German yields rise for fifth day as data points to hotter inflation

(Updates with late afternoon trading)

By Greta Rosen Fondahn

Jan 7 (Reuters) - German government bond yields rose for a fifth straight day on Tuesday to trade at their highest in two months, after a mix of euro zone and U.S. data suggested their respective central banks may have less room to cut interest rates than many had thought.

Inflation in the 20 nations sharing the euro picked up to 2.4% last month from 2.2% in November, Eurostat said on Tuesday, lifted by more expensive energy and stubbornly high services costs.

This was in line with forecasts in a Reuters poll of economists and echoed a separate survey of consumer inflation expectations on Tuesday that also showed a rise.

Surveys released later in the day on U.S. employment and service-sector activity offered more evidence that the world's largest economy is resilient, in turn prompting a sell-off in Treasuries that lifted yields.

German 10-year yields, the benchmark for the euro zone bloc, rose 2.5 basis points to 2.474%, the highest since early November, set for a fifth consecutive daily rise.

This week's inflation data will be the last before the European Central Bank's next meeting on Jan. 30.

The jump in inflation has not shifted near-term bets on rate cuts - traders are still pricing in one 25-bps cut at the January meeting. But it could complicate the central bank's efforts to support euro zone growth.

"A fall in inflation below the ECB target appears unlikely in the first half of the year," said Commerzbank economist Vincent Stamer.

"We do expect the ECB to make four more interest rate cuts this year. But the monetary authorities could act more cautiously in the future despite the weak economy in the euro zone."

The ECB aims for 2% inflation.

Markets currently expect the ECB to cut interest rates by around 100 bps this year.

Germany's two-year bond yield, which is more sensitive to changes in ECB rate expectations, was flat at 2.2, at its highest in two months, having risen by 12 bps since the start of the year.

The euro zone economy ended 2024 in a fragile state, according to a survey on Monday. Overall activity contracted for a second straight month in December, as a modest recovery in the services industry failed to offset a deeper downturn in manufacturing.

The ECB opened the door to more easing at its last policy meeting in December, on the back of an uncertain economic outlook, while the threat of U.S. tariffs also weighs on growth prospects.

Still, ECB President Christine Lagarde warned at the time that domestic inflation remained uncomfortably high.

Italian 10-year bonds underperformed German Bunds, as yields rose 5.3 bps to 3.629%, their highest in nearly two months. The premium of Italian bonds over their German peers widened by 3 bps to 114.2 bps. (Additional reporting by Amanda Cooper and Tristan Veyet; Editing by William Maclean and Hugh Lawson)