U.S. annual inflation held steady in July at 2.7%, better than expected

Posted on August 12, 2025 by Tipswatch

Core inflation, however, rose to 3.1% annually despite moderating shelter costs.

By David Enna, Tipswatch.com

The July inflation report offered a mixed bag of results.

Seasonally adjusted all-items inflation increased 0.2% for the month, as expected, and held steady at 2.7% year over year, less than expected. But core inflation, which removes food and energy, rose 0.3% for the month and 3.1% year over year, higher than expectations.

Core inflation rose above 3.0% for the first time since March 2025 and remains well above the Federal Reserve’s overall target of 2.0% (for a different index).

The Bureau of Labor Statistics noted that shelter costs rose 0.2% in July and were a primary factor in the overall increase in core inflation. A 0.2% increase is moderate and probably acceptable, but shelter costs over the last year were up 3.7%.

In addition, declining gasoline prices have been a huge factor in holding down all-items inflation. The gas index fell 2.2% in July and is now down 9.5% year over year. (Without seasonal adjustment, gas prices were down 0.5% in July). More from the July report:

  • Food at home costs declined 0.1% and are up only 2.2% over the last year.
  • The meats, poultry, fish, and eggs index rose 0.2% for the month and 5.2% over the last 12 months. The eggs index has increased 16.4% year over year.
  • Costs of new vehicles were flat for the month and up only 0.4% year over year.
  • Used car and truck prices, however, were up 0.5% for the month (after falling 0.7% in June) and are now up 4.8% for the year.
  • Apparel costs were up only 0.1% in July and fell 0.2% year over year.
  • Costs of medical care services rose a strong 0.8% for the month and 4.3% for the year.
  • The index for dental services increased 2.6% for the month.
  • Airline fares increased 4.0% in July but are up only 0.7% year over year.
  • Furniture and bedding prices rose 0.9% but prices for appliances fell 0.9%.

From this report, it’s hard to pinpoint much effect from U.S. tariffs, which should eventually cause an uptick in prices for items like new cars, apparel, fruits and vegetables, electronics and home furnishings. The Federal Reserve is going to have some interesting discussions next month.

Here is the annual trend for all-items and core inflation, showing the upward glide of core inflation. Does this present a picture of “inflation under control”? Not quite.

What this means for TIPS and I Bonds

Investors in Treasury Inflation-Protected Securities and U.S. Series I Savings Bonds are also interested in non-seasonally-adjusted inflation, which is used to adjust principal balances on TIPS and set future interest rates for I Bonds. For July, the BLS set the inflation index at 323.048, an increase of 0.15% over the June number.

For TIPS. The July inflation report means that principal balances for all TIPS will increase 0.15% in September, after a 0.34% increase in August. Here are the new September inflation indexes for all TIPS.

For I Bonds. The July report is the fourth of a six-month string that will determine the I Bond’s new inflation-adjusted variable rate, to be reset November 1. At this point, through four months, inflation has increased 1.02%, which translates to a variable rate of 2.04%. I’d expect the next two months to bring that number up to about 2.8%, or possibly higher. Here are the data so far:

View historical data on my Inflation and I Bonds page.

What this means for the Social Security COLA

The Social Security cost-of-living adjustment is based on an unusual inflation index – CPI-W – and is determined by averaging the indexes for July, August and September and comparing that number to the same average for the year before. For July, the BLS set the CPI-W index at 316.349, an increase of 0.13% over the June number.

With one month complete, here is where we are:

I had been projecting an increase of 2.8% for the 2026 COLA, which isn’t looking very good right now. I was expecting July CPI-W to be a bit higher.

What this means for future interest rates

Most likely, the mixed bag of the July inflation report should allow the Federal Reserve’s Open Market Committee to move forward with a 25-basis-point cut in short-term interest rates at its September meeting. More jobs and inflation data will be coming before that meeting, however.

