What the Treasury’s Buyback Surprise Says About the Bond Market

Rebecca Patterson is a globally recognized investor and macroeconomic researcher. She is the co-host of The Spillover, a weekly CFR podcast that examines the ripple effects of global events across policy, geopolitics, economics, finance, and technology.

The U.S. Treasury surprised investors on August 19 when it announced that it would at least double the amount of longer-dated Treasury bonds that it would buy back from investors—from $2 billion to $4 billion per operation—between September 9 and November 4.

The news came after ten-year and thirty-year U.S. government bond yields both hit twenty-year highs this week, with several non-U.S. government bond yields echoing the trend. Treasury’s announcement immediately pulled yields lower, with the agency saying the policy change “reflects Treasury’s desire to provide greater liquidity support” to the United States’ long-term bond market.

The move also underlined more fundamental questions: What are the sustainable paths to lower borrowing costs—the kind that flow through to households, businesses, and government debt-servicing costs—and are any of them plausible in the foreseeable future? And how meaningful is it if bond yields settle at structurally higher levels?

How yields come down

There are three main ways to lower yields and keep them down. First, government policy could address factors pushing up yields in the first place. Today, those factors would include inflation-boosting supply constraints and fiscal choices that increase budget deficits. Second, the Treasury or the Federal Reserve could intervene directly, most powerfully through quantitative easing, in which the Fed buys bonds to reduce supply. Third, economic conditions could shift: weaker growth expectations and/or declining inflation pressures tend to pull yields lower across the yield curve.

The best realistic hope for the first path near term is a resolution to the Iran war that eases constraints on supplies moving through the Strait of Hormuz, especially energy. As of August 18, the median analyst forecast on Bloomberg suggested Brent crude oil prices will fall below $76 a barrel by year-end from current prices above $91. That energy inflation relief, in other words, is already priced in—which could limit how much further it would pull yields down. Reducing other supply constraints or tightening fiscal policy, meanwhile, seems politically unlikely for the moment.

The Treasury is also demonstrating in real time that it is willing and able to act to manage yields. Buybacks are part of a toolkit used for years, in the United States and overseas, to ensure market liquidity and manage cash flows. But buyback changes are made in line with well-known quarterly issuance processes—the next such quarterly announcement is November 4—and Treasury published this quarter’s buyback schedule two weeks before overriding it. The speed of the recent bond sell-off and yield levels almost certainly played a role in the change.  

Ultimately, buybacks are more signal than substance. Even doubled, buybacks over the coming months would be absorbed into broader supply and demand dynamics driving prices and yields.

The more effective—and sustainable—policy approach is through Fed quantitative easing. Starting in 2008, the Fed adopted an approach previously used by the Bank of Japan, buying bonds to push longer-term bond yields down and stimulate the economy. Today, however, Fed Chairman Kevin Warsh has argued against sustained use of the central bank’s balance sheet and signaled that he would like to shrink it in the years ahead. That makes any Fed-led efforts to reduce yields highly unlikely for now—unless it is done as a one-off response to market failure.  This was the case in the UK when the Bank of England responded with tactical bond purchases in the fall of 2022.

If policymakers prefer not to intervene, or cannot, there is still one more, clear-cut path: expected and actual economic conditions. Anything that dampens longer-term expectations for U.S. growth or inflation feeds directly into longer-term yields because it could affect what kind of monetary policy investors believe will be needed in the future.  

In the coming weeks and months, changing conditions—for instance, softer U.S. inflation or labor-market data—that leave the Fed more willing to ease monetary policy could also help pull yields down along the Treasury curve. As of August 19, financial markets were discounting that the Fed’s next move was much more likely to be a policy rate hike than a cut—and three officials indicated that they favored a quarter-percentage point increase at the July policy meeting.

This is a view that makes sense. The Fed’s preferred measure of inflation has remained above its 2 percent target for more than five years, and Warsh has been emphatic since his confirmation hearing about the Fed’s resolve to get back on target. To change that picture enough to warrant easing, both supply- and demand-driven inflation pressures would need to moderate—which, in turn, would likely require notably slower growth.

