Fed in 'sensitive period' as it considers interest rates, official says

Rise in Treasury yields could cause further tightening conditions

The Federal Reserve building in Washington. Reuters

The Federal Reserve is in a position to proceed carefully in future interest rate decisions after the recent surge in Treasury yields, vice chairman Philip Jefferson said on Monday.

Although inflation is still running above the Fed's long-term 2 per cent goal, the recent rise in Treasury yields could cause tighter financial conditions.

The 10-year US Treasury yield has risen to nearly 4.8 per cent – its highest since 2007 – after the Fed last raised interest rates to their current 5.25 to 5.50 per cent range in July.

Higher Treasury yields have resulted in higher borrowing costs, which have been most felt in soaring mortgage rates.

“Looking ahead, I will remain cognisant of the tightening in financial conditions through higher bond yields and will keep that in mind as I assess the future path of policy,” Mr Jefferson said in Dallas.

Fed officials have, for the most part, taken a more cautious tone in recent months as their benchmark interest rate range has climbed.

Earlier minutes released by the Fed showed that some have warned of unintended consequences should they tighten too much or too little.

“We are in a sensitive period of risk management, where we have to balance the risk of not having tightened enough, against the risk of policy being too restrictive,” Mr Jefferson said.

“The balancing of these two risks was a good reason for holding the policy rate constant at our most recent FOMC [Federal Open Market Committee] meeting.”

The US central bank has raised interest rates 11 times since March last year to its current level of 5.33 per cent.

But the economy remains resilient in the face of the Fed's actions, most recently shown by employers adding 336,000 jobs last month.

And while wage gains moderated, they are still running above inflation.

Mr Jefferson said the rise in yields also reflects investors' belief that the economy is performing stronger than anticipated, which will leave interest rates elevated for a longer time.

Most Fed officials projected that one more interest rate increase is likely this year, according to projections released in September.

But traders are anticipating that the central bank will leave rates unchanged, CME Group data showed.

The Fed is scheduled to release minutes from its latest meeting on Wednesday.