Aug 18 (Reuters) - Euro zone government bond yields rose on Thursday after European Central Bank board member Isabel Schnabel fuelled inflation angst by saying consumer prices could still accelerate in the short term.
The inflation outlook has failed to improve since a July rate hike, Schnabel said, suggesting she favours another large interest rate increase next month.
The bloc's borrowing costs jumped on Wednesday on inflation fears after UK price growth hit double digits, shifting investors' focus away from less monetary tightening due to recession risks.
Germany's 10-year government bond yield, the benchmark of the bloc, rose 5 basis points (bps) to 1.128% on Thursday, hitting an almost 4-week high.
In mid-June it reached its highest level since 2014 at 1.926%, before falling to 0.678% on Aug. 2 as investors scaled back their expectations about ECB rate hikes.
Money markets are currently pricing in a 50 bps ECB move in September and a 35% chance of an additional 25 bps.
Meanwhile, U.S. Treasury yields edged higher in early London trade after rising overnight. The 10-year yield was up 0.5 bps to 2.898%.
Minutes of the last Fed meeting released on Wednesday showed U.S. central bank policymakers were committed to raising rates to tame inflation - even as they began to acknowledge the risk that they might go too far and curb economic activity too much.
Italy's 10-year government bond yield rose 4.5 bps to 3.36%, its highest since July 28, with the spread between Italian and German 10-year bond yields at 222 bps.
The BTP-Bund spread has widened by 15 bps over the last two sessions, in a move likely exacerbated by thin August liquidity.
Citi analysts suggested various drivers behind recent spread widening, including limited PEPP (Pandemic Emergency Purchase Programme) reinvestment flexibility in August, given no core or semi-core government bonds redemptions, and a deteriorating net supply backdrop in September.
The so-called first line of defence against fragmentation – PEPP reinvestments – showed significant support for the bond markets of Italy and Spain in July.
"We forecast Italy's net cash requirement (NCR = gross supply less free float coupons, redemptions, net QE) increasing to flat in September from -€16bn and -€14bn over the last two months," Citi analysts said in a research note. (Reporting by Stefano Rebaudo, editing by Kim Coghill)
