(Updates prices after election of Germany's Merz as chancellor,

adds analyst comment)

By Yoruk Bahceli

LONDON, May 6 (Reuters) - German bond yields briefly hit

their highest level in three weeks on Tuesday as German

conservative leader Friedrich Merz was elected chancellor by

parliament in a second round of voting, before paring some of

that rise in late trading.

Merz was elected chancellor on Tuesday in a second round of

voting after his new alliance with the centre-left Social

Democrats was dealt a surprise defeat in the first attempt.

Merz's failure to win parliamentary backing at the first

time of asking was a first for post-war Germany and an

unexpected setback for his new coalition, which has investors

bracing for measures to boost Germany's ailing economy just as

tariffs take their toll.

However, the fact "will quickly fade into the background,"

said Marion Muehlberger, economist and political analyst at

Deutsche Bank, as long as the new government quickly implements

its 100-day programme with the urgently needed relief for the

German economy.

Merz's conservatives and the Social Democrats had already

voted to create a 500 billion-euro ($565.75 billion)

infrastructure fund and overhaul a constitutional borrowing

limit to increase defence spending during the previous

parliament's term.

After a limited bond market reaction to Tuesday's surprise,

Germany's 10-year yield briefly rose as much as 3.7

basis points on the day to a new session high of 2.557% after

the second round of voting, its highest in three weeks.

By 1443 GMT, it had retreated somewhat to show a 1-bp rise

on the day at 2.53%.

The plans to boost spending are seen as a game changer for

Germany's economy and bond markets. Their shock announcement in

March pushed German borrowing costs to post their biggest weekly

jump since the 1990s and euro zone bond yields rose across the

board as investors braced for additional borrowing and stronger

growth.

But Germany's borrowing costs dropped sharply in April as

investors took refuge in the market as a safe haven amid a

searing selloff in U.S. Treasuries driven by tariff fears that

raised questions about the status of the world's biggest bond

market.

Another focus on Tuesday was debt sales. Germany saw over 47

billion euros of investor demand for a reopening of an

outstanding 30-year bond that raised at least 4 billion euros in

a syndication, according to a lead manager memo seen by Reuters.

The U.S. will auction $42 billion in 10-year notes.

Investors will continue to keep a close watch for any signs of

diminishing demand for Treasuries.

Elsewhere, final euro zone business activity data for April

showed activity holding up slightly better than initially

estimated, with the services sector avoiding a contraction.

($1 = 0.8838 euro)