Euro zone yields drop on busy data day

By Stefano Rebaudo and Alun John

April 30 (Reuters) - Euro zone government bond yields dropped on Wednesday after a batch of mixed economic data both in Europe and the U.S. amid persistent concerns about a U.S. tariff-induced economic slowdown.

German and French inflation data came in slightly higher than expected, but continued to cool, Wednesday data showed, and Italian inflation was lower than expected.

Taking that into account, analysts at Nomura said they now expect euro zone wide inflation data, due on Friday, to be at the European Central Bank's 2% target.

"Disinflation appears likely to remain on track, which will be of comfort to the ECB," they said.

That offered support to bonds, and Germany's 10-year yield DE10YT=RR, the euro area's benchmark, dropped 4 basis points (bps) to 2.45%.

Money market pricing now reflects expectations the ECB's key deposit facility rate will be at 1.60% in December. That implies two 25 basis point rate cuts from here, with a third such move more likely than not. EURESTECBM5X6=ICAP.

A 25 bps cut in June is fully priced. EURESTECBM1X2=ICAP

Germany's 2-year yield DE2YT=RR, more sensitive to expectations for ECB policy rates, was down 4 bps to 1.70%.

TRADE WAR

Separate data showed the euro zone economy started 2025 on a modestly upbeat note , although this is unlikely to deter the ECB from cutting given it does not take into account a likely trade war with the U.S., alongside a surging currency and deteriorating business sentiment.

"We think that GDP growth in the euro-zone will slow sharply in the next six months," said Franziska Palmas, senior Europe economist at Capital Economics.

"We expect U.S. tariffs to subtract around 0.2% from GDP growth and any boost from German fiscal stimulus will only come in late this year at the earliest."

Euro zone yields slightly extended their decline after U.S. data which showed the U.S. economy contracted for the first time in three years in the first quarter, swamped by a flood of imports.

Investors were also watching Germany where the Social Democrats (SPD) backed a coalition deal with the CDU/CSU conservatives on Wednesday in the final step to forming a government in Europe's largest economy.

That clears the way for election winner Friedrich Merz to become chancellor on May 6, and also brings back attention to the two parties' plans to massively increase fiscal spending to fund infrastructure and defence investments.

When the plan was first announced in March, it sent bond yields sharply higher.

"The German spending story has been pushed to the background amid tariff headlines and should become of more importance later this year and in 2026," said Michiel Tukker, senior European rates strategist at ING, arguing he sees higher EUR rates from a "structural perspective".

"For now, it's risk sentiment driving rates markets, and any downside data surprises can easily trigger another leg lower for euro rates," he added.

Italy's 10-year yield was down 3 bps at 3.58%, <IT10YT=RR> with the gap between Italian and German 10-year bond yields DE10IT10=RR at 110 bps.