tokyo-Mitsubishi UFJ, Ltd.
In the foreign exchange markets, speculation about the Fed pushed the dollar to a two-month low against a basket of currencies (.DXY) of 78.64 before it recovered to be little changed at 78.76.
The euro meanwhile fell to a two-week low against the yen but was mostly steady against the softer U.S. unit at around the $1.3245 mark.
RECESSION FEARS GROW
Spain, the euro zone's fourth largest economy, added to evidence of the region's worsening outlook by reporting its economy had slipped into recession, joining a growing list of countries that includes Italy, Portugal, Ireland, Greece, Belgium, and Holland.
Growing opposition to austerity is expected to be a large factor in weekend elections in France and Greece which could add to pressure to find ways to stimulate growth across the region.
On Sunday, thousands of Spaniards angered by government cuts that have helped send unemployment up to nearly 25 percent took part in protests across country.
Fresh European Central Bank data on Monday showed loans to euro zone households and firms grew more slowly than expected in March, as banks continued to reduce lending.
Adding to the worries, Germany reported retail sales had risen less than expected in March, indicating that private consumption in Europe's biggest economy may be flagging.
Germany's June Bund future contract was up seven ticks to 140.77 still below a high of 141.38 reached on Friday after a two notch ratings downgrade for Spain prompted a flight to safety.
Spanish 10-year yields on Monday were at 5.89 percent
"In our view it (the Spanish data) doesn't make a huge difference...The economic performance will be a function of whether credit will be able to flow again in the economy so the banking issues remain at the core," UBS strategist Gianluca Ziglio said.
Spain will test market sentiment for its debt on Thursday when it sells three- and five-year bonds, the first sale since the downgrade by Standard and Poor's.
The brewing concerns over Spain and the health of the region's economy undermined confidence in the region's share markets, dragging the FTSEurofirst 300 <.FTEU3> index of top European shares down 0.25 percent to 1,048.88.
"Coming on top of (Spain's) record unemployment data last week as well as massive demonstrations against austerity on the streets yesterday, the problems for European leaders continue to mount up," said Michael Hewson, senior market analyst at CMC Markets.
Spain's benchmark share index, the IBEX (.IBEX), lost 0.2 percent and is now down 16.2 percent so far in 2012, strongly underperforming the euro zone's blue chip Euro STOXX 50 .STOXX50E index, which is up 1.2 percent year-to-date, and Germany's DAX (.GDAXI), up 15.9 percent.
The MSCI world equity index (.MIWD00000PUS), was up 0.1 percent at 329.75 and holding onto gains of just over 10 percent for the year to date.
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