Two Fed officials tentatively embrace bond yield jump

By Michael S. Derby

NEW YORK (Reuters) – Two Federal Reserve officials on Thursday tentatively welcomed a jump in bond market yields as something that could complement the U.S. central bank’s work to slow the economy and get inflation back to the 2% target, while also noting they see a good chance that no more interest rate increases will be needed.

The policymakers – Philadelphia Fed President Patrick Harker and Boston Fed President Susan Collins – spoke in separate interviews that took place as central bankers and other economic leaders gathered for an annual symposium in Jackson Hole, Wyoming. As they laid out their outlooks for monetary policy and the economy, Harker and Collins also took stock of what a jump in bond yields means for the central bank’s mission to slow economic activity to lower inflation.

The rise in long-term borrowing costs “helps cool the economy some,” Harker said in an interview on CNBC. He said the jump was not a major concern but was something he was monitoring.

Meanwhile, Collins said on Yahoo Finance’s video channel that the rise in yields “absolutely fits in” with the broader story around the economy and monetary policy. “I think it’s helpful that the higher longer rates are consistent with an understanding that this is going to take some time” on the part of the Fed to get inflation back down to the 2% target.

Harker and Collins spoke before the formal start of the Kansas City Fed’s Jackson Hole conference, which will feature a hotly anticipated speech on the economic outlook by Fed Chair Jerome Powell at 10:05 EDT (1405 GMT) on Friday.

The Fed, which has pushed short-term rates aggressively higher since March 2022 to curb the worst inflation surge in decades, lifted its benchmark overnight interest rate to the 5.25%-5.50% range at a policy meeting last month. Fed officials continue to believe that inflation is too high, while noting its moderation had opened the door to an end to the rate-hike cycle. Financial markets currently doubt the U.S. central bank will raise rates again at its Sept. 19-20 meeting.

The question over the need for more rate increases has been driven in large part by the resiliency of financial markets and the broader economy in the face of aggressively more restrictive monetary policy. In the face of the rate hikes, which have lifted the Fed’s policy rate by more than five percentage points, the unemployment rate has remained historically low and economic growth has been robust, even as sectors like housing have been hard hit by higher borrowing costs.

The state of the economy has suggested the Fed may have to do more with monetary policy, while the jump in long-term borrowing costs, which restrains activity, takes some pressure off the central bank.

Since resting at around 3.84% at the start of 2023, the yield on the 10-year Treasury note, a key benchmark, has ground higher, and while the moves have been choppy, it has risen notably since the middle of July and stood at around 4.23% in early afternoon trading on Thursday.

“If rates remain at current levels, this will deliver substantial additional restraint relative to conditions that prevailed at the time of the last Fed meeting in July, and this extra restraint will be persistent, reaching a peak at the end of 2024,” analysts at Evercore ISI said in a research note on Wednesday. This tightening “seems adequate – indeed plausibly more than adequate – to offset the recent upside surprise on growth without the need for a Fed rate response,” they said.

HOLD STEADY?

In their interviews on Thursday, Harker and Collins leaned against the need for more increases.

“Right now I think that we’ve probably done enough” and it’s probably a good idea to hold steady for the rest of this year and see how that affects the economy, Harker said. “We are in a restrictive stance, do we have to keep going even more and more restrictive?” he added.

For Harker, it’s very much a question of the economy working through the ongoing impact of the Fed’s prior tightening. “What I’ve heard loud and clear through my summer travels is, ‘please, you’ve gone up very rapidly. We need to absorb that,'” he said of his local contacts. Harker also noted that bank credit conditions have tightened, creating additional restraint on the overall economy.

Collins kept the door open for more action but did not call for it.

“We may be near, we could even be at a place where we would hold” and not raise rates further, Collins said. “But certainly additional increments are possible, and we need to look holistically and be really patient right now and not try to get ahead of what the data will tell us as it unfolds,” she said.

Harker sees inflation cooling to 4% this year, 3% next year and back to the central bank’s 2% goal in 2025, and expects the unemployment rate, which was at 3.5% in July, to rise to 4% or maybe higher. He believes economic growth should moderate.

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