UPDATE 2-Euro zone bond yields tread water as bank worries cool

(Updates prices)

By Harry Robertson

LONDON, March 29 (Reuters) - Euro zone government bond yields held steady on Wednesday, after two days of increases, as worries about the health of the global banking system continued to recede.

Yields, which move inversely to prices, tumbled earlier this month when U.S. lender Silicon Valley Bank collapsed and UBS bought troubled rival Credit Suisse in an emergency deal.

Investors rushed to the safety of government bonds, and traders bet that central banks would be unable to raise interest rates much further.

Yet yields have picked up again in recent days as investors have become more confident, selling bonds in favour of stocks.

Germany's 10-year bond yield, the benchmark for the euro zone, was last up 1 basis point (bp) at 2.30%.

Europe's STOXX 600 index was up 1.2%.

Germany's benchmark yield has now risen more than 35 bps since falling to 1.923% on March 20.

"It's basically a small-step reversal of the big moves that we had last week and the week before," said Peter Schaffrik, global macro strategist at RBC Capital Markets.

"When everything is just calm and nothing is happening, I think people start to slowly but steadily reduce the odds of a calamity."

Yields are still well below levels at the start of March, however, when the German 10-year stood at a more than 11-year high of 2.77%.

Italy's 10-year yield was flat at 4.13%. That narrowed the closely watched gap between Italian and German 10-year borrowing costs slightly to 182 bps.

Inflation data for Spain and many German states is due out on Thursday, before the preliminary March reading for the euro zone on Friday.

Economists expect euro zone inflation will have cooled to 7.1% year-on-year from 8.5% in February. But they think core inflation - which strips out volatile energy and food prices - will have hit a new record high of 5.7%.

Germany's two-year yield, which is highly sensitive to European Central Bank interest rate expectations, was last up 3 bps at 2.61%.

"As long as inflation is relatively elevated, then I think the implied risk remains that central banks have to move a little bit more," Schaffrik said.

(Reporting by Harry Robertson; Editing by Tomasz Janowski and Mark Potter)