The US long-term Treasury yield has recently surged to multi-year highs, exposing a tricky contradiction in the Trump administration's interest rate policy. President Trump wants the Federal Reserve to cut rates, while Treasury Secretary Scott Bessent is more focused on pushing down the 10-year Treasury yield. The problem is that, in the current environment of inflation, oil prices, fiscal deficits, and policy uncertainty, a more dovish Fed could actually drive long-term yields higher.
The 10-year Treasury yield has recently climbed to 4.75%, an 18-month high. Bessent previously stated he hopes to see the 10-year yield in the "3-handle range," meaning below 4%, but this goal is becoming increasingly distant based on current trends. Meanwhile, the 30-year Treasury yield has surpassed 5.20%, the highest level since 2007, and the real yield on 30-year Treasury Inflation-Protected Securities (TIPS) has risen above 3%, hitting a new high since 2008.
The Paradox of Rate Cuts and Long-Term Bond Yields
On the surface, the goals of Trump and Bessent do not conflict—both want to lower short-term and long-term financing costs in the US. However, in the current climate, if the Fed becomes too dovish, markets may worry about a resurgence in inflation and further deterioration in fiscal discipline, demanding a higher risk premium on long-term bonds. This would ultimately push the 10-year yield higher, which is the policy dilemma the Trump administration now faces.
US inflation has remained above the Fed's 2% target for five consecutive years. The outbreak of the US-Iran war at the end of February has driven up energy prices, adding further inflationary pressure. At the same time, the massive fiscal deficit means the market must absorb a large supply of government bonds. Since Fed Chair Kevin Warsh took office, market skepticism about his anti-inflation stance and the central bank's independence has also rattled the long-term bond market. The Wall Street Journal reported that Trump has frequently spoken with Warsh, but the president downplayed the extent of their contact this week, stating he has only had a "brief conversation" with Warsh since he took the helm in May.
Against this backdrop, there are growing concerns that if the Fed cuts rates more quickly to appease Trump, it could fuel inflation expectations, further pushing up long-term Treasury yields. The 10-year yield is now approaching the 5% threshold.
The 10-Year Yield Eyes 5%
The market's primary focus is whether the long-end yield will continue to rise. The 10-year Treasury yield is nearing the 5% mark. The war, energy price shocks, massive fiscal deficits, and worries about Warsh's policy adjustments are all adding upward pressure on long-end yields. Bessent's recent push for coordinated US-Japan intervention in the yen may also be linked to these concerns. Japan is a major holder of US Treasuries, and if it sells a significant amount of its holdings to raise dollars to support the yen, it could further push up US bond yields. Therefore, the US prefers that Japan obtains dollar liquidity through other means, rather than selling its roughly $1.14 trillion in US Treasuries.
Bessent's support for expanding the Fed's Foreign and International Monetary Authorities (FIMA) Repo Facility is intended to reduce this pressure. This also reveals a hidden but important link between yen intervention and the US bond market: Washington is not only worried about the yen's depreciation but also about Japan selling Treasuries to intervene in the currency market.
CPI Becomes the Next Key Test
Now, the July Consumer Price Index (CPI) data will be a critical variable determining the next direction for the US bond market. The previously released July non-farm payrolls data was significantly weaker than expected, and market bets on a Fed rate hike have already declined. If the CPI also comes in below expectations, the likelihood of a rate hike in September will decrease further. However, this does not necessarily mean the 10-year Treasury yield will fall in tandem.
Reuters columnist Jamie McGeever analyzed that if inflation data comes in markedly higher, the market may re-price in a Fed rate hike. This would help lower long-term inflation expectations but could increase pressure on the economy and financial markets. Conversely, if the CPI is significantly weaker, the market may bet on a more dovish Fed, but it could also worry that the Fed is falling behind the inflation curve, prompting long-term yields to continue rising. In other words, no matter which direction the CPI moves, it will be difficult for Trump and Bessent to get a perfect outcome.
For Trump, rate cuts would help lower financing costs for businesses, households, and the government. But for Bessent, if rate cuts reignite market concerns about inflation, fiscal deficits, and the dollar's creditworthiness, sending the 10-year yield toward 5%, it could ultimately offset some of the policy benefits from the rate cuts. This battle over interest rates may no longer be solely about when the Fed will cut rates, but whether the market believes the US can simultaneously control inflation, the fiscal deficit, and long-term financing costs.
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