By Mark Potter

LONDON (Reuters) - Europe's shoppers are focusing on cheaper goods and essentials, despite policymakers' best efforts to boost spending, resulting in the best ever Christmas for British supermarket group J. Sainsbury, but hitting specialists like German DIY chain Praktiker.

Consumers across the continent are cutting back amid fears of a deep recession as banks rein in lending and unemployment rises in the wake of last year's financial market crisis.

Policymakers are doing what they can to lift demand.

The Bank of England on Thursday cut UK interest rates by half a percentage point to a record low of 1.5 percent, and the European Central Bank is expected to reduce rates by the same amount to 2 percent next week.

But there is little sign of success so far.

The European Union economy shrank 0.2 percent in the third quarter over the second, while unemployment rose to 7.2 percent in November and economic confidence fell to a record low in December, official data and a survey showed.

Financial markets remain worried.

At 8 a.m. EST, the FTSEurofirst 300 index of leading European shares was down 1.6 percent, with the European retail index down 3.3 percent.

BASICS

The downturn has been comparatively mild on retailers that focus on selling low priced or essential items.

Sainsbury, Britain's third-biggest supermarket group, reported a 4.5 percent rise in sales from stores open at least a year, excluding fuel, for the 13 weeks to January 3, at the top end of analysts' forecast range.

Sales were driven by demand for its own label goods as shoppers traded down from more expensive branded items, with sales of the group's budget range up over 40 percent, including a 45 percent rise in "basics" mince pies over Christmas.

Consumers are "incredibly challenged" at the moment, Chief Executive Justin King told reporters, adding Sainsbury would expand its "basics" range to over 600 products by the end of January, with over half selling at less than 1 pound ($1.51).

In a rare piece of good news on jobs for the retail industry, Sainsbury also said it expected to create up to 4,000 positions this year as it opens more convenience stores.

British retailer Marks & Spencer announced 1,230 job cuts on Wednesday and a string of smaller chains have gone bust in recent weeks.

Administrators to Zavvi, the British CDs, DVDs, gaming and books retailer, said on Thursday 178 staff had been laid off following the closure of 22 stores.

British discount fashion chain Peacocks also said it was benefiting from the more straitened economic times.

Like-for-like sales at the privately-owned 526-store group leapt 22 percent in the two weeks to January 3, and it announced plans to open 50 new shops, creating 750 jobs.

DISCRETIONARY SPENDING SLUMPS

Retailers selling discretionary, or more expensive goods, however, continue to struggle.

Praktiker, Germany's second-biggest home improvements chain, missed its 2008 sales target and abandoned its profit forecast, hit by the recession in Europe's largest economy and weaker currencies in several eastern European countries.

Praktiker shares dropped as much as 17.8 percent to 5.96 euros, their lowest since November 24.

Signet, the world's biggest specialty Jeweler, reported a 15.2 percent plunge in underlying sales for the 9 weeks to January 3, including a 10.9 percent fall in the UK and a 16.4 percent decline in its main U.S. market.

London-listed shares in the group, which trades as H. Samuel and Ernest Jones in the UK and as Kay Jewelers and Jared the Galleria of Jewelry in the United States, fell 10.5 percent to 532.5 pence as the group said it would also not pay a dividend.

British fashion label Ted Baker said full-year profit would be at the lower end of market expectations, while privately-owned department store chain House of Fraser reported a 1.5 percent fall in underlying sales for the five weeks to January 3.

Majestic Wine, Britain's biggest wine warehouse chain, reported a 2.9 percent fall in underlying sales for the 10 weeks to January 5.

(Additional reporting by Eva Kuehnen in Frankfurt and James Davey in London; Editing by Mike Nesbit)