LONDON, July 26 (Reuters) - Euro zone government bond

yields edged higher on Friday, as investors took profit on this

week's drop in short-dated yields to six-month lows, after hefty

sell-offs in global equities sparked some safe-haven flows into

fixed income.

Mounting expectations that the Federal Reserve will cut

interest rates in September have drummed up enthusiasm for

Treasuries, which has carried through in the euro zone market.

German two-year Schatz yields, which are the most

sensitive to shifts in expectations for European Central Bank

monetary policy, are heading for a third weekly fall.

Two-year yields dipped 1.3 basis points on Friday to

2.6983%, but have dropped by 8 bps so far this week to their

lowest since February, for their strongest performance in more

than a month.

Rainer Guntermann, a strategist at Commerzbank, said the

euro zone market was responding more to broader risk appetite

than rate-cut expectations, as market pricing for two ECB cuts

this year looks fairly stable.

"(Euro zone government bond) spreads are trading aligned

with risk sentiment again and are no longer directional to the

front-end, as ECB rate cut expectations no longer compensate for

the deteriorating macro outlook in case of weaker data," he said

in a note.

The gap between two-year yields and those on longer-dated

bonds has also shrunk. The premium over 10-year Bund yields

is at 25 bps, close to its smallest since January.

German 10-year bond yield, the benchmark for the

euro zone bloc, was up 4 bps at 2.45%.

Italian 10-year yields were up 5.2 bps at

3.827%, set for a weekly rise of nearly 5 bps, reflecting

the outperformance of safe-havens such as German bonds.

The gap between German and Italian yields has

widened by 5 bps this week to 133.80 bps, having touched its

widest since early July.

The main macro event later in the day is the U.S. personal

consumption expenditures index (PCE), the Fed's preferred

measure of inflation. Euro zone bonds may catch a bid if the

core rate undershoots expectations for a year-on-year rise of

2.5%.

(Reporting by Amanda Cooper; Editing by xxxxx)