From today’s live report from Bloomberg:

“Inflation was broadly in line with expectations as tariffs continue to be largely absorbed within profit margins. This gives the Fed the room to respond to the weaker jobs backdrop and cuts interest rates from September.” — James Knightley, chief international economist at ING. …

A 25 basis point cut in September seems to be the base case now. Can the Fed cut rates when inflation is going up? Yes, it can, as long as the tariff inflation is seen as a one-off price adjustment.

Fed officials will have plenty of time to knock down this rate-cut speculation if it isn’t accurate. Most likely they will not, which will indicate a rate-cut is coming.

An interesting side note

The BLS said: “With this release, BLS has replaced survey data collected for the CPI’s wireless telephone services index with secondary source data and non-traditional index methods.” This probably makes sense in a time of budget and staff cuts. More on this topic.

FYI, the cost index for wireless telephone services was flat for July, after a 0.4% decline in June and 0.2% decline in May.

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PayPal link / Venmo link

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Follow Tipswatch on X for updates on daily Treasury auctions and real yield trends (when I am not traveling).

Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear. Please stay on topic and avoid political tirades. NOTE: Comment threads can only be three responses deep. If you see that you cannot respond, create a new comment and reference the topic.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Federal Reserve, I Bond, Inflation, Investing in TIPS, Tariffs | Tagged , | 27 Comments

TIPS investors face a ‘sky is falling’ moment

Posted on August 10, 2025 by Tipswatch

Can U.S. economic data be trusted?

AI-generated image for threatening sky. Source: Google Gemini.

By David Enna, Tipswatch.com

Bloomberg carried an article last week with a stunning headline: “Distrust In US Inflation Data Threatens $2 Trillion Market.” The premise was that the $2 trillion market in Treasury Inflation-Protected Securities could crack if U.S. inflation data are politicized.

This comes as no surprise to Tipswatch readers, where commenter discussions have raged over the last week on the safety and value of TIPS and Series I Savings Bonds, which also rely on accurate inflation data. The fury was set off by President Trump’s firing of Erika McEntarfer, head of the Bureau of Labor Statistics, after a huge downward revision in jobs numbers. Some examples:

The firing of the BLS Commissioner for no reason will mark a seminal moment in our economy and markets. World markets and investors will question whether our data is being manipulated for political purposes. …

CPI stats will diverge completely from reality, and anyone who talks of it will be blacklisted and fired or their employer punished into firing them. TIP and i-bond payouts and all COLAs will be paid based on these opinion statistics. …

My worst fears as an I-bond and TIPS investor are about to be realized. Manipulated inflation data is on the way. …

I will definitely be holding off on new purchases until I see what happens with the BLS numbers. …

I’m NOT reaffirming my commitment to TIPS.

Reality check

The Bloomberg article (the link is outside the paywall), noted that government data have a major effect on asset prices and especially for TIPS, which rely on monthly inflation data to set ongoing principal adjustments and future coupon payments.

“If there is politicization of the BLS, and somehow the data is not credible it poses an enormous risk over time to the TIPS market,” said Amar Reganti, fixed income strategist at Hartford Funds.

That concern was echoed by Michael Feroli, chief US economist at JPMorgan Chase & Co. “The $2.1 trillion market for TIPS is built on a foundation of trust in the construction of the CPI data,” Feroli wrote.

Fear that the Trump administration will “cook the books” predates the firing of McEntarfer, but the firing set paranoia into overdrive. Is this fear realistic? About a month ago, I had a long talk with a now-retired high-level official of BLS who worked on the jobs reports. He noted that the economists and statisticians at the BLS would mightily resist any attempt to fake the numbers.

“It won’t happen,” he said. “There is only one political appointee at the BLS, the commissioner.” (Until Aug. 1, the one political appointee was McEntarfer. She has been replaced temporarily by William Wiatrowski, who has been deputy commissioner since 2015 and acting commissioner under both Trump and Biden.)

The retired BLS official did note that the BLS’s declining budgets, cuts in staffing and poor survey response levels could lead to inaccuracies. The BLS is relying more on “estimation” when full data aren’t available. “When you are estimating, you tend to go more with the status quo until you get a more complete picture,” he said.

