(Updates thoroughly)

By Stefano Rebaudo and Joice Alves

March 14 (Reuters) -

Euro zone bond yields rose on Thursday after

hotter-than-expected U.S. inflation data left investors

wondering if the Federal Reserve will cut rates in June, as

markets expect, or later.

U.S. producer price index rose 0.6% in February, exceeding

forecasts of 0.3% and the previous month's increase. This

follows Tuesday's surprisingly sticky consumer prices for

February.

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

euro zone, was last up 6.5 basis points (bps) at 2.42%. Bond

prices move inversely with yields.

Italy's 10-year yield rose 8 bps to 3.66%,

after earlier in the day falling to its lowest level since late

December.

Yields on both side of the Atlantic have been on the

rise this week as traders speculated whether persistent

inflation may convince the Fed to hold off on cutting rates

until after June, the timeframe currently priced in by markets.

"U.S. producer price data surprised on the upside, which

is adding to fears that inflation pressures are building, and

central banks may not be able to cut interest rates as fast as

predicted," said Kathleen Brooks, research director at XTB.

In the meantime, European Central Bank policymakers

continued to line up behind a June interest rate cut but on

Thursday offered

contrasting views

on the timing and pace of further moves, suggesting there

is no consensus yet within the Governing Council.

The yield spread between Italian and German 10-year

government bonds, a gauge of the risk premium

investors ask to hold bonds of the euro area's most indebted

countries - was last at 124 basis points. Earlier in day, it hit

115.40 bps, its lowest level since mid January.

Investors are closely watching the spreads' tightening

across bond markets as they put aside concerns about Italy's

budget deficit and reckon that a resilient economy will control

the critical debt-to-GDP ratio.

Italy's budget deficit was far higher than targeted last

year, but its public debt still fell thanks to strong inflation

and higher-than-expected economic growth, data showed on Friday.

"As even the budget deficit figures interrupted the spread

tightening only for one day, a global risk reversal would

probably be needed to turn things around," said Hauke Siemssen,

rate strategist at Commerzbank.

"Yesterday's ECB announcements did nothing to counter the

solid BTP spread tightening trend, which remains driven by the

hunt for carry," Siemssen said, referring to the European

Central Bank's operational framework review.

The ECB wants to wean banks off free cash but will try to do

so gently enough not to upset the financial system or lending,

as the result of its long-awaited review showed.