* German sentiment falls on debt rescue package concerns

* IMF’s Lipsky says global recovery needs policy support

* Weaker euro could boost exports, help growth

* EU cracks down on hedge funds

(Adds Greek and Italian fin. ministers, hedge fund move, ECB)

By Sakari Suoninen

MANNHEIM, Germany, May 18 (Reuters) - German investor sentiment fell sharply in May on concern growth will be stifled by a 750-billion-euro ($930 billion) rescue package designed to calm market fears of a wave of Greek-style debt crises.

Tough conditions, similar to those imposed in International Monetary Fund (IMF) bailouts, have been set for euro zone states seeking shelter from markets anxious about their debt levels.

The closely watched ZEW analyst and investor survey saw medium-term growth down in Europe’s biggest economy.

“The EU rescue package will in the mid-term reduce budget deficits, but it will also dampen demand and mid-term growth will be dampened as well,” ZEW economist Michael Schroeder told reporters. [nLDE64H12Y]

EU finance ministers meeting in Brussels meanwhile overrode British objections and backed stricter rules on hedge funds as part of efforts to learn the lessons of the global financial crisis and create a more stable financial system. [nLDE64H14X]

Greece blames hedge funds for exacerbating its borrowing problems by betting against its debt and wants them banned. Italy’s Economy Minister Giulio Tremonti for his part called for curbs on credit default swaps.

Eighty percent of the bloc's hedge funds are located in Britain. Any changes are likely to take effect around 2012. <^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^ For a calculator of EU donor debt r.reuters.com/xyh84k For top stories on the crisis r.reuters.com/hus75h ^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^>

Greece was forced to seek a record 110-billion-euro bailout this month as borrowing costs soared due to market fears it could default on its enormous debts.

But markets then focused on other vulnerable euro zone states, forcing the group’s leaders to devise a $1 trillion safety net with the IMF to protect other vulnerable members.

The package prompted Germany, the biggest national contributor, to abandon 16 billion euros of tax cuts designed initially to lift its export-driven economy.

And with Spain and Portugal agreeing additional austerity measures to rein in their budget deficits, the fear is the drive to fiscal consolidation will slow growth -- which the European Commission already saw at just 0.9 percent in 2010.

Reacting to the ZEW survey, Unicredit analyst Alexander Koch said increased savings efforts in neighbouring states would reduce the demand for German exports.

“There the thumb screws are being applied to the budget: i.e. tax increases and spending cuts. This dampens private consumption and public investment,” he said.

U.S. President Barack Obama has discussed the debt crisis with European leaders and some U.S. analysts warn the U.S. economy, where GDP growth is forecast at 2.8 percent this year, could stall again if Europe’s crisis fails to stabilise.

IMF First Deputy Managing Director John Lipsky said the global economy “remains sluggish, uneven and still in need of policy support”.

“As recent events in Greece have shown, risks remain considerable,” he told a symposium in Tokyo. [nTOE64H06W]

ECONOMIC GOVERNANCE, FISCAL REFORM

Euro zone states are trying to smooth out wrinkles in their rescue plan, which comprises standby funds and loan guarantees that governments can tap if shut out of credit markets.

Greek Finance Minister George Papaconstantinou said the talks would help markets realise that “there is clear willingness and commitment on the part of the euro zone and non-euro zone to help those countries that are in need, as long as they do what is needed”.

The European Central Bank meanwhile drained 16.5 billion euros from the commercial banking system on Tuesday to dull the potential inflationary impact of government bonds bought to support euro zone debt markets. [nLDE64H1ES]

On Monday, euro zone ministers agreed to consider a proposal that broad macroeconomic outlines of national budgets be discussed in advance at the European level, with speedier penalty procedures for countries that breach EU budget rules.

“It is essential now that we show we are serious about fiscal consolidation. I could sense broad support for the Commission proposals (on economic surveillance),” said Economic and Monetary Affairs Commissioner Olli Rehn.

The debt crisis and concerns over growth have hit the euro, which has fallen some 14 percent against the dollar this year.

It edged up from Monday’s four-year low after officials said Greece had received a 14.5 billion euro tranche of its EU emergency loan, some of which would be used to repay in full an 8.5 billion euro bond maturing on Wednesday. [nLDE64H0X9] (Additional reporting by John O’Donnell, Gavin Jones, Sumeet Desai and Brian Rohan; writing by Jon Boyle; Editing by Kevin Liffey) ($1=.8054 Euro)