Magazine article American Banker

Easing Seen Likelier with 2-Year T-Notes below 6% Funds Rate

Magazine article American Banker

Easing Seen Likelier with 2-Year T-Notes below 6% Funds Rate

Article excerpt

Will the Federal Reserve lower interest rates soon? The bond market certainly thinks so.

On Friday, the yield on two-year Treasury notes dipped below the Fed's 6% target rate on federal funds, or overnight interbank loans.

By contrast, the two-year Treasury yield typically exceeds the federal funds rate by roughly 100 basis points, economists said.

"The market looks like it expects credit to be eased any minute," said Gary L. Ciminero, chief economist at Fleet Financial Group, Providence, R.I. "The Fed must be struggling to hold federal funds at 6%."

"The bond market seems to be saying the funds rate ought to be closer to

5% than 6%,"said Sung Won Sohn, chief economist at Norwest Corp., Minneapolis.

Despite the inverted relationship, Mr. Ciminero said the Fed is unlikely

to reverse its tightening posture at a time when the dollar is under pressure.

In fact, the dollar's travails may partly explain what is happening: As

the central banks of Japan and other foreign nations buy dollars to support

the value of U.S. currency, the proceeds are funneled back into the Treasury market via Fed purchases, pushing bond prices up and yields down.

Still, evidence of a weaker economy surfacing in recent reports provides

compelling support for a Fed easing, Mr. Ciminero said.

A further sign of the market's comfort about price stability is seen in

the 6.75% yield on the benchmark 30-year Treasury bond. That is only 75 basis points above the target overnight funds rate, Mr. Ciminero pointed out.

Mr. Sohn said he is "inclined to think the Fed may have to speed up the

cutting of rates to this summer."

The Fed's monetary policymakers next meet on July 5. Mr. Sohn said he would not rule out a rate cut at that time, though he acknowledged that the

probability is slim.

The Norwest economist expects evidence of sluggish business conditions to mount further this week when the monthly employment report for May is released. …

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