U.S. auto sales jumped to the highest level of 2009 in July as Americans rushed to take advantage of the government's Cash for Clunkers program, raising hopes that the battered sector is poised for recovery.

Ford Motor Co's sales rose 2 percent, its first month's gain over the previous year since late 2007 and the first for any of the major automakers in the U.S. market since the financial crisis exploded last fall.

Shares of the No. 2 automaker rose almost 7 percent and stoked gains for shares in auto suppliers.

Automakers credited the runaway success of the U.S. government's $1 billion Cash for Clunkers incentive program, allowing people to trade in old cars and trucks, with lifting industry-wide sales back above 11 million units on an annualized basis tracked by analysts.

Government measures in Europe to boost demand also bolstered car sales in that region for July. French sales rose 3 percent, Italian sales gained 6 percent but sales in Spain posted a slower decline.

U.S. auto sales overall, which are watched as one of the earliest indicators of consumer demand, fell 12 percent from a year earlier.

But the sales rate was the highest since September 2008 and marked a sharp increase from the depressed 9.6 million-vehicle sales pace that had held over the first half of the year.

The U.S. government-incentive program, modeled on programs pioneered by European governments, offered consumers taxpayer-funded rebates of up to $4,500 to swap out of older, less fuel-efficient cars.

The program pushed sales sharply higher in the final week of July and exhausted the full $1 billion allocated for it.

The resulting boom also encouraged investor expectations that major automakers will increase production and could even start to raise prices by ending long-established discounts.

I think this is the greatest one-week stimulus program ever to come out of Washington or anywhere else, said Ford's chief sales analyst George Pipas.

Chrysler posted a 9 percent sales decline for July. GM sales were down 19 percent.

Sales for Toyota Motor Co were down 11 percent; Honda Motor Co was off 16 percent and Nissan Motor Co sales fell 25 percent.

Hyundai Motor Co posted a nearly 12 percent sales gain for July, extending a run of gains at the expense of other automakers. Combined with affiliate Kia Motors, the Korean automaker now has a larger share of the U.S. auto market than Nissan at just over 7 percent.

FOCUS SHIFTS TO THE FACTORY

GM chief sales analyst Mike DiGiovanni said the automaker, now majority owned by the U.S. government, expected the broad economy would get a lift if the Senate approves another $2 billion in funding for the clunkers incentive this week.

Clearly this has been a big boost to the industry, said DiGiovanni, who added that auto production could now increase.

When we do that, that's going to help stem the rising tide of unemployment and that will feed on itself to help turn around the economy. he said.

Some analysts have questioned whether the U.S. government incentive program could leave the industry facing a painful payback in lost sales once it expires, similar to the concern now building in European markets.

Jeremy Anwyl, president of auto industry tracking firm Edumunds.com, said U.S. dealers and major automakers could be tempted now to phase out their own discounts, leaving consumers facing higher sticker prices on new cars this fall.

We've got an industry trying to shore up its balance sheet by effectively raising prices, he said. I think there's a real risk of sales declining after what should be a pretty strong summer.

But Erich Merkle, forecaster at Autoconomy.com, said the stronger sales for July had strengthened his belief that U.S. auto sales could rise by as much as 30 percent in 2010.

It is our belief that the traditional new car buyer will start to make their presence know later this year... when 'Cash for Clunkers' is over, he said in a note for clients.

INVENTORIES LEAN

Inventory levels across the U.S. market dipped in July as a range of popular models began to run short on dealer lots.

For Toyota, inventory fell to 30 days supply of sales, about half the accepted industry target. Nissan inventory fell to 45 days. Ford declined to say whether it would increase output but said its inventory fell to 50 days supply.

Expectations for higher production contributed to sharp gains for shares in auto suppliers on Monday. Shares of American Axle jumped 26 percent. Shares of Dana Holding Corp, a major Ford supplier, gained 23 percent.

Governments in all major European markets have also stepped in to help carmakers with their own scrappage schemes.

German sales figures are due to be released on Tuesday.

(Additional reporting by David Bailey, Soyoung Kim, Jo Winterbottom, Paul Day, David Bailey, Antonia van de Velde and Anne Jolis; Editing by Rupert Winchester, Bernard Orr)

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