FRANKFURT (Reuters) - The head of Germany's financial regulator warned on Saturday of negative perceptions that could lead to downward spirals on the markets, at the end of a week that saw Deutsche Bank <DBKGn.DE> shares battered by a crisis of confidence.

In an interview with the Frankfurter Allgemeine Sonntagszeitung newspaper due to be published on Sunday, the head of Bafin, Felix Hufeld, declined to comment specifically on Deutsche Bank, Germany's biggest bank.

But he said: "I warn people not to let themselves be drawn into a kind of downward spiral of negative perception. Not every nervous market reaction is backed by objective facts."

Deutsche Bank shares were hit first by a demand for up to $14 billion from the U.S. Department of Justice for mis-selling mortgage-backed securities, then a report that Berlin was preparing a rescue plan and lastly on Friday by a report that hedge funds were reducing their exposure.

They recovered from record lows on Friday after another report late in the day that the bank was close to a settlement of $5.4 billion with U.S. authorities instead of $14 billion.

Hufeld said it was correct that there were rescue and wind-down plans for every large bank, without elaborating.

He blamed the low interest-rate environment for eating away the banks' profitability but said the institutions needed to react fast. "Painful cuts will be unavoidable," he said.

Hufeld said he expected several mergers in the German banking sector, mainly between the smaller cooperative and savings banks.

He did not name Deutsche Bank or Germany's second-biggest bank, Commerzbank <CBKG.DE>, but said he did not believe in a "cure-all miracle merger" that would solve all Germany's banking problems overnight.





(Reporting by Georgina Prodhan; Editing by Helen Popper)