UPDATE 2-Loans to euro zone private sector slump in Aug
* Monthly flow of loans to non-financial firms down 10 bln
* Monthly flow of loans to households up 7 bln eur
* M3 growth rate falls to 2.9 pct in Aug, below forecast (Updates with graphic)
FRANKFURT, Sept 27 (Reuters) - Loans to the private sector in the euro zone fell more than expected in August, dragged down by meagre credit flows in the region's recession-stricken and debt-scarred south.
The flow of loans to non-financial firms fell by 10 billion euros after rising by 8 billion euros in July, Thursday's data from the European Central Bank showed. Lending to companies was particularly weak in Spain and Italy while it grew in most of the euro zone's core countries.
"The concern is that a number of companies (that) do want to borrow ...and are in decent shape are finding it hard to, so tight credit conditions are handicapping euro zone growth prospects," said Howard Archer, economist at IHS Global Insight, in a note.
The European Central Bank is struggling to make its single interest rate for the 17 euro zone countries work as fears of a euro zone break-up prompt investors to demand a premium to lend weaker countries and pay to park their funds in safe havens.
Strong loan growth in Germany and higher mortgage activity there and in other core states drove a regionwide gain of 7 billion euros in lending to households, which fell 1 billion euros in the previous month.
Overall loans to the euro zone private sector fell 0.6 percent from August 2011, well below average expectations for no change among economists polled by Reuters.
Banks in peripheral euro zone states with limited access to market funding have to rely on central bank funding at a rate of 0.75 percent, which compares to a rate of 0.1 percent banks pay the market in core countries.
Higher funding costs for banks push up loan rates for borrowers.
Royal Bank of Scotland said in a note that small and medium sized companies on the periphery were on average paying around 2.5 percent higher interest rates for loans than their peers in other parts of the euro zone.
To assuage fears the single currency area might break up, the ECB agreed to buy potentially unlimited amounts of short-term sovereign bonds from troubled states in return for reform commitments and accepting help from the European rescue fund.
All eyes are on Spain to see if and when it will sign up to an international bailout as the government frets about the strings attached to such aid.
Euro zone M3 money supply - a more general measure of cash in the economy - grew at an annual pace of 2.9 percent in August, slowing down from 3.6 percent in July and missing the consensus of 3.2 percent from analysts polled by Reuters. (Reporting By Eva Kuehnen; Editing by Toby Chopra, John Stonestreet)
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