May 31, 2017 / 11:42 AM / 6 months ago

UPDATE 2-Euro zone bond yields bounce on inflation miss

* Consumer price data could add to debate ahead of ECB meeting

* Euro zone periphery govt bond yields (Updates prices)

By Abhinav Ramnarayan

LONDON, May 31 (Reuters) - Euro zone government bond yields briefly fell on Wednesday after data showed inflation dropping well below the European Central Bank’s target ahead of a meeting of policymakers next week.

Inflation in the single currency bloc fell below expectations to 1.4 percent in May, according to early estimates, well below the ECB’s target of just below 2 percent and compared to 1.9 percent in April.

This supports the widespread view -- one put forward by ECB President Mario Draghi on Monday -- that the central bank should keep its current ultra-loose monetary policy stance in place.

The yields on government debt from Italy and Portugal, countries seen benefiting the most from ECB stimulus, fell the most. At one point they were down as much as 2-4 basis points, outperforming the rest of the euro zone market.

Most other euro zone government bond yields were little changed as European trading drew to a close, having been lower for most of the day.

“The inflation numbers haven’t been superb, but the overall bigger picture is that we’ve moved away from the deflation risk and we are moving steadily towards the ECB target,” said ING strategist Padhraic Garvey.

“Also, the core inflation rate has been fairly steady around 1 percent.”

Inflation excluding energy and unprocessed food -- known in markets as core inflation because it strips out the effect of factors such as oil prices -- was at 1 percent compared to 1.2 percent in April.

High-grade euro zone bond yields have dropped in recent days on below-forecast inflation numbers from Germany and Spain.

Draghi said on Monday that even though risks to euro zone growth have declined, he was convinced that an extraordinary amount of monetary policy support was still necessary.

Inflation numbers are under particular scrutiny ahead of an ECB meeting next week.

Policymakers are divided on the issue although they are set to take a more benign view of the economy when they meet on June 8 and will even discuss dropping some of their pledges to ramp up stimulus if needed, four sources with direct knowledge of the discussions told Reuters.

Investors also had one eye on another central bank, with U.S. Federal Reserve member Robert Kaplan saying on Wednesday that weak recent inflation readings are a worry and suggest the Fed will make slow progress toward its 2 percent goal.

Markets are almost fully priced for a rate hike from the Fed next month, but there remains uncertainty over how many more rate rises the central bank can fit in this year.

For Reuters Live Markets blog on European and UK stock markets see reuters://realtime/verb=Open/url=

Reporting by Abhinav Ramnarayan; Editing by Catherine Evans

Our Standards:The Thomson Reuters Trust Principles.
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