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TREASURIES-U.S. yields rise with European debt after upbeat Draghi comments

(Adds Yellen, Harker comments, auction result; updates prices)

* ECB's Draghi takes upbeat view on economy

* Yellen says appropriate to rates rates gradually

* Five-year, 30-year yield curve flattest since 2007

* Treasury sells $34 bln in five-year notes

NEW YORK, June 27 (Reuters) - U.S. Treasury yields rose on Tuesday in sympathy with European government debt weakness after European Central Bank President Mario Draghi fueled expectations that the ECB is closer to announcing a reduction of stimulus. Draghi indicated that the central bank might tweak its stimulus so that it does not become more accommodative as the economy recovers. He surprised the market with that upbeat stance, said Tom di Galoma, a managing director at Seaport Global in New York. The European government bond market didnt take it very well. Treasury yields rose in line with European bonds.

Benchmark 10-year notes dropped 18/32 in price

to yield 2.20 percent, up from 2.14 percent late on Monday. The Treasury yield curve between five-year notes and 30-year

bonds steepened after earlier falling to 92.70

basis points, the flattest level since late 2007. The difference between yields on two-year and 10-year notes also got as low as 76.80 basis points, its lowest level since Sept. 2. The yield curve has flattened in the past month as Federal Reserve officials including New York Fed President William Dudley indicated that further monetary policy tightening was likely. That has led short- and intermediate-dated debt, which is more sensitive to interest rate changes, to underperform while concerns about tepid growth and falling inflation have supported long bonds. Longer-dated debt has also rallied as investors reach for higher yields. Funds are really defensive and believe that yields could really ratchet lower, and theyre putting money into duration, said di Galoma. Fed Chair Janet Yellen said on Tuesday that it is appropriate to gradually raise rates and noted that the U.S. central bank is carefully watching inflation expectations.

The Fed may have to rethink its interest rate hike plans if inflation continues to wane, Philadelphia Fed President Patrick Harker said. The Treasury Department sold $34 billion in five-year notes to the weakest demand in four months on Tuesday. The ratio of

bids to the amount of five-year notes offered came

in at 2.33, the lowest since February. The notes sold at a high yield of 1.828 percent, just above where it traded before the auction. The government will sell $28 billion in seven-year notes on Wednesday, the final sale of $88 billion in sales of new coupon-bearing supply this week. The government sold $26 billion in two-year notes to strong demand on Monday.

(Editing by Chizu Nomiyama)

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