Listen to the podcast.

This was the topic of a recent Bloomberg Odd Lots podcast, where hosts Joe Weisenthal and Tracy Alloway interviewed Bill Beach, BLS commissioner from 2019 to 2013. Listen to the podcast, titled “How Trump just politicized US economic data.”

A lot of the discussion is a deep dive into BLS operations, but here is one key point: Beach noted the BLS commissioner (up to this point) “plays no role whatsoever in massaging the data.” Trump accused McEntarfer of “faking” the jobs number and manipulating them for political purposes. I’d say with near 100% certainty that didn’t happen, and faking the numbers will be difficult for any future Trump appointee.

See also: A historical look at political influence over the BLS

Jack Hough’s Streetwise podcast also took on this topic this week, from an investor’s viewpoint, airing a fascinating interview with Thierry Wizman, a strategist at Macquarie Group and author of a recent report titled “How Do You Play the Data Integrity Mess?”

Click to listen to podcast. The BLS section begins at 14:08.

Wizman pointed out the poor jobs data for June actually worked in Trump’s favor, at least partially, because the Federal Reserve now seems likely to cut short-term interest rates two to three times this year, something Trump has been demanding. But surging inflation data would be viewed very negatively by Trump because it would be an indictment of his tariff policy.

Obviously, firing the head of the BLS is a way of acting upon his impulses, or at least his inherent view, that there is something wrong with these agencies. And that just changing the person who’s running the show is a way of fixing this. If you take this all at face value, what he wants is accuracy. Do we really believe that? Probably not.

What I think he wants, which is more consistent with his appointments generally speaking during this administration, is someone who is loyal. … And I mean politically loyal.

Hough asked Wizman specificially about TIPS from an investor’s point of view if inflation data becomes suspect.

That is a risk, and I would venture that if people start thinking this way about these changes, well then they’re not going to want to hold these TIPS. They certainly don’t want to hold the ones that mature during the period in which you believe that the physical agencies may corrupt the CPI calculation. But again, we’re in the realm of speculation here. We’re not yet at a point where we can say that the process will be affected.

The big picture

Will investors now look at all the BLS jobs and inflation reports with a wary eye?

Yes, of course they will. It is human nature. Every economic report we see going forward is going to have a faint stigma of manipulation, even if it isn’t true. From Barron’s columnist Randall Forsyth last week:

“In a scenario where TIPS are unable to provide a hedge against inflation because of the uncertainty around the CPI index published by BLS, its overall demand might start decreasing,” wrote Morgan Stanley fixed-income analysts Aryaman Singh and Matthew Hornbach in a client note.

In other words, if the market senses the CPI is being suppressed artificially, it will exact a penalty in the form of a lower price for the securities, which translates into a higher yield.

Forsyth goes on to note historical instances of data-manipulation in China, Argentina, Turkey, with mostly disastrous results. These are not models the United States should follow. He ends with investment advice:

The suppression of reported inflation would mean inflation-indexed investments such as TIPS would underperform. … A better hedge would be gold, which should benefit if the CPI is manipulated.

An alternate view

Michael Ashton, a reliable inflation watcher who tends to support Trump’s economic policies, dispelled some of the gloom and doom in a podcast posted Aug. 6. He also noted the problems in BLS data collection and admitted that economists worry the firing of McEntarfer “could diminish the credibility of the Bureau of Labor Statistics.”

Ashton asks, “Is this a sign that the end of government credibility (okay, stop laughing) is nigh?” Opposing views are important to hear, so here you go:

“This particular problem falls into the category of it doesn’t really matter,” Ashton says, noting that interim commissioners have headed the BLS about a quarter of the time since the 1990s. He makes the argument that CPI reports — even with some estimation — are much more reliable and consistent than the jobs data.

Ashton, by the way, has argued the Fed should not be cutting short-term interest rates in this current economy because the risks of inflation remain high.

My thoughts

Is the sky falling? No. But things are very cloudy.

