European stocks closed higher yesterday, buoyed by a better-than-expected German Ifo business climate index, while Italy's Sanpaolo IMI and Banca Intesa shot up after saying they were eyeing a merger.

Upbeat earnings from Swatch also helped, although a slip on Wall Street late in the European session took some of the shine off the day's gains.

The pan-European FTSEurofirst 300 index of leading shares closed 0.35 per cent higher at 1,357.94 points and the narrow DJ Stoxx 50 index rose 0.33 per cent to 3,494.23.

Based on a monthly survey of around 7,000 German firms, the Ifo survey fell to 105 from 105.6 last month. The mid-range forecast of 63 economists polled by Reuters last week had predicted 104.8.

The data followed Tuesday's ZEW German investor sentiment indicator, which plunged to a five-year low this month and rattled markets.

"All in all the index is better than expected. Following the weak ZEW people were prepared for something worse. The climate component stuck to a high level which is a good sign for growth in the third quarter," said Rainer Guntermann at Dresdner Kleinwort.

"But the fact that expectations have clouded a little is not the end of the world. That was to be expected because the global economic environment is worsening."