The U.S. Treasury yields have priced in the expectations of higher Consumer Price Inflation as the two-year bonds declined, with the yields rising to 4.34%, on Tuesday. These yields have risen the most since July 2024, as per Bloomberg. The ten-year yields followed and rose to 4.40% as well.
Few experts are still divided over the rise in the yields as, the former Pimco, CEO, Mohamed El-Erian said that there are two “major explanations” that the market may be pricing. He also stated that the two possible consequences “are not mutually exclusive.”
On one hand, the market may expect tax cuts from the new policies that President-elect Donald Trump could propose. This will lead to higher bond issuances to secure funding for the future, thus resulting in lower bond prices and higher yields.
Whereas, the other “explanation,” points towards higher tariffs during Trump’s administration which will lead to reduced demand for imported goods and increase the domestic prices above the free trade price, gradually stoking inflation.
What Happened: Apart from the aforementioned scenarios, which affect the longer end of the yield curve, Federal Reserve rate cuts may cause the yields to swell in the short term.
To shed more light on the Federal Reserve’s rationale, Mohamed El-Erian also shared a chart showing how the central bank has expected the economy to slow down, but it still hasn’t happened. Additionally, Minneapolis Fed President Neel Kashkari while speaking at the Yahoo Finance Invest conference said that the U.S. economy has remained remarkably strong as the central bank progressed in beating back inflation, but the Fed was still "not all the way home."
Adding to what could cause the policymakers to pause the 25 basis points cut in December, Kashkari added "If we saw inflation surprises to the upside between now and then, that might give us pause.” "It'd be hard to imagine the labor market really heats up between now and December. There's just not that much time."
Why It Matters: A few analysts, however, believe that the Fed has enough room to cut interest rates further without worrying about a surge in inflation.
Ryan Detrick, chief market strategist at Carson Group says that the “strong productivity” will help keep inflation capped. “As long as productivity remains strong (like we think it should) the path is there for the Fed to continue to cut interest rates and not worry about inflation soaring back.”
In the longer term, however, the rise in bond yields is likely to be a function of both the administration’s policies and the Federal Reserve’s future roadmap.
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