NEW YORK (Reuters) - The warning signs of a U.S. recession flashed again on Friday as consumer sentiment sank to its lowest in 26 years and corporate earnings appeared set for their third consecutive quarter of contraction.

The dour data and grim outlook for companies could present a dilemma for the Federal Reserve, which is seen as eager to wind down its campaign of aggressive interest rate cuts even though the economy is still struggling.

The Reuters/University of Michigan Surveys of Consumers index of confidence for April fell to 62.6 from 69.5 in March, sliding deeper into recessionary territory and coming in worse than economists had expected.

It was the worst reading since March 1982, when the “stagflationary” period of low growth and high inflation was still an issue for many Americans.

“Consumer confidence continues to tank,” said Kevin Flanagan, fixed-income strategist in the global wealth management unit at Morgan Stanley in Purchase, New York.

President George W. Bush acknowledged that the U.S. economy was in a “slowdown” but said tax rebates that will start hitting consumers’ bank accounts next week should help.

“The money’s going to help Americans offset the high prices we’re seeing at the gas pump and the grocery store and it will also give our economy a boost to help us pull out of this economic slowdown,” Bush said.

The government has accelerated its schedule for distributing the rebate payments under a $152 billion economic stimulus package.

“DEEPER RECESSION?”

The Michigan report contributed to a difficult day for stocks, which were also undermined for a while by disappointing results from Microsoft Corp (MSFT.O). But Wall Street managed to pull back into positive territory late in the day.

Microsoft, however, was representative of a U.S. corporate profits picture that continued to weaken.

Earnings are on pace for the third consecutive quarter of declines, according to the latest data compiled by Thomson Reuters. That’s the most protracted downturn in company earnings since the last recession.

With more than half of the companies in the benchmark Standard & Poor’s 500 (.SPX) index reporting results, earnings for the first quarter are on pace to fall 14.1 percent from a year before, largely due to weakness in results from the banking and consumer discretionary sectors.

The dollar hit a three-week high against the euro , but it was benefiting from the growing view that the Fed is close to a pause in rate cuts.

Government bonds, which usually benefit from signs of economic weakness, fell as investors were unnerved by signs of a resurgence in global inflation.

UNCONVINCED

Investors are not fully convinced that the Fed will deliver even a modest quarter-percentage-point rate cut at the end of its two-day meeting starting on Tuesday. The fragile state of the consumer could eventually bring rate cuts back into discussion.

Another gauge of the economy, from the Economic Cycle Research Institute, showed improvement but still pointed to an economy in recession.

The independent New York-based forecasting group said its Weekly Leading Index edged up to 132.1 in the week to April 18 from 132 the prior week.

The index’s annualized growth rate remained negative, but improved to minus 9.7 percent from minus 10.2 percent. It was the highest reading since minus 8.8 percent in the week ended February 1.

“WLI growth has recovered to an 11-week high but remains deep in recession territory; therefore, it is premature to forecast a business cycle recovery,” said Lakshman Achuthan, managing director at ECRI.