(Recasts paragraph 1, adds comments, background)

*

French debt risk premium declines further after proposal

to

suspend pension reform

*

Citi warns that snap elections may still be on the horizon

*

German Bund yields fall amid concerns over US-China trade

tensions

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Traders price in a 70% chance of a European Central Bank

rate

cut by summer

By Stefano Rebaudo and Amanda Cooper

LONDON, Oct 15 (Reuters) - The French government bond

risk premium over safe-haven Bunds tightened further on

Wednesday, as fading prospects of snap elections eased political

risk, even though analysts cautioned the threat may only be

postponed.

By shelving pension reform until after 2027 and appeasing

leftist lawmakers who fiercely opposed the 2023 overhaul, French

Prime Minister Sebastien Lecornu has managed to stave off a

sharp escalation in France's prolonged political crisis.

French 10-year yields fell another 3 basis

points in early trading to 3.37%, the lowest since August 15,

bringing the decline so far this week to 10 bps, heading for the

largest weekly decline since May.

"This averts the event risk (snap elections) for now and

might result in further OAT tightening towards 75 bps," said

Aman Bansal, senior European rate strategist at Citi.

"However, this also indicates the rising cost of propping up

the minority government which might eventually give way to a

snap legislative election into the March 2026 municipal election

anyway," he added.

The yield gap between safe-haven Bunds and 10-year French

government bonds - a market gauge of the risk

premium investors demand to hold French debt - was at 78 bps,

after dropping to 76.60 earlier in the session. It hit 87.96 bps

early last week, the highest level since January 13 on concerns

about the French fiscal outlook.

"The proposed 2026 draft budget would aim for a 4.7% deficit

of GDP, which is broadly in-line with the previous outlook, and

without the pension reform puts the trajectory of deficit/GDP

closer to 5.0% over time," Jim Reid, a strategist at Deutsche

Bank, said.

"So even though that might read negatively from a debt

sustainability point of view, markets were reassured because it

was seen as raising the chances that Lecornu would remain as PM

and a snap legislative election would be avoided."

France's borrowing costs are among the highest in the euro

zone as investors have grown increasingly wary of holding its

sovereign debt given the fragility of the government's finances.

The 10-year yield dropped 4 bps to 3.365%, its

lowest since August 14.

Meanwhile, German 10-year yields were down 2.5

bps on the day at 2.58%, having drawn strength this week from

mounting trade tensions between the United States and China. It

hit 2.579% early in the session, its lowest since July 7.

Concerns about the economic impact of a potential trade war

between the U.S. and China prompted investors to boost their

bets on future European Central Bank rate cuts.

Money markets priced in about a 70% chance of a

25-basis-point ECB rate cut by July. The

ECB key rate is seen at 1.85% in February 2027

from around 2% before U.S. President

Donald Trump threatened higher tariffs against China.

The depo rate is currently at 2%.

The U.S. and China on Tuesday began charging additional port

fees on ocean shipping firms that move everything from holiday

toys to crude oil, making the high seas a key front in the trade

war between the world's two largest economies.