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U.S. interest rates are starting to edge higher due to optimism about a pickup in the economy over the summer and the supply of U.S. Treasuries rising to fund a ballooning federal deficit. The 10-year Treasury’s low yield, set back in March, was 0.54% and the 30-year Treasury’s low was 0.997%, versus current rates of approximately 0.7% and 1.4%. Shorter maturities are closer to their lows as Federal Reserve (Fed) policy has a more direct tie to these rates. For example, the 2-year Treasury low yield was 0.14% in May and stands at approximately 0.18% today.
The Treasury also successfully launched a new 20-year security that was met with solid demand. The new bond will help build supply in a part of the yield curve that doesn’t have many outstanding and available securities, due to some technical factors related to Fed purchases and a prior lack of issuance. The Fed is enabled to buy up to 70% of the issuance of any Treasury security and it has done so for most of the securities with a maturity around 20 years.
In the future, it is very possible, and I believe significantly more likely than negative interest rates, that the Fed enacts a form of yield-curve control to assist in managing the shape of the curve by directly tying its asset purchases to maintaining targeted levels. This policy would replace its direct bond buying, which is now at $5 billion/day and has ballooned the Fed’s balance sheet to more than $7 trillion. This policy may be similar to what Japan has had in place for a number of years and Australia implemented earlier this year. Its advantages include being able to manage how long rates remain low and promoting a positively sloped yield curve, which would benefit a smoother functioning financial system.
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