Markets boost bets on ECB cuts; biggest weekly rise since 1990s for US-German yield gap

By Stefano Rebaudo and Yadarisa Shabong

April 11 (Reuters) - Money markets have boosted their bets on more European Central Bank monetary easing to levels seen before U.S. President Donald Trump paused the heftiest tariffs on dozens of countries.

The ECB is meeting on Thursday, with traders fully pricing in a 25-basis-point cut to bring the deposit rate to 2.25%.

Markets also priced in a deposit rate as low as 1.65% for December EURESTECBM6X7=ICAP, down from a peak of 1.83% on Thursday after Trump announced the reprieve on Wednesday.

Meanwhile, a selloff in U.S. assets continued on Friday, leading the yield spread between U.S. Treasuries and German Bunds to record its biggest weekly rise since the 1990s.

That came after Beijing increased its tariffs on U.S. imports to 125%, raising the stakes in a trade war that threatens to upend global supply chains.

U.S. Treasury yields US10YT=RR rose 13 basis points to 4.52%. They jumped earlier this week, with trading volumes totalling more than four times the average, amid fears that China may be offloading a large portion of its U.S. bond holdings after the announcement of U.S. tariffs.

Germany's bond market sat out the U.S. selloff throughout the week, as the concerns over U.S. trade policy made euro-denominated assets appear safer than their dollar counterparts.

"The risk of the trade war escalating into an all-out financial war would add to the overhang in the Treasury market," said Steven Zeng, strategist at Deutsche Bank, citing reports suggesting that China may have been selling Treasuries on Monday, triggering a snowball effect of rising yields.

The German 10-year bond yield DE10YT=RR, the benchmark for the euro zone bloc, eased 5 bps to 2.53%.

"If we look at how the German bond market has evolved this week, it's been, I would say, reassuring that it hasn't been fully caught in what's been happening in the global markets," Jan Von Gerich, chief market strategist at Nordea, said.

YIELD GAP

The yield gap between German and U.S. 10-year Treasuries DE10US10=RR widened to 195 bps, its highest since February 24. It has risen by more than 40 bps in this week alone, its largest such increase in at least 30 years, LSEG data shows.

Barring this unprecedented selloff in U.S. assets, investors had expected the spread to narrow due to divergence in fiscal policies and an economic slowdown in the U.S.

U.S. Treasuries cheapened versus swaps on Friday, with the 10-year OIS swap spread USDSR10YOTS=TWEB at -59 bps, the lowest level in at least four years.

"An underperformance of sovereigns to swaps could be an indicator of investors, from Japan or the euro area, repatriating money by selling U.S. Treasuries and getting back to their own government debt," said Gregoire Pesques, global fixed income chief investment officer at Amundi.

Italy's 10-year yield IT10YT=RR was higher by 0.5 basis points at 3.81%. The gap between Italian and German 10-year bunds DE10IT10=RR, a gauge of the premium that investors demand to hold Italian debt, widened to 127 bps.

With higher U.S. tariffs postponed by 90 days, European Union finance ministers will on Friday discuss how to use that time to reach a trade deal with Washington and to coordinate their efforts to handle higher levies if they are unsuccessful.

Germany's two-year bond yield DE2YT=RR, which is more sensitive to ECB rate expectations, was 7.5 bps lower at 1.74%.