Euro zone bond yields pare rise after U.S. data

By Stefano Rebaudo

Oct 10 (Reuters) - Euro zone government bond yields pared their rise on Thursday after U.S. economic data led investors to slightly increase bets on Federal Reserve interest rate cuts.

U.S. consumer prices rose slightly more than expected in September, but their annual increase was the smallest in more than 3-1/2 years.

Germany's 10-year bond yield, the euro zone's benchmark, was up one basis point to 2.26%, after reaching 2.282% earlier in the session, its highest since Sept. 4.

Money markets priced in 46 bps of rate cuts by year-end from 43 bps before the U.S. data.

They also discounted an around 90% chance of 50 bps of European Central Bank rate cuts by year-end from 80% right before the data.

ECB policymakers appeared content with the drop in inflation in the euro zone when they met last month but argued for a gradual policy easing given lingering domestic price pressures, the accounts of their policy meeting showed on Thursday.

The "minutes confirm that at the September meeting, the ECB seemed determined and comfortable to continue its very gradual pace of reducing monetary policy restrictiveness," said Carsten Brzeski, global head of macro at ING.

"We are far less certain than financial markets that the ECB will actually cut rates next week," he added.

Germany's two-year bond yield, which is more sensitive to ECB rate expectations, was up 0.5 bp at 2.26%, after hitting 2.287%, its highest level since mid-September.

Borrowing costs were on the rise on both sides of the Atlantic before the U.S. data as investors kept pricing in a patient policy loosening path in the U.S. after Fed minutes from September's policy meeting were released on Wednesday.

Several ECB policymakers argued their case on Wednesday for a rate cut next week, while Peter Kazimir was critical about the expectation of a done deal and Pierre Wunsch was not yet convinced of such a move.

The ECB's Gabriel Makhlouf said that persistent services inflation and stronger-than-expected wage growth present upside risks.

The gap between French and German 10-year yields - a gauge of the risk premium investors demand to hold France's government bonds - was last at 77 bps, with Prime Minister Michel Barnier set to present the budget bill for 2025 later in the session.

According to a note from Citi, investors will closely watch for details of an expected 60 billion euros ($65.6 billion) in spending cuts to assess the effort's credibility, the state funding update for 2024 and initial supply targets for 2025.

The overall picture would impact rating decisions starting Friday with a Fitch review.

Also, Portugal's 2025 budget will be in focus as the minority centre-right government has watered down its proposals for two major tax cuts, aiming to persuade the main opposition Socialists to allow passage in parliament.

The Portuguese yield spread on 10-year maturities tightened slightly to 49 bps.

Italy's 10-year government bond yield rose one bp to 3.57%, and the gap between Italian and German yields was 130 bps. ($1 = 0.9141 euro) (Reporting by Stefano Rebaudo, editing by)