* Merkel says efforts to form 3-way coalition govt fail
* Raise risk of fresh elections
* Bund yield slips to 1-1/2 week low
* But moves limited as euro, stocks bounces back
* Euro zone periphery govt bond yields http://tmsnrt.rs/2ii2Bqr (Updates throughout)
LONDON, Nov 20 (Reuters) - Germany's 10-year bond yield dipped to its lowest level in around 1-1/2 weeks on Monday after talks to form a coalition government failed and raised the risk of new elections in the euro zone's biggest economy.
The political crisis at the heart of Europe lifted demand for safe-haven government debt, but the downward move in bond yields was limited as risk assets and the euro recovered their poise from earlier selling.
Late on Sunday, the pro-business Free Democrats (FDP) unexpectedly pulled out after more than four weeks of negotiations with German Chancellor Angela Merkel's conservative bloc and the ecologist Greens, citing irreconcilable differences.
Germany now faces two possible options unprecedented in the post-World War Two era: Merkel forms a minority government, or the president calls a new election if no government is formed.
"The collapse of the talks was a surprise and there is little clarity on how things will unfold from here," said Rainer Guntermann, rates strategist at Commerzbank.
Merkel said on Monday she would stay on as acting chancellor and consult President Frank-Walter Steinmeier on how to proceed. Steinmeier, who is meant to play a non-partisan role, was due to give a statement at 1330 GMT.
The yield on Germany's benchmark 10-year government bond, perceived as one of the safest assets in the world, dipped around 1.5 basis points to around 0.35 percent, its lowest level since Nov. 9.
It pulled back to 0.36 percent as the euro and stock markets recovered but was still a touch lower on the day. Other euro zone bonds yields were also down slightly on the day.
The euro recovered from a two-month low against the yen hit in Asian trade, with investors brushing off the broader political risks in Germany.
Germany's blue-chip stock index meanwhile reversed early falls, pushing into positive territory in line with regional peers.
"The reaction in markets has not been dramatic," said Antoine Bouvet, rates strategist at Mizuho. "At the end of the day, it's not that easy to call for another election in Germany and there is still the potential outcome for a minority government."
Merkel was damaged by the Sept. 24 election in which people upset over her decision in 2015 to open German borders to more than a million asylum seekers punished her conservatives by voting for the far-right Alternative for Germany party.
For Reuters Live Markets blog on European and UK stock markets see reuters://realtime/verb=Open/url=http://emea1.apps.cp.extranet.thomsonreuters.bi z / c m s / ? p a g e I d = l i v e m a r k e t s
(Reporting by Dhara Ranasinghe; Editing by Mark Heinrich)