German manufacturing contracted for a third straight month in December and looked unlikely to provide a lift to Europe's largest economy soon as new orders continued to dry up, a survey showed on Thursday.

The purchasing managers' index (PMI) for the sector by Markit showed a slight improvement, edging up to 48.1 from 47.9 in November, but it remained well below the 50 mark separating growth from contraction.

With economic headwinds picking up in the wake of Europe's sovereign debt crisis and slackening global demand, the figures left economists skeptical of whether a downturn could be avoided.

A forward-looking sub-index tracking new orders added to the downbeat picture for the months ahead, rising only slightly to 43.9 from 43.2 in what marked another strong contraction.

Incoming new orders in manufacturing, and exports, are still falling at a very steep pace, said Chris Williamson at Markit. Much steeper than the rate of decline in output suggests is necessary at this stage.

What is worrying is that the rate of decline is only being stopped from falling further by companies eating into their backlogs of work, he added, referring to survey details.

Germany's export-driven economy recovered quickly from the 2008/09 financial crisis but the outlook has darkened as euro zone debt worries have begun to weigh on the real economy.

Domestic demand helped it grow a healthy 0.5 percent in the third quarter, but investor morale has since soured, fuelling expectations of a sharp slowdown going into the new year.

TREAT WITH CAUTION

Such concerns were again underlined on Wednesday, when researchers at the country's Ifo economic institute halved their growth forecasts for 2012 to a meager 0.4 percent.

Citing falling corporate investment by domestic firms as well as downward pressure on exports, Ifo went as far as to say the country could slide into recession if the euro zone debt crisis deepens.

Data last week rammed that point home, showing exports posting their biggest fall in half a year in a sign that Germany was no longer immune from the effects of the debt crisis on its key euro zone export markets.

Thursday's PMI manufacturing figures also took the shine off stronger-than-expected activity in the services sector, which in a separate index showed growth picking up to 52.7 from 50.3 a month earlier -- its best reading since July.

That reflects a more mixed picture painted by other recent data on German economic activity and the scale of its slowdown, which has in turn led some economists to believe a recession can be averted.

The latest Ifo business sentiment index for example rose unexpectedly in November for the first time in nearly half a year, while industrial output for October also beat expectations, bouncing back after a steep fall.

Markit's Williamson however remained cautious, pointing out that it is too early to say if slight improvements in the German as well as French readings mean a turning point was coming in the near future or if further deterioration could be expected.

This is December, which is a very difficult month to take the temperature of any economy, he said of the PMI. It can be a very volatile month.. It is encouraging but to be treated with caution.

(Reporting by Brian Rohan; Editing by Hugh Lawson)

Germany Manufacturing