Euro zone yields drop as investors increase bets on ECB rate cuts after data
Updates prices after U.S. PCE data at 1230 GMT
By Stefano Rebaudo
Sept 27 (Reuters) -Euro zone government bond yields dropped on Friday after inflation data from France and Spain led investors to increase their bets on future European Central Bank rate cuts.
Softer than expected U.S. inflation data added to the mood, pushing European yields down a little further.
French consumer prices rose less than anticipated in September, aided by a decline in energy costs. Spain's European Union-harmonised 12-month inflation eased to 1.7%, lower than the 1.9% expected by analysts polled by Reuters.
The German and euro area figures are due next week.
Germany's 10-year bond yield DE10YT=RR, the benchmark for the euro zone bloc, fell 3 basis points (bps) to 2.14%.
"Slightly lower core inflation in the euro zone wouldn’t come as a big surprise to the ECB so would be unlikely to drastically alter policymakers' thinking," said Franziska Palmas, senior European economist at Capital Economics.
Money markets priced in an 80% chance of an ECB rate cut in October EURESTECBM1X2=ICAP from around 20% early this week and 60% before data.
However, they are more inclined to discount a bigger move in December as forwards on the ECB euro short-term rate (ESTR) EURESTECBM2X3=ICAP fully discounted a 50 bps cut by year-end.
The ECB "will have a stronger argument to continue cutting rates over the coming months," said Charlotte de Montpellier, senior economist at ING.
"This is all the more true given that the moderation in inflation is set to continue in France."
Also in the mix, data showed U.S. consumer spending increased moderately in August, suggesting the economy retained some of its solid momentum in the third quarter, while inflation pressures continued to abate.
The personal consumption expenditures (PCE) price index rose 0.1% month-on-month in August, in line with expectations, and 2.2% year-on-year, down from 2.5% in July.
The U.S. central bank tracks the PCE price measures for its 2% inflation target.
U.S. yields and European yields moved slightly lower immediately after the data. US/
Germany's two-year bond yield DE2YT=RR, which is more sensitive to ECB rate expectations, was last down 2 bps at 2.09%. It hit its lowest level since December 2022 at 2.065% earlier in the session.
The gap between French and German 10-year yields DE10FR10=RR - a gauge of risk premium that investors demand to hold France’s government bonds - was last at 78 bps, up from around 70 bps two weeks ago.
It reached its widest since 2012 during France's parliamentary election earlier this year, at beyond 85 bps.
French Budget Minister Laurent Saint-Martin said the deficit was at risk of topping 6% of economic output, far above the 5.1% that the previous government had estimated in the spring.
He added that the government would focus a budget squeeze on spending cuts first and then tax increases, amid calls for a realistic plan to rein in a fiscal shortfall which threatens France's credibility with financial markets.
Italy's 10-year yield IT10YT=RR fell 2 bps to 3.46% and the gap between Italian and German yields DE10IT10=RR was 131 bps.
DecESTRfwd https://tmsnrt.rs/3XFzkYo
OctESTRfwd https://tmsnrt.rs/3N2kvtL
Reporting by Stefano Rebaudo; additional reporting by Alun John Editing by Elaine Hardcastle, Gareth Jones and Alex Richardson
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