UPDATE 2-Euro zone yields hover around one-week low on recession fears

(Adds comments from Deutsche Bank strategist, background)

By Joice Alves

LONDON, Oct 25 (Reuters) - Euro zone government bond yields edged up on Wednesday but remained within sight of lows touched in the previous session after a business activity survey suggested the euro zone may slip into recession.

A survey released on Tuesday showed business activity in the euro zone took a surprise turn for the worse this month as demand fell in a broad-based downturn.

That will likely make disappointing reading for the European Central Bank (ECB), which meets on Thursday.

Market pricing suggests the ECB's 'higher-for-longer' interest rate narrative may not last, although analysts expect rates to remain unchanged for now.

A survey showed on Wednesday morale among German businesses edged up for the first time in six months in October, but their mood remained subdued and economists say a second recession inside a year still seems likely.

The PMIs and ECB bank lending survey released this week "further reduce the chances of an additional rate hike in the next few months, which were low in the first place given the guidance provided by the ECB," said Francis Yared, global head of rate research at Deutsche Bank.

Bank lending across the euro zone came to a near standstill last month, ECB data showed on Wednesday, providing further evidence that the 20-nation bloc was skirting a recession.

Germany’s 10-year yield, the benchmark for the euro area, was up 4 basis points (bps) at 2.87% by 1515 GMT, not far from a one-week low hit on Tuesday. Earlier in October, the yield rose to its highest level since July 2011 at 3.024%.

U.S. Treasury yields rose, applying some upward pressure to euro area borrowing costs late on Wednesday.

Italy’s 10-year yield, the benchmark for the euro area periphery, rose 6.5 bps to 4.91%, after hitting a more than one-week low on Tuesday.

The spread between Italian and German 10-year government bond yields - a gauge of the premium investors ask to hold debt of the euro area’s most indebted countries - was at 202 bps, its highest since Friday.

While recession fears have resurfaced, inflation is still a concern, with the crisis in the Middle East rekindling the risk of an oil supply shock.

The ECB is closely watching the unfolding situation in the Middle East, policymaker Gabriel Makhlouf said on Tuesday.

The euro zone’s borrowing costs have recently tracked moves higher in U.S. Treasuries, with the run-up in yields on the 10-year U.S. note driven by investors pricing in more robust U.S. growth and fiscal slippage.

Most of the recent bond sell-off came from the removal of recession risks in the U.S. and the correlated rise in long-term expectations for Federal Reserve interest rates, analysts said.

Such a move triggered a narrowing of curve inversion on both sides of the Atlantic. An inverted curve, usually a reliable indicator of a future recession, means markets are pricing in events that would trigger central bank rate cuts.

The gap between Germany’s 2- and 10-year yields was at -30 bps, after hitting its highest level in more than six months at -20.9 in early October. (Reporting by Joice Alves and Stefano Rebaudo; editing by Mark Potter, Kirsten Donovan and Jonathan Oatis)