Staffing, budget and process issues at the BLS have been called “a slow-moving train wreck” requiring immediate attention. Beyond TIPS and I Bonds, the CPI data are used to calculate Social Security benefit increases, some pension increases, wage increases, etc.

I remain committed to TIPS and I Bonds as investments. I don’t think inflation data will suddenly become an outright fantasy, but could be manipulated in minor ways. Budget and staff cuts could cause inaccuracies. And it could be that because of investor wariness over data, we will see real yields on medium- to longer-term TIPS begin to rise.

We will get the July inflation report at 8:30 a.m. EDT on Tuesday. Economists are forecasting an increase of 0.2%, a run-of-the-mill number. Whatever the result, I think we can trust that BLS staffers did their best. The interim commissioner has been at the BLS for a decade. Nothing has changed at this point.

It’s unfortunate that these two ultra-safe and ultra-useful investments — TIPS and I Bonds — are now called into question because of a rash decision by the president. Yes, the firing of McEntarfer could be justified after the massive jobs-number revisions. That was a big miss. But when Trump accused the BLS of “faking” and “manipulating” numbers for political reasons he opened a dangerous Pandora’s box.

Investors have noticed. The result could be declining demand for inflation-linked investments. That’s too bad.

Aug. 1: President Trump fires head of the Bureau of Labor Statistics

Aug. 4: Treasury reaffirms its commitment to TIPS

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Donate? This site is free and I plan to keep it that way. Some readers have suggested having a way to contribute. I would welcome donations. Any amount, or skip it, your choice. This is completely optional.

PayPal link / Venmo link

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Follow Tipswatch on X for updates on daily Treasury auctions and real yield trends (when I am not traveling).

Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear. Please stay on topic and avoid political tirades. NOTE: Comment threads can only be three responses deep. If you see that you cannot respond, create a new comment and reference the topic.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Inflation, Investing in TIPS, Savings Bond | Tagged , , , | 56 Comments

Treasury reaffirms its commitment to TIPS

Posted on August 4, 2025 by Tipswatch

By David Enna, Tipswatch.com

For quite awhile, when I am writing about originating auctions for 5- and 10-year Treasury Inflation-Protected Securities, I note “this new auction is the largest in history for this term.” It has been happening every year since 2021.

The Treasury last week issued its funding plan for the 3rd quarter of 2025, and it is again increasing auction sizes for 5- and 10-year TIPS, while leaving the 30-year auction as is. There will be three TIPS auctions in the 3rd quarter:

  • 30-year, August 21. Treasury will offer $8 billion in a reopening auction, the same size as all 30-year reopening auctions over the last five years. In February 2021, the size of the 30-year TIPS originating auction increased from $8 billion to $9 billion and has stayed at that level.
  • 10-year, September 18. $19 billion will be offered in a reopening auction, up from $18 billion at the last reopening in May.
  • 5-year, October 23. $26 billion will be offered in an originating auction, up from $25 billion at the last originating auction in April.

The chart demonstrates that TIPS issuance is heavily weighted to the 5-year (2 new issues a year and 2 reopenings) and the 10-year (2 new issues a year and 4 reopenings). The 30-year is left with just one originating and one reopening at much smaller amounts.

Treasury offers this reasoning for the steady ramp-up of TIPS auction sizes:

Given the intermediate- to long-term borrowing outlook and the structural balance of supply and demand for TIPS, Treasury believes it would be prudent to continue with incremental increases to TIPS auction sizes this quarter.

Because TIPS are the only tradable Treasury security with a return linked to inflation, they are unique. The Treasury and its primary dealers apparently want to preserve the balance of real vs. nominal investments as the U.S. debt continues to increase. Plus, there are only 3 terms of TIPS (5, 10, 30) versus 14 terms (4-week to 30 years) on the nominal side. The Treasury clearly feels demand is highest for the 5- and 10-year terms for TIPS.

What about nominals?

Treasury says it believes the size of its note, bond and floating rate issues are “well positioned” and no changes will be coming “for the next several quarters.”

