March 18 (Bloomberg) -- European government bonds dropped for a fourth week on speculation the European Central Bank will raise its benchmark lending rate three more times this year.

In the past two weeks, UBS AG, Deutsche Bank AG and JPMorgan Chase & Co. have raised their forecasts for the ECB's main lending rate, and Barclays Capital yesterday brought forward its prediction for the next central bank rate increase. Traders have raised bets the ECB will lift rates three times this year, futures prices show.

``The ECB wants to raise rates, and we had significant pressure on the short-end this week,'' said Peter Mueller, a fixed-income strategist at Commerzbank AG in Frankfurt. ``Two- year yields will rise to 3.5 percent by the end of the year.''

The yield on the benchmark German two-year bund, among the securities most sensitive to changes in rate expectations, rose 4 basis points to 3.22 percent on the week.

The price of the 3 percent bond due March 2008 fell 0.07, or 70 euro cents per 1,000-euro ($1,218) face amount, to 99.59. Bond yields move inversely to prices.

UBS, Europe's biggest bank, and JPMorgan, the third-biggest U.S. bank, yesterday raised their forecast for the ECB's main rate by the end of the year to 3.25 percent, from 3 percent previously. Last week, Deutsche Bank AG lifted its forecast for the ECB's benchmark lending rate to 3.5 percent by the middle of 2007, from 3 percent.

Barclays Capital now predicts the central bank will raise rates in May, from June previously.

ECB Rates

The ECB on March 2 raised its benchmark interest rate for a second time in three months, to 2.5 percent. Economists expect the central bank to lift borrowing costs to 3 percent by the end of the year, the median forecast in a Bloomberg survey shows.

The ECB expects euro-region inflation to average about 2.2 percent this year, exceeding its 2 percent ceiling for a seventh year in a row as higher oil prices and a strengthening economy spur wage demands. It increased its 2006 growth forecast to about 2.1 percent from a December projection of 1.9 percent.

UBS, JPMorgan and Deutsche Bank all cited inflation risks when raising their forecasts for borrowing costs.

The drop in bonds wiped out gains earlier in the week after reports showed optimism among German investors and French businesses declined and core inflation in the euro region slipped.

The annual rate of February inflation in the region slowed to 2.3 percent from 2.4 percent in January, a report March 16 showed, keeping it above the ECB's target for a 13th month.

The German ZEW Center for European Economic Research's gauge of institutional and analyst expectations fell to 63.4 from 69.8 in February.

French Sentiment

A monthly index of French business sentiment fell to 103 from 105 in January, the Bank of France said March 14. A gauge measuring companies' production fell to 7 from 14, while an indicator of foreign orders stagnated at 11 in February.

Traders raised bets the ECB will lift borrowing costs to 3.25 percent by the year-end, futures prices show. The yield on the three-month Euribor contract due in December 2006 rose 4 basis points today to 3.40 percent.

The contracts, which are traded electronically on the London International Financial Futures Exchange, settle to the three- month euro interbank offered rate, which has averaged 0.16 percentage point over the ECB rate since the euro's start in 1999.

The yield on the benchmark French 10-year bond rose 1 basis point this week to 3.72 percent, and the yield on the similar- maturity Italian bond also gained 1 basis point to 3.96 percent.

To contact the reporter on this story: Prashant Rao in London at prao3@bloomberg.net

Last Updated: March 18, 2006 03:23 EST