The provisional data published by the Federal Statistics Office on Monday fell far short of analysts' expectations for the retail sector. Prior to the announcement, economists polled by Reuters news agency predicted sales would rise by 0.5 percent.

"These figures are disappointing given that the consumer sentiment indicated that retail might be stabilizing," Simon Juncker, an economic researcher at Commerzbank, told Deutsche Welle.

The surprise deterioration bucks a recent run of positive reports on the economy. The most recent GfK consumer confidence survey suggested domestic consumption would improve on the back of low inflation, while the influential Ifo index showed that the mood among German business leaders improved for the fourth consecutive month in July.

Rising unemployment

Although key areas of the German economy appear to be recovering, many economists have said a significant rise in unemployment is inevitable.

Government statistics put the national jobless rate for July at 8.2 percent, up from 7.4 percent in September 2008, when the global financial crisis intensified with the collapse of Lehmann Brothers investment bank.

One major reason the German labor market hasn't been hit harder by the economic downturn is the fact that many major companies have put their employees on reduced working hours as an alternative to widespread lay-offs.

The strategy has helped firms and workers weather the short-term effects of the financial crisis, but its prolonged use has also created a lag between developments in key industrial sectors and their impact on the general economy.

Given that the German government expects gross domestic product to shrink by a record 6 percent this year, Juncker said it seems unlikely that the majority of firms will be able to maintain such bridging strategies for much longer.

"In the second half of the year we expect growth rates in the industrial sector, but for the labor market we are quite pessimistic," he said. "We expect to see deterioration there, and this will of course hit the retail sector as well."

sje/Reuters/AFP/AP

Editor: Sean Sinico