April 4, 2018 / 11:32 AM / a year ago

Trade war jitters, subdued inflation lift euro zone bonds

LONDON (Reuters) - Euro zone borrowing costs fell on Wednesday, reversing an earlier increase as rising U.S.-China trade tensions lifted demand for safe-haven assets and data showed inflation in the bloc picked up last month but remained subdued.

This combination pushed Germany’s benchmark 10-year bond yield back below 0.50 percent and towards 2-1/2 month lows hit last week at around 0.47 percent.

Euro zone inflation rose 1.4 percent year-on-year in March, up from 1.1 percent in February and in line with market expectations.

The core measure of inflation, which strips out the volatile prices of energy and unprocessed food, rose to 1.3 percent year-on-year in March from 1.2 percent.

But another core inflation measure that market economists look at, which also excludes the prices of alcohol and tobacco, was stable at 1.0 percent for a third consecutive month.

That, said analysts, confirmed a view that any unwinding of European Central Bank stimulus will be protracted as the central bank struggles to hit its near 2 percent inflation target.

“The broader picture is that the lack of inflation despite very good growth is a sign that it will be hard for the ECB to see inflation rise towards target before QE (quantitative easing) ends,” said Societe Generale rates strategist Ciaran O’Hagan.

Trade war jitters were also supporting bond prices, pushing down yields, by raising concern about long-term growth and inflation prospects for the world economy, O’Hagan added.

Ten-year bond yields across the euro area were down by between 2 and 4 bps on the day.

China said on Wednesday it will impose additional tariffs of 25 percent on 106 U.S. goods including soybeans, autos, chemicals, some types of aircraft and corn products, among other agricultural goods.

Those countermeasures comes as Trump administration pushed ahead with plans to slap tariffs on about $50 billion of Chinese industrial and technology products.

Trade war concerns reverberated across world markets, pushing down stock markets as well as yields on U.S. Treasuries.

“It is not our view to expect risk aversion to sustainably rise, even though nervousness is indeed high,” Manuel Oliveri, currency strategist at Credit Agricole, said in the Reuters Global Markets Forum.

Elsewhere, Germany sold around 2.5 billion euros of 5-year bonds.

Reporting by Dhara Ranasinghe; Editing by Hugh Lawson and David Holmes

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