Italian bond yields fell from recent record highs at auction on Thursday but cautious investors still demanded a near 7 percent yield to buy 10-year paper, a level seen unsustainable over time for the euro zone third-largest economy.

An injection of longer-term liquidity from the European Central Bank and a new Italian budget package this month have eased pressure on shorter-term debt, but longer-dated bonds still pose a challenge for Italy ahead of large redemptions early next year.

Italy raised around 7 billion euros on Thursday in thin holiday markets after a well-bid short-term debt auction on Wednesday. The Treasury had planned to sell between 5 billion and 8.5 billion euros of bonds.

On Thursday, Italy paid 5.62 percent to sell new three-year debt -- a much lower yield compared to a euro lifetime high of 7.89 percent paid only a month ago.

The fall in the three-year yield comes after the bill sale on Wednesday saw six-month funding costs halve from a month earlier.

The 10-year yield fell to 6.98 percent from a euro lifetime record of 7.56 percent at an end-November sale.

(Reporting by Valentina Za)

Fall