* Markets price a 72% chance of a second ECB hike this year

* Two-year German Schatz yields rose 10 basis points this

week to 2.77%

* Two-year Italian bond yields rose 15 basis points this

week to 2.99%

(Updates prices)

By Amanda Cooper

LONDON, July 17 (Reuters) - Euro zone government bond yields

rose this week alongside oil prices, as renewed hostilities in

the Middle East prompted investors to wager the European Central

Bank will deliver more than one additional rate hike this year.

Oil prices jumped 13% this week, partly reversing the

declines of recent weeks and briefly hitting one-month highs

above $86 a barrel, as U.S.-Iran clashes in the Gulf

effectively closed the Strait of Hormuz.

A flurry of cooler U.S. inflation readings helped U.S.

Treasuries outperform the global bond market this week. Two-year

Treasury yields fell by the most in a month, dropping

6 basis points to 4.14% on Friday.

Given the European economy's greater vulnerability to

imported energy, euro zone bonds have come under pressure.

Investors now see the ECB raising rates at least once more

in September and attach a roughly 72% chance of a second hike

before the end of the year. A week ago, they expected just one

hike.

Still, economists believe two more hikes on top of June's

are unlikely and some think a number of the big central banks,

including the Federal Reserve and the Bank of England, will not

raise rates again this year.

"As oil prices remain elevated, we could get more hawkish

comments from the central banks. Our view still remains that we

should not see any hike from the Fed, BoE or the ECB this year,"

Jefferies strategist Mohit Kumar said.

Two-year German Schatz yields rose 10 basis

points this week and were trading at 2.77%, up 1 bp on the day.

That maturity is the most sensitive to changes in rate or

inflation expectations. The premium the U.S. government must pay

to borrow for two years over that of the German government has

fallen to around 136 bps, its narrowest in two months

.

"While oil prices still remain well below their latest

highs, the damage at the front-end seems to be done," said

Commerzbank strategist Hauke Siemssen.

Two-year Italian bonds performed the worst this

week, with yields rising 15.3 bps to 2.99%, given that Italy

relies more heavily on imported fuels than many of its

neighbours.

Benchmark 10-year German Bunds have fared

similarly poorly. The yield rose nearly 8.5 bps this week to

around 3.12%, almost matching the weekly increase in 10-year

French bond yields, but trailing the 14-bps increase

in Italian BTP yields.