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UPDATE 2-W.Europe car sales to improve after weak 2003

(Adds details on carmakers, quotes, US sales, updates shares)

By Madeline Chambers

FRANKFURT, Jan 15 (Reuters) - New car sales in western Europe slipped 1.3 percent last year after a sharp drop in December caused by weaker demand in Italy, industry association data showed on Thursday, as investors hope for a stronger 2004.

Japanese and Korean carmakers continued their assault on domestic players in December, ending the year with jumps in both overall sales and market share, while France's PSA Peugeot-Citroen and Italy's Fiat fared worst.

Brussels-based carmaker association ACEA said auto sales in western Europe fell 1.8 percent in December from a year ago, bringing the total number of cars sold last year to 14.22 million, a 1.3 percent drop from the previous year.

The auto industry, which accounts for about four percent of the European Union's gross domestic product, reflects wider economic conditions and consumer sentiment. These are pointing to a modest recovery this year unless undermined by a strong euro, which makes exports more expensive.

European auto stocks were trading mostly lower by 1041 GMT, slightly underperforming the broader market .

Industry experts predict a roughly two percent rise in the region's car demand this year, helped by better economic conditions and consumer morale and by a flurry of new models launched by manufacturers to lure buyers back into showrooms.

ACEA noted that last month's figures indicated a "progressive recovery" in most countries. December's drop was due largely to abnormally strong results in the year-ago period in Italy, as consumers rushed to buy before the withdrawal of government incentives at the end of that year.

A European Commission model showed on Thursday that the euro zone economy was likely to have expanded more than expected in the fourth quarter of 2003 and should maintain that momentum in the first quarter of this year.

Auto sales in the United States, the world's biggest car market, picked up through 2003 as the pace of economic growth quickened and the trend is also expected to continue there.

PROFIT WEAKNESS

But investors worry that higher sales volumes may not translate into profit growth as pricing pressure and unfavourable exchange rates continue to take a toll.

"We expect the competitive landscape to intensify further in 2004 as Japanese and Korean (manufacturers) target higher market share," Goldman Sachs said in recent research.

Based on its economists' forecast of 2.6 percent real GDP growth in Euroland in 2004, the bank predicts an improvement in European unit sales of 2.5 percent.

"However, with pricing likely to remain weak and at current exchange rates, we believe any benefit from higher European volumes will be outweighed by currency," it continued.

Asian carmakers have stolen a march on Europe's domestic players in the last year as they have embraced diesel technology and come up with cars that appeal to European tastes at competitive prices. Nissan was last year's biggest gainer among the Japanese, boosted by its new small Micra car.

Europe's biggest carmaker Volkswagen gained ground last month as it launched its new Golf car, but not enough to prevent a drop in sales and market position for the full year.

However, German luxury automaker BMW saw its sales jump 31 percent in December, boosted by its new 5-series model.

"We expect BMW sales momentum to continue as the range expands to the X3 (compact sports utility vehicle) and 6-series in early 2004," said Commerzbank auto analyst Adam Collins.

France's PSA continued to suffer. It has lost favour with investors in the last year compared to home-turf rival Renault , due to an older model line-up, but has also been hit by a very weak French market, especially in the second half.

Collins noted signs of improvement in France in December but said PSA would probably have to wait until the second half of this year, when its new models come through, to see gains.

The Bank of France said on Thursday its latest business survey pointed to higher growth in the first quarter of 2004 than previously expected.