Dec 27 (Reuters) - Euro area benchmark Bund yields hit

their highest levels in more than five weeks in thin holiday

trading on Friday, with investors watching moves in U.S.

Treasuries.

Yields were on track for a yearly rise as markets expect

higher-for-longer interest rates on both sides of the Atlantic

after strong U.S. data and expectations for inflationary

policies from President-elect Donald Trump.

The benchmark U.S. Treasury note yield rose on Friday after

paring its gains a day earlier in the wake of a strong

seven-year note auction.

Euro area borrowing costs had increased on Monday before the

Christmas break, although European Central Bank President

Christine Lagarde said the euro zone was getting "very close" to

reaching the central bank's medium-term inflation goal.

Germany's 10-year bond yield, the benchmark for

the euro zone bloc, was up 8 bps at 2.404%, its highest since

Nov. 18. It was on track to end 2024 with a 36 bps increase.

"Bunds are close to their fair value but in 2025 they will

be more driven by fiscal policy (in Germany) as more bond supply

can increase their yields," said Gregoire Pesques, chief

investment officer of global fixed income at Amundi.

"However, it will depend on the balance between fiscal

spending and investments," he added. "For bund valuations, more

investments that support the economy will be seen as more

positive than just (fiscal) spending."

Germany will hold a general election in February 2025, with

investors wondering whether a new government will allow higher

public borrowing to prop up the flagging economy.

Germany's two-year yield, more sensitive to

expectations for ECB policy rates, rose 4 bps to 2.11% and was

on track for a 29-bps yearly fall.

Money markets are pricing in a European Central Bank deposit

facility rate of 1.97% in July 2025,

roughly in line with levels seen last week.

Italy's 10-year yield, the benchmark for the

euro area periphery, rose 8 bps to 3.582%, its highest since

Nov. 22, with the yield gap between BTPs and Bunds little

changed at 116 bps.

"We are still overweight in the so-called peripheral

countries such as Greece, Italy and Spain as their economies are

doing well while maintaining fiscal discipline," Amundi's

Pesques said.

French politics remained in the spotlight, with investors

trying to assess whether a new government there can tackle the

country's fiscal problems.

The yield spread between French government bonds and

safe-haven Bunds - a gauge of the risk premium

investors demand to hold French debt - rose slightly to 81 bps.

It recently hit its highest in more than 12 years at around 90

bps on worries that the new government will not be able to curb

a rising fiscal deficit.

Russian President Vladimir Putin said on Thursday that

Moscow was open to hosting peace talks with Ukraine, while

Russia's arms control point man warned Trump's incoming

administration against resuming nuclear testing, saying Moscow

would keep its own options open.