LONDON: Italy's 10-year government bond yields hit their lowest level in almost three years on Thursday, squeezing the gap over top-rated German bond yields to its tightest in over a year, on signs of increasing tension within the ruling Italian coalition.

Italy's Deputy Prime Minister Luigi Di Maio, who also heads the 5-Star Movement, said his far-right League allies had to decide whether they wanted to quit the coalition or keep it going.

"This morning we had some news that Salvini is actually also taking into consideration that Italy would still have snap elections after the summer break, and Italian bonds usually rally on the back of this as a centre-right government might be better for Italy's fiscal dynamic," said DZ Bank rates strategist Daniel Lenz.

Long-simmering tensions between the two parties have heated up after the League voted against Ursula von der Leyen as the new president of the European Commission earlier this week, while 5-Star backed her candidacy.

Italy's 10-year bond yield tumbled to 1.506%, while the Italian/German 10-year bond yield gap tightened to 181.60 basis points -- its tightest since May 2018.