T-bills. Treasury didn’t provide specific information on issuance of Treasury bills in the 3rd quarter, but these auctions are likely to increase in size, possibly into 2026. It noted:

Since the $5 trillion increase to the debt limit on July 4, Treasury has increased bill issuance to continue to finance the government and to gradually rebuild the cash balance over time to a level more consistent with its cash balance policy.

This policy reflects a strategic move to shorter-term issues, and maybe a bit of a gamble that longer-term Treasury yields will decline next year.

Treasury anticipates further marginal increases in short-dated Treasury bill auction sizes in the coming days and then maintaining sizes at or near those levels through the end of September. Additional increases to Treasury bill auction sizes are anticipated in October.

At any rate, the U.S. faces steadily higher fiscal deficits in coming years. This is from a July 30 analysis by T.Rowe Price:

The U.S. government will need to issue more Treasury debt to fund its package of tax cut extensions and new spending cuts. Combined with new outlays on defense and immigration enforcement, the Congressional Budget Office estimates that the tax breaks and spending will boost the budget deficit by more than $3 trillion USD over the next 10 years (excluding the effects of any tariff revenue). …

Treasury Secretary Scott Bessent has stated that the Treasury Department will initially issue most of the new supply in the bill market as opposed to coupons. This would take advantage of the low yields on short-maturity debt relative to long-maturity debt and help restrain the government’s total interest costs.

Conclusion

Some investors have expressed fears that the threat of higher inflation would discourage the Treasury from issuing TIPS in the future. There is no evidence that is happening, and in fact TIPS issuance continues to climb. TIPS remain a solid element of U.S. government financing.

• Now is an ideal time to build a TIPS ladder

• Confused by TIPS? Read my Q&A on TIPS

• TIPS in depth: Understand the language

• TIPS on the secondary market: Things to consider

• TIPS investor: Don’t over-think the threat of deflation

• Upcoming schedule of TIPS auctions

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Donate? This site is free and I plan to keep it that way. Some readers have suggested having a way to contribute. I would welcome donations. Any amount, or skip it, your choice. This is completely optional.

PayPal link / Venmo link

—————————

Follow Tipswatch on X for updates on daily Treasury auctions and real yield trends (when I am not traveling).

Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear. Please stay on topic and avoid political tirades. NOTE: Comment threads can only be three responses deep. If you see that you cannot respond, create a new comment and reference the topic.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing

Posted in Inflation, Investing in TIPS, Treasury Bills | Tagged , , , | 31 Comments

President Trump fires head of the Bureau of Labor Statistics

Posted on August 1, 2025 by Tipswatch

By David Enna, Tipswatch.com

President Trump just posted this on his TruthSocial site:

Obviously, the president did not like the July jobs number, which came in at 73,000 added, less than the expected 100,000. But he was more angered by a revision — amounting to much lower jobs numbers for May and June, potentially caused by uncertainty in the aftermath of “Liberation Day” tariffs.

What’s interesting is that the lower-than-expected jobs numbers strongly support the president’s call for lower interest rates, as reflected in this Wall Street Journal headline today: “Cooling Job Market Opens Door to September Cut Despite Inflation Jitters.”

The latest jobs report shows how a series of policy experiments in the early months of the Trump administration could be slowing the economy and labor markets. They include a crackdown on immigration that could reduce the number of people available to work, an increase in tariffs that might dampen demand, and job cuts for federal workers and other contractors and nonprofits that rely on government partnerships. …

The three-month average of private job growth fell to 52,000, down from 158,000 in February and the lowest since last August.

The firing of BLS commissioner Erika McEntarfer is disturbing because it signals that Trump will be unwilling to accept bad news in economic statistics, even if the news is accurate. The BLS — which issues the crucial monthly inflation report — is an independent and non-partisan division of the federal government, staffed almost entirely by economists and statisticians. It is unlikely that McEntarfer made a “call’ to lower these job numbers to embarrass Trump.

