Sept 18 (Reuters) - Italy's bond yield fell below

France's for the first time on Thursday, highlighting shifting

dynamics in euro zone debt, while euro area borrowing costs

steadied after the Federal Reserve's meeting left rate-cut

expectations largely unchanged.

The Fed decision to reduce rates by 25 bps fell far short of

the steep cut President Donald Trump had demanded, and which was

apparently pencilled into projections submitted by new Fed

Governor Stephen Miran, who cast the only dissenting vote.

Markets showed a muted reaction to the Bank of England's

decision to keep interest rates unchanged on Thursday and to

slow the pace of its quantitative tightening programme.

Germany's 10-year government bond yield, the

benchmark for the euro zone bloc, was flat at 2.678%.

Market pricing for Federal Reserve rate cuts was little

changed from pre-meeting levels, with traders still expecting 44

basis points of easing by year-end and 122 bps by end-2026. The

current federal funds target range stands at 4.00%-4.25%.

ECONOMISTS THINK MARKET PRICING HAS GONE TOO FAR

However, economists still think the market pricing has gone

too far in the Fed's monetary easing path.

"Rates are unlikely to fall further from there, as solid

growth drives a rebound in labour market activity and causes

inflation to rise," said David Rees, head of global economics at

Schroders ( SHNWF ), after arguing he expects the U.S. Central Bank to

deliver another two 0.25% cuts by year-end.

"As such, we continue to believe that market expectations of

rates going below 3% are too aggressive," he added.

U.S. Treasuries fell in London trade with 10-year yields

down 2 bps at 4.05%.

Analysts suggested that Miran's lone dissent was no

accident, but rather a calculated move by the rest of the FOMC

to show unity behind Chair Jerome Powell and reinforce the Fed's

institutional independence.

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 81 bps,

not far from its 6-month high of around 84 bps.

Italy's 10-year yields were flat at 3.50%.

France's OAT yields stood at 3.49%.

Italy's 10-year yields dropped for the first time below

France's earlier on Thursday.

Markets are pricing in a 45% chance of a 25bps rate cut by

the European Central Bank by June 2026,

which would bring the deposit rate to 1.75%. The key rate is

seen at 1.95% by December 2026.

Germany's 2-year yields, more sensitive to

expectations for ECB policy rates, fell one bp to 1.99%.