(Updates with afternoon trading)

By Stefano Rebaudo and Alun John

April 30 (Reuters) - Euro zone government bond yields

dropped on Wednesday after a batch of mixed economic data both

in Europe and the U.S. amid persistent concerns about a U.S.

tariff-induced economic slowdown.

German and French inflation data came in slightly higher

than expected, but continued to cool, Wednesday data showed, and

Italian inflation was lower than expected.

Taking that into account, analysts at Nomura said they

now expect euro zone wide inflation data, due on Friday, to be

at the European Central Bank's 2% target.

"Disinflation appears likely to remain on track, which

will be of comfort to the ECB," they said.

That offered support to bonds, and Germany's 10-year

yield, the euro area's benchmark, dropped 4 basis

points (bps) to 2.45%.

Money market pricing now reflects expectations the ECB's key

deposit facility rate will be at 1.60% in December. That implies

two 25 basis point rate cuts from here, with a third such move

more likely than not..

A 25 bps cut in June is fully priced.

Germany's 2-year yield, more sensitive to

expectations for ECB policy rates, was down 4 bps to 1.70%.

TRADE WAR

Separate data showed the euro zone economy started 2025

on a

modestly upbeat note

, although this is unlikely to deter the ECB from cutting

given it does not take into account a likely trade war with the

U.S., alongside a surging currency and deteriorating business

sentiment.

"We think that GDP growth in the euro-zone will slow sharply

in the next six months," said Franziska Palmas, senior Europe

economist at Capital Economics.

"We expect U.S. tariffs to subtract around 0.2% from GDP

growth and any boost from German fiscal stimulus will only come

in late this year at the earliest."

Euro zone yields slightly extended their decline after U.S.

data which showed the U.S. economy contracted for the first time

in three years in the first quarter, swamped by a flood of

imports.

Investors were also watching Germany where the Social

Democrats (SPD) backed a coalition deal with the CDU/CSU

conservatives on Wednesday in the final step to forming a

government in Europe's largest economy.

That clears the way for election winner Friedrich Merz

to become chancellor on May 6, and also brings back attention to

the two parties' plans to massively increase fiscal spending to

fund infrastructure and defence investments.

When the plan was first announced in March, it sent bond

yields sharply higher.

"The German spending story has been pushed to the background

amid tariff headlines and should become of more importance later

this year and in 2026," said Michiel Tukker, senior European

rates strategist at ING, arguing he sees higher EUR rates from a

"structural perspective".

"For now, it's risk sentiment driving rates markets, and any

downside data surprises can easily trigger another leg lower for

euro rates," he added.

Italy's 10-year yield was down 3 bps at 3.58%,

with the gap between Italian and German 10-year bond yields

at 110 bps.