Kiplinger’s Interest Rates Outlook: Staying Up Until the Economy Slows

Unexpected strength in the economy will support bond yields until more evidence of slowing appears.

Illustration of interest rates
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The strong jobs report for May is boosting bond yields as the economy starts to look better, with a recession possibly further off than expected. While we still expect that the economy will slow in the coming months, for now, look for yields to stay elevated until signs of that slowdown arrive. The May jobs report showed that the services and government sectors are still hiring strongly, while pockets of the goods-producing sector – specifically motor vehicles, aircraft and nonresidential construction – are still going strong.

A deal to raise the federal debt ceiling has been ratified by Congress, meaning that a major worry for bondholders has been removed until 2025 when the deal expires. 

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The Federal Reserve is likely to hold off on raising short-term rates at its June 14 policy meeting. Tighter bank lending conditions have created their own rate-hike effect, which Chair Powell acknowledged in a speech this month. Powell added that the risks of doing too much to fight inflation are becoming more balanced with the risks of not doing enough. This is a shift in tone from previous statements that focused only on the Fed’s commitment to bringing down inflation.

Other short-term interest rates have risen along with the federal funds rate. Rates on home equity lines of credit are typically connected to the fed funds rate and move in lock-step with it. Rates on short-term consumer loans such as auto loans have also been affected. Rates to finance new vehicles are around 7% on six-year auto loans for buyers with good credit. 

Mortgage rates will stay elevated until there is more progress in the inflation fight. 30-year fixed-rate loans are at 6.5%, after peaking at 7.1% in early November, while 15-year fixed-rate loans are around 5.9%. Mortgage rates react to changes in the 10-year Treasury yield, though they are still about a full percentage point higher in relation to the 10-year Treasury than would normally be expected. Mortgage rates tend to stay higher for longer when inflation is high, whereas Treasury rates tend to be more sensitive to signs of economic slowing. 

The debt ceiling deal helped corporate high-yield bond rates to ease. AAA bonds are now yielding 4.5%. BBB bonds are at 5.7%, while CCC-rated bond yields are at 14.6%.  

Source: Federal Reserve Open Market Committee

David Payne
Staff Economist, The Kiplinger Letter

David is both staff economist and reporter for The Kiplinger Letter, overseeing Kiplinger forecasts for the U.S. and world economies. Previously, he was senior principal economist in the Center for Forecasting and Modeling at IHS/GlobalInsight, and an economist in the Chief Economist's Office of the U.S. Department of Commerce. David has co-written weekly reports on economic conditions since 1992, and has forecasted GDP and its components since 1995, beating the Blue Chip Indicators forecasts two-thirds of the time. David is a Certified Business Economist as recognized by the National Association for Business Economics. He has two master's degrees and is ABD in economics from the University of North Carolina at Chapel Hill.