The decline came as Russia and Ukraine signed a deal to help secure the resumption of Russian gas supplies to Europe, cut off for nearly a week in freezing temperatures.

U.S. light crude for February delivery was trading at $37.89 a barrel, down $2.94, by noon EST. London Brent crude was down $1.98 at $42.44.

U.S. jobless data on Friday set the tone for the market. A U.S. government report showed employers slashed jobs by 524,000 in December, driving the national unemployment rate to its highest level in almost 16 years.

"The U.S. unemployment numbers on Friday started the latest leg downwards. We have had a string of bad news, with companies and economies all reporting negative data. It is almost relentlessly bad," said Rob Laughlin, senior oil analyst at MF Global in London.

Oil prices fell 54 percent last year and have shed more than $100 from a record peak above $147 a barrel in July as the global economic downturn hits demand for fuel.

SUPPLY CUTS

Saudi Arabia, the world's top oil exporter, plans to cut output by up to 300,000 barrels per day below its agreed OPEC target, a proactive step to prop up a collapsing market, industry sources said on Sunday.

Riyadh already has lowered supply this month to 8 million bpd, meeting its target under OPEC's pact to reduce overall supplies by a record amount from January 1.

Saudi Arabia's cutbacks add to similar moves this month by other OPEC producers, including Iran, the United Arab Emirates, Kuwait and Libya, to curb supplies, although evidence that oil producers are cutting output has not lent much support to prices so far.

Iran's representative to the Organization of Petroleum Exporting Countries was quoted as saying the group could decide to reduce oil output again at its meeting in March, if crude prices fell further.

The front months on oil futures have been taking the brunt of the falls, with the markets in steep contango. March U.S. crude futures have been trading more than $5 above February, while April is around $3 above March.

Traders say the wide price spread partly reflects a lack of prompt demand, but also a view that OPEC cuts will eventually start to affect the market and support prices.

In the Middle East, Israeli leaders trying to find a knockout blow for Hamas militants defying a 17-day-old assault have thrown army reservists into the battle.

Most oil analysts said they were bearish for prices in the short term.

Goldman Sachs Commodities said in a research note on Friday that a market surplus was expected to drive inventories higher and put pressure on its forecast oil price of $30 a barrel for the first quarter of 2009.

But it maintained its forecast that oil would recover to around $65 per barrel by the end of this year as the market rebalances following the global recession.

(Additional reporting by Christopher Johnson in London; Fayen Wong in Perth; Editing by Walter Bagley)