The U.S. bond market issues a warning to Trump! The yield curve flattens, and the risk of "stagflation" emerges

Zhitong Finance has learned that the U.S. bond market is sending warnings: Trump's imposition of tariffs on major trading partners may exacerbate U.S. inflation and hinder economic growth. On Monday, U.S. short-term Treasury yields rose by as much as 8 basis points to 4.28%, while long-term Treasury yields remained stable, with the steepness of the yield curve reaching its highest level since November last year.

Such measures are typically associated with stagflation—rising inflation and interest rates harm short-term bonds, but subsequent weak growth tends to push long-term bond yields down. Traders have reduced their bets on the Federal Reserve's easing this year, now estimating a 50% chance of two 25-basis-point rate cuts this year, down from 90% predicted last Friday.

Over the weekend, Trump continued to threaten tariffs on exports from Canada, Mexico, and China, while reiterating warnings to the European Union that tariffs "will definitely happen." Goldman Sachs is preparing for further flattening of the curve, with companies like BNP Paribas, Singapore's DBS Bank, and Japan's Daiwa Securities indicating that this will put the U.S. economy at risk of stagflation.

Calvin Tse, head of U.S. macro strategy and U.S. economics at BNP Paribas in New York, wrote in a report: "Trump's policy mix increases the risk of stagflation in the economy." He added that this means the Federal Reserve will likely keep interest rates unchanged in the coming meetings while assessing whether the risks to economic growth or inflation are "more severe."

As gasoline and food are not excluded from tariffs, BNP Paribas strategists indicated that long-term inflation expectations may continue to rise, benefiting 10-year inflation-linked U.S. Treasuries. They added, "If this indeed becomes a reality, we believe that a rate hike by the Federal Reserve this year becomes a tangible possibility, even in the face of lower economic growth."

The trends of Eurozone bonds and U.S. bonds are vastly different, with a rebound occurring amid widespread risk aversion among investors. The 2-year German government bond yield fell by 8 basis points to 2.05%, more than 220 basis points lower than U.S. Treasury yields, marking the largest gap since the end of December last year.

Strategists at Rabobank wrote in a report: "In terms of the strategic impact of this dramatic start to the trade war, we firmly believe that the spread between the two sides of the Atlantic will widen." Given the view that trade friction will drag down future U.S. economic growth, longer-term U.S. Treasuries may rise.

Goldman Sachs believes that the Federal Reserve is more likely to keep interest rates unchanged to curb inflation risks rather than cut rates to boost economic growth. Goldman Sachs senior market advisor Dominic Wilson stated: "This more hawkish outcome should align with the market's expectations of more downside for future economic growth and less upside for inflation, ultimately putting pressure on longer-term yields and flattening the yield curve."

After consecutive rate cuts last year, the Federal Reserve kept its policy unchanged last week, waiting for new progress on inflation. Data released last Friday showed that in December, the Fed's preferred core inflation measure remained moderate, with real disposable income showing almost no growth Traders are also preparing for the first Treasury refinancing announced by the Trump administration on Wednesday