"Economic activity in Ukraine has slowed down due to lower external demand and the euro zone crisis," World Bank economist Ruslan Piontkivsky told reporters.

The bank had previously forecast 2.5 percent growth this year for the Ukraine economy, which is dominated by steel exports.

Economic growth slowed to 2.0 percent year-on-year in the first quarter of this year, from 5.4 percent in the first quarter of 2011.

Industrial output growth slowed to 0.4 percent in January-June compared with a year earlier, from 9.3 percent in the same period of 2011.

The World Bank said a $3 billion spending package introduced by President Viktor Yanukovich ahead of parliamentary elections in October should boost domestic demand by increasing wages and pensions. However it would also increase the fiscal deficit and add to inflation.

"While boosting growth, this policy is expected to lead to expansion of the overall fiscal deficit to 5 percent of GDP in 2012," the bank said in a report.

The bank forecast consumer prices in Ukraine would rise 6.1 percent this year, up from a 4.6 percent increase in 2011.

"Under the assumption of a continuation of current policies, the balance of payments will continue to be under pressure," the bank said.

In 2013, growth could speed up to 3.5 percent but only if the authorities tighten fiscal policy and allow more exchange rate flexibility, the bank said.

Ukraine has kept its hryvnia pegged at about 8 per dollar since early 2010, running down foreign currency reserves at times in order to maintain the peg.

The government has also refused - largely for political reasons - to raise gas and heating prices for households, which are heavily subsidised by the state and account for a significant portion of the budget deficit.

Analysts say both policies could be adjusted after the October election.

"The deepening crisis in Europe, still fragile balance sheets of the banking sector, Ukraine's failure to implement macroeconomic rebalancing and reinvigorate structural reforms represent important downside risks for this outlook," the World Bank said.