The United States financial system is built on reliable and (hopefully) accurate economic statistics. In this case, the BLS back-tracked on earlier, more-positive jobs reports. So … mistakes need to be corrected. A comment on the firing from a Bloomberg article:

“If this holds, and I assume it will, it would be a very big deal. We would not be able to have great confidence in the integrity of the data going forward,” said Julia Coronado, founder of the research firm MacroPolicy Perspectives LLC. “This data is a public service of enormous value, and its integrity is essential.”

And I had to laugh at Sen. Elizabeth Warren’s reaction, posted on X.com. (Warren agrees with Trump, by the way, that interest rates should be lowered):

Instead of helping people get good jobs, Donald Trump just fired the statistician who reported bad jobs data that the wanna-be king doesn’t like.

The inflation picture

Just about weekly, I get comments or feedback from readers worried that U.S. inflation numbers will be doctored to put a positive light on the Trump administration and its policies. My feeling has always been, “I need to see evidence.” Inflation in the June report came in higher than expected, which was a good sign the data are not being manipulated.

Back on June 5, I wrote about how the BLS was expanding its use of “estimation” in calculating the Consumer Price Index, because of DOGE-required job cuts. My conclusion then:

So, without any evidence to the contrary, I will accept that the U.S. inflation numbers will continue to be “relatively accurate,” which is about as good as they ever were. But we have to accept that budget and staffing cuts at the BLS are going to lead to less accuracy, not more accuracy.

Apparently, the jobs report is subject to a lot of revisions, partially caused by low response rates to BLS surveys. But as months pass, the BLS economists can get a clearer idea of labor reductions, or increases, so revisions are needed.

Today’s firing of the BLS commissioner is troubling. McEntarfer could have been replaced quietly at any time in last last six months. But instead the president choose the one day he got bad news. That obviously will harm morale at the BLS, and potentially send very bad message: “Good news or else.”

As I have said before, my advice is to “be wary.”

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Donate? This site is free and I plan to keep it that way. Some readers have suggested having a way to contribute. I would welcome donations. Any amount, or skip it, your choice. This is completely optional.

PayPal link / Venmo link

—————————

Follow Tipswatch on X for updates on daily Treasury auctions and real yield trends (when I am not traveling).

Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear. Please stay on topic and avoid political tirades. NOTE: Comment threads can only be three responses deep. If you see that you cannot respond, create a new comment and reference the topic.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Inflation | Tagged , , , , | 84 Comments

Let’s offer praise for high interest rates

Posted on July 27, 2025 by Tipswatch

Do you agree? Probably not. But high interest rates benefit savers.

By David Enna, Tipswatch.com

Let’s step back in time, to 1965: I was 12 years old and folks from a nearby Savings and Loan came into my classroom to encourage students to open a “passbook savings account.” They even gave us neat little folding books to store dimes and quarters to build up the first deposit.

1964 silver quarter.

The passbook accounts are a thing of the past, but in the 1960s they generally paid an interest rate of 5%, and in fact were capped at 5.5% through the mid-1980s. I opened the account — with 5% interest — but I saved a few books of dimes and quarters and still have them stashed away. All of these coins were the silver versions, now worth much more than face value.

So … 5%? At the time, I wasn’t impressed. Sixty years later, I’d jump for joy over 5% interest.

And that’s my point: Current Treasury interest rates aren’t historically high, hovering around 4.3% for much of the nominal yield spectrum in July 2025. That’s close to the effective federal funds rate of 4.31%, which may begin declining soon, probably slowly down about 100 basis points over 12 to 18 months. This chart shows that today’s short-term interest rates are fairly normal, or even low, historically:

Click on image for larger version.

President Trump is lobbying for a 300-basis-point cut in the federal funds rate, which would bring it to about 1.3%. I am not sure that is a serious proposal, but the president will have a lot more say about that next year, when he names a new chairman of the Federal Reserve.

What would be the result of dramatically lower short-term interest rates?

