Euro zone bond yields drop as investors see less tightening

Oct 4 (Reuters) - Euro zone government bond yields edged down on Tuesday amid expectations that the European Central Bank (ECB) might take a more cautious monetary policy stance.

Concerns about a further economic slowdown and potential systemic risks, due to the impact of higher rates on heavily indebted countries, triggered a correction on terminal rate bets since the day after the release of inflation data last week.

Job openings in the United States fell to 10.053 million in August, short of the 10.775 million analysts estimated, driving U.S. yields lower.

Australia's central bank (RBA) on Tuesday surprised markets by lifting interest rates by a smaller-than-expected 25 basis points (bps), but added that further tightening would be needed.

Germany's 10-year government bond yield, the bloc's benchmark , dropped 2 bps to 1.88% after hitting its lowest since Sept. 19 at 1.77%. It reached its highest since end-November 2011 on Tuesday last week at 2.35%.

"The root cause of the recent re-pricing lower in rates can be traced back to two factors: the global economic slowdown and resurgent fears for financial stability," ING analysts said.

The peak of ECB's euro short-term rate (ESTR) forward shifted to August 2023 from November 2023 and was around 2.6%, after rising above 3% on Tuesday last week.

Policymaker Francois Villeroy de Galhau said that the ECB should raise interest rates "without hesitation, by the end of the year" to the level "below or close to 2%". After that, the ECB would embark on "more flexible and possibly slower" second leg of its monetary policy normalisation cycle.

Analysts also flagged that financial markets were signalling that the ECB might be on top of surging inflation.

A key market gauge of long-term inflation expectations rose to 2.13%, not far off its lowest since end-July hit on Monday at 2.06%.

EUIL5YF5Y=R

Dutch and British wholesale gas prices - seen as a proxy of future inflation - fell on Tuesday morning due to weaker demand and robust Norwegian and liquefied natural gas (LNG) supply.

Euro zone producer prices jumped slightly more than expected in August.

Yields on British gilts were falling, but analysts expect UK bonds to remain under pressure, as the government still wants to increase public spending to spur economic growth. However, they see orderly moves as the Bank of England is ready to step in.

British Prime Minister Liz Truss said it was the right time to take on some extra borrowing, adding that the country had a low debt to gross domestic product ratio.

Yields in British gilts were down, with the 10-year falling 9.5 bps to 3.85% . It was around 3.3% the day before the announcement of the UK fiscal plan.

Reporting by Stefano Rebaudo, editing by Ed Osmond and Maju Samuel

Our Standards: The Thomson Reuters Trust Principles.