German yields dip as inflation data trumps oil bounce

(Updates prices, adds German inflation data)

By John Geddie

LONDON, Aug 28 (Reuters) - German bond yields edged lower on Friday, defying a sudden surge in oil pices, as data showed consumer prices in Europe's biggest economy had been weighed down by falling energy costs.

German inflation remained close to zero in August, keeping pressure on the European Central Bank to consider additional stimulus measures.

Investors took little impetus from a 10 percent surge in oil on Thursday, uncertain that it marks a turnaround with Brent crude having fallen this week to its lowest since 2009.

Instead, the recent oil slump, which has centred on concerns around China's economy, has weighed on market expectations for consumer price growth with some gauges suggesting the euro zone could be heading back into deflation in a year's time.

"Clearly after this fall in commodity prices and inflation expectations over the last month there is a huge focus on what the actual hard data suggests," RBC (Other OTC: RBCI - news) rates strategist Vatsala Datta said.

"Oil prices are so volatile. We have seen a surge now but it could quite easily be that we see a fall again. You have to see a sustained move higher rather than a one-off move."

The German reading has particular importance ahead of euro zone-wide data due on Monday, and a meeting of the ECB next Thursday where the bank is expected to revise down its inflation projections and possibly discuss other stimulus measures.

More than half of economists polled by Reuters now expect the ECB to extend its bond-buying quantitative easing (QE) scheme beyond its scheduled end in September 2016.

"The Council may start to mull over additional steps for the first time since the QE decision in January," Commerzbank (Xetra: CBK100 - news) 's senior economist Michael Schubert said.

Inflation factors coupled with China worries have also reduced the likelihood that the U.S (Other OTC: UBGXF - news) . Federal Reserve raises interest rates next month despite a strong rebound in domestic growth.

Even (Taiwan OTC: 6436.TWO - news) with some figures such as the Fed chair Janet Yellen and ECB president Mario Draghi missing, any headlines from a meeting of central bankers in Jackson Hole will be high on the agenda on Friday.

The German 10-year yield - the euro bloc's benchmark - was down 2 basis points on the day at 0.71 percent, while other euro countries' equivalents were flat to a touch lower.

In primary markets, Italy sold 7.5 billion euros of five- and 10-year bonds, a solid result at the end of a rollercoaster week that has centred on fears of a Chinese slowdown. (Additional reporting by Marius Zaharia; Editing by Louise Ireland (Other OTC: IRLD - news) /Ruth Pitchford)