  • The yield curve could steepen, with short-term rates falling and longer-term rates potentially holding stable, or declining far less.
  • Financing the federal deficit would be much less expensive, especially if the Treasury shifted its issuance to short-term T-bills.
  • The housing market could get a boost, if mortgage rates fell. But there is no guarantee of that, since the mortgage rates are generally tied to the 10-year Treasury note.
  • Credit card interest rates would likely fall (the current average is 21.4%), but would probably remain well above 15%.
  • U.S. economic growth could get a boost.
  • U.S. inflation would very likely increase.

We are in an era of very high U.S. government borrowing, continuing over the next decade. Longer-term Treasury rates — and the linked mortgage rates — aren’t likely to fall dramatically unless the Federal Reserve launches another era of bond-buying quantitative easing. That would be disastrous, in my opinion.

Is inflation low enough to justify greatly reducing the federal funds rate? U.S. inflation is currently running at an annual rate of 2.7% — above the 30-year average of 2.5%. Today’s inflation could justify a small, gradual cut in rates, but nothing more, in my opinion.

Click on image for larger version.

High rates benefit savers

My point of view on this issue comes from being a life-long saver with no debt and a cash reserve to fund my needs in retirement. So, yes, maybe I am an outlier. For much of the decade from 2011 to 2022, I was earning about 0.05% on my cash. Today, I can earn 4%+, which amounts to a sizable boost in income. For example, in 2020 my cash holdings at Fidelity paid $5 in interest. Last year that rose to more than $3,000.

In addition, the surge in real interest rates in 2023 allowed inflation-wary investors to build holdings in Treasury Inflation-Protected Securities, which can provide a guaranteed inflation-protected withdrawal rate for the future. The 10-year real yield rose from -0.97% in January 2022 to over 2.0% in December 2023.

Do the math. Let’s assume you have a portfolio allocation of 60% stocks and 40% bonds, a common allocation for people in or nearing retirement. Here is how lower interest rates would affect the interest payments coming from the bond allocation:

For a person with $1 million in investments, a 300-basis-point drop in interest rates across all maturities would result in $12,000 less in current annual income. On the other hand, the value of the investor’s bond funds would increase as interest rates fell. So in reality a 300-basis-point drop would hurt more if you are holding sizable cash reserves, a typical allocation for people in retirement.

I Bonds and TIPS. In times of very low interest rates due to Federal Reserve manipulation, TIPS can have negative real yields, meaning the investment is guaranteed to under-perform inflation. That is undesirable, but is in line with nominal yields, which will also lag inflation.

I Bonds are a much better option, because at the very least they will match future inflation, even with a 0.0% fixed rate. In mid-2020, when the 4-week Treasury bill was paying 0.11% (on a good day) I Bonds had a variable rate of 1.06%, about 10-times higher.

Conclusion

While falling interest rates would offer benefits to U.S. consumers, they would also enforce a lost-opportunity cost for savers and people holding cash reserves in retirement.

I am not suggesting that the Fed should increase interest rates. As I said, I think short-term rates could fall up to 100 basis points in the next 12 to 18 months, if inflation remains under control. My ideal is to have short-term interest rates running higher than inflation. If inflation begins to rise, rate cuts will be potentially destructive.

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Donate? This site is free and I plan to keep it that way. Some readers have suggested having a way to contribute. I would welcome donations. Any amount, or skip it, your choice. This is completely optional.

PayPal link / Venmo link

—————————

Follow Tipswatch on X for updates on daily Treasury auctions and real yield trends (when I am not traveling).

Feel free to post comments or questions below. If it is your first-ever comment, it will have to wait for moderation. After that, your comments will automatically appear. Please stay on topic and avoid political tirades. NOTE: Comment threads can only be three responses deep. If you see that you cannot respond, create a new comment and reference the topic.

David Enna is a financial journalist, not a financial adviser. He is not selling or profiting from any investment discussed. I Bonds and TIPS are not “get rich” investments; they are best used for capital preservation and inflation protection. They can be purchased through the Treasury or other providers without fees, commissions or carrying charges. Please do your own research before investing.

Posted in Bank CDs, Cash alternatives, Federal Reserve, Inflation, Retirement, Treasury Bills | 36 Comments