Sterling slips vs firmer euro on weak UK data, ECB

* Sterling also hit by Spain auction, ECB's Draghi

* BoE holds rates, QE target; more QE expected in Feb

* UK industrial production data highlights recession risk

* Pound edges up vs dollar, off earlier 3-month low

By Jessica Mortimer

LONDON, Jan 12 (Reuters) - Sterling slipped against a broadly firmer euro on Thursday on weak UK data, strong demand at a Spanish debt auction and cautious optimism about the euro zone from European Central Bank President Mario Draghi.

Unexpectedly weak UK industrial production figures and an estimate from the NIESR think-tank that Britain's growth slowed to 0.1 percent in the last three months of 2011 weighed on the pound.

As expected, the Bank of England left interest rates on hold on Thursday and opted not to increase its quantitative easing target.

The euro gained as Draghi said the supply of cheap money released by the central bank was helping stabilise the banking system and the euro zone economy, which he expected to recover, albeit gradually.

The euro rose by 0.8 percent against sterling to 83.50 pence , pulling well away from its recent 16-month low of 82.22 pence. Traders said it extended gains after breaking above stop loss orders at 83.30 pence.

"Draghi was less pessimistic than we'd expected. He didn't say the euro zone was heading towards recession or that there were major deflation risks and he was optimistic about the effects of the 3-year (cheap ECB loans)," said Richard Driver, analyst at Caxton FX.

But many analysts expect the euro to turn lower and re-test recent lows as worries persist about the lack of a credible resolution to the deep-seated euro zone debt crisis. Driver said he expected the euro to fall to 80 pence in the coming months.

Although Draghi said there were substantial downside risks for the euro zone region, the comments were enough to boost the euro as investors took profit on hefty short positions they had built.

The euro also benefited as Spain successfully sold three- and four-year bonds in larger quantities than expected and lower yields than previously.

BOE DECISION

Traders said there was some relief that the BoE stopped short of expanding its asset purchases as early as this week, with most expecting policymakers to do so next month in order to aid a flagging economy.

Against the dollar, sterling was up 0.1 percent at $1.5332, off a three-month low of $1.5279 in early trade. Another test of Thursday's low could see it fall below the 2011 trough of $1.5270, marking its lowest since late July 2010.

"I think rallies in sterling/dollar still provide an opportunity to short at better levels," a London-based trader said.

"Downside is still the 'path of least resistance' for sterling/dollar and sterling is not flavour of the day/month/year thus far".

Thursday's data showed UK industrial production posted a surprise fall of 0.6 percent month-on-month, increasing expectations that the economy contracted in the final quarter of last year. (Editing by John Stonestreet)