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Higher bond yields, tariffs, and surging energy prices have yet to derail the US economy. Consumers continue to spend, employers are still adding jobs, and key business activity measures suggest growth may be gaining momentum.

The yield on the 10 year Treasury rose to 5.2% this week, its highest level in nearly 20 years. That yield influences mortgage rates and other borrowing costs, making its rise increasingly important for households, businesses, and financial markets.

Analysts and economists have cited sticky inflation, elevated oil prices, demand for bonds issued by AI companies, and a record $40 trillion federal debt. Yet a debate has emerged over how much of the increase reflects stronger economic growth and how much pressure the economy can withstand.

“The main reason that bond yields rose sharply is that the US economy is booming,” said Ed Yardeni, chief investment strategist of Yardeni Research.

The S&P purchasing managers’ index delivered evidence that activity may be accelerating. Its manufacturing measure recorded the biggest monthly increase since 2022, while the service sector reading reached its highest level since 2021, powered by new orders.

The labor market has also remained resilient. Payrolls increased by 162,000 in August, the unemployment rate held steady at 4.1%, and job gains averaged 74,000 per month over the summer as hiring broadened beyond healthcare and social assistance.

Federal Reserve Chairman Kevin Warsh recently identified economic strength as the primary force behind long term yields. Cleveland Federal Reserve president Beth Hammack similarly pointed to the strong economy as one of several factors lifting yields.

“I think that the growth numbers have come in in a pretty solid way,” Hammack said during a panel in Cleveland. She added that company earnings and profits have exceeded expectations and that markets are beginning to price in signs of resilience.

Philadelphia Federal Reserve president Anna Paulson also described an economy showing increased momentum despite tariffs and higher oil prices. She cited strong consumer spending, investment driven by the AI expansion, and stability in the labor market.

Real consumer spending growth accelerated to an annualized 3.4% during the second quarter after a slow start to the year. The Atlanta Fed’s GDPNow model currently projects consumer spending growth above 4% in the third quarter, while Paulson believes stock market gains could reinforce that momentum.

Hammack said economic growth has held up reasonably well and employment remains near her estimate of maximum employment. “We've been expecting the consumer to step back for quite a number of years, and they really haven't,” she said. “They've continued to spend, and that's been fueling the economy.”

Not every market observer sees growth as the leading cause of rising yields. Wil Stith, senior bond portfolio manager at Wilmington Trust, said economic strength is a factor, but he identified heavy government spending and fiscal deficits as the larger force.

Stith said yields would be lower if the economy were contracting. He believes the 10 year Treasury yield could peak at 5.5%, but a move above that level could lead the Fed to raise rates further, hurting the economy and triggering a stock market selloff.

Yardeni noted that the 10 year yield remains below nominal GDP growth, which reached 6.6% in the second quarter and could be higher in the third. He expects the yield to settle between 4.00% and 5.00% this year, although he said risks now point toward more upside.

The Federal Reserve has abandoned earlier hopes for rate cuts as growth continues and global conflicts involving Iran, Russia, and Ukraine contribute to sticky inflation. After a September rate increase, markets are pricing in a 66% probability of another increase in October and a 52% probability of another in December.

Hammack suggested monetary policy may need to become more restrictive, noting that interest rates are not deterring most business investment outside housing. Stith said continued strength in growth and employment, combined with hotter inflation, could prompt increases in both October and December, potentially totaling 100 basis points.

Pershing Square CEO Bill Ackman questioned whether higher borrowing costs will restrain demand and investment as they have in the past. He argued that demand for intelligence, energy, and computing capacity may remain largely unaffected by higher rates, raising the possibility that traditional Federal Reserve models may not fit the current economy.

DISCLAIMER: GoldInvestors.news is not a registered investment, legal or tax advisor or broker/dealer. All investment/financial opinions expressed by GoldInvestors.news are from the personal research and experience of the owner of the site and are intended as educational material. Although best efforts are made to ensure that all information is accurate and up to date, occasionally unintended errors and misprints may occur.