The bottom line is that in the near-term, although there are policy paths that could lower yields in a durable way, most are politically unattractive. That leaves technical moves by the Fed and Treasury, not dissimilar to the currency intervention first undertaken by the Bank of Japan and, in July, by the Bank of Japan and U.S. Treasury jointly, which appeared aimed in part at preventing Japan from adding to upward U.S. yield pressures by reducing its holdings. But, as proved in Japan’s case, these are holding actions—not solutions.

Why the drivers matter

There is a second important question about Treasury yields that warrants discussion. Higher yields are certainly problematic for household and business borrowing, as well as government debt-servicing costs, but what is driving yields higher also determines exactly how much damage they can do.

In answering this question, it helps to take a step back and review the two main influences of longer-term government bond yield trends. The first is where investors expect short-term policy rates to average over the life of a bond—a function of growth and inflation expectations and the central bank’s likely response to them. The second is the so-called term premium: the extra return investors demand for lending the government money for longer. Uncertainty about inflation, doubts about fiscal sustainability, and less demand from price-insensitive buyers—central banks, foreign reserve managers, and pension funds that buy for policy or regulatory reasons rather than for value—could all increase the term premium.

In a best-case scenario, a higher term premium reflects investor expectations of stronger economic growth in the future, which can eventually justify tighter monetary policy. Although such expectations push yields higher, they do not necessarily undermine equities, since brighter growth prospects support sentiment both toward corporate revenues and the revenues themselves. This means the broader economic hit from yields is softened.

That’s what likely happened between mid-September and mid-November 2024, when the S&P 500, the term premium on a ten-year Treasury, and the bond yield itself all rose in tandem, even after the Federal Reserve cut the short-term interest rate. While difficult to quantify, it appeared this partly reflected growing expectations that a second Trump administration would embark on substantial economic deregulation that would boost growth without a rise in inflation.

That said, a rising term premium can also reflect other factors: shifting expectations about the balance of bond supply and demand, or shocks that lift inflation without benefiting economic activity. When these drivers dominate, equities are often punished because higher borrowing costs arrive without similarly stronger economic growth expectations to offset them.

What has lifted U.S. and most advanced-economy government bond yields since the depth of the pandemic in 2020 is a combination of both benign and problematic drivers. Growth expectations improved, in large part because of massive fiscal stimulus that increased bond supply. Meanwhile, supply chain constraints boosted inflation, eventually forcing central banks to raise interest rates.

Even as the pandemic moved into the rearview mirror, long-term bond yields kept climbing. Beyond rising policy rates, actual growth and longer-term growth expectations both improved. The global build-out of artificial intelligence (AI) infrastructure lifted economies worldwide, especially in the United States. U.S. investors have hoped that AI will support increased productivity, as well as increased fiscal spending focused on infrastructure and defense.  

What has increasingly offset the optimism around growth for bond investors is the steady rise in government debt: the International Monetary Fund estimated that advanced economies had a debt-to-GDP ratio last year near 110 percent. Because asset prices reflect supply against demand, fiscal policy that requires more bond issuance in turn needs equally greater demand to hold yields steady.

In the United States especially, questions have arisen about where such fresh demand will come from. The Trump administration’s trade and tariff policy announcements have frustrated overseas lawmakers at a time when foreigners hold around 30 percent of U.S. Treasury debt.

Although the United States is by far the largest bond market in the world and is in focus after the Treasury’s buyback surprise, it is not the only market that could cause financial market distress. France, Japan, and the UK face a similar set of macroeconomic and political challenges in addressing unwelcome high government bond yields.

France merits particular attention. Its debt agency can conduct buybacks much as the U.S. Treasury does, but the central bank backstop works differently. Only the European Central Bank (ECB), not the Banque de France, can decide to intervene in French bonds. And the ECB’s Transmission Protection Instrument is conditioned on compliance with European Union fiscal rules, something that France, with a budget deficit near 5 percent of GDP, does not currently meet.

After decades of stability and ultra-low yields, longer-term government bonds are back in the spotlight. For now, their yields seem likely to be higher for longer. More importantly, what drives yields and how high they rise from here will meaningfully shape outcomes for global financial markets and economies in the years ahead.