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TREASURIES-U.S. Treasury sell-off resumes as Fed officials stay the course

By Herbert Lash NEW YORK, Sept 29 (Reuters) - A sell-off in U.S. Treasuries resumed on Thursday as Federal Reserve officials gave no indication the U.S. central bank would moderate or change its plans to aggressively raise interest rates to bring down high inflation. Cleveland Fed President Loretta Mester said she does not see distress in U.S. financial markets that would alter the central bank's campaign to lower inflation through rate hikes that have taken the fed funds rate to a range of 3.0%-3.25%. Mester told CNBC that she still sees inflation as the paramount problem facing the U.S. economy, which means the Fed needs to press forward with hiking rates to lift the federal funds target rate to over 4%. "We're not at a point where we should think about stopping on rate hikes," Mester said. "We're still not even in restrictive territory on the funds rate." The two-year Treasury yield, which typically moves in step with rate expectations, was up 11.9 basis points at 4.213%, while the yield on benchmark 10-year notes was up 8.9 basis points to 3.796%. The 10-year's yield on Wednesday fell 25.6 basis points to 3.707%, its biggest single-day drop since March 2009 as markets reacted to the Bank of England's intervention to halt a deep bond sell-off and crumbling British currency. BoE said it would buy long-dated gilts to restore financial market stability, a move that could lead the Fed to halt its balance sheet reduction to avert a hard U.S. landing, said Joe LaVorgna, chief U.S. economist at SMBC Nikko Securities in New York. "It seems to me the Bank of England may have a little bit of a template on how in the Fed's mind it may be able to get the funds rate higher," LaVorgna said. "It is conceivable the Fed could take the playbook out of BoE, the playbook in that in light of market conditions we're either going to slow or temporarily pause on balance sheet reduction," he said. The Fed is reducing its balance sheet by $60 billion of Treasuries every month, a move that is drying up liquidity. By stopping the run-off, rates could go higher and faster, in line with Fed plans to quickly staunch inflation, LaVorgna said. The gap between yields on two- and 10-year Treasuries , seen as a recession harbinger, steepened at -41.9 basis points. The 30-year yield was up 6.7 basis points to 3.748%. The breakeven rate on five-year U.S. Treasury Inflation-Protected Securities (TIPS) was last at 2.383%. The 10-year TIPS breakeven rate continued to decline and was last at 2.293%, indicating the market sees inflation averaging just under 2.3% a year for the next decade. The U.S. dollar five-years forward inflation-linked swap , seen by some as a better gauge of inflation expectations due to possible distortions caused by the Fed's quantitative easing, was last at 2.310%. Sept. 29 Thursday 10:02 AM New York / 1402 GMT Price Current Net Yield % Change (bps) Three-month bills 3.2925 3.3659 -0.008 Six-month bills 3.845 3.9753 0.057 Two-year note 100-18/256 4.213 0.119 Three-year note 97-244/256 4.243 0.121 Five-year note 100-108/256 4.031 0.109 Seven-year note 99-168/256 3.9316 0.107 10-year note 91-112/256 3.7976 0.091 20-year bond 90-220/256 4.0487 0.064 30-year bond 86-160/256 3.7478 0.067 DOLLAR SWAP SPREADS Last (bps) Net Change (bps) U.S. 2-year dollar swap spread 29.75 -1.25 U.S. 3-year dollar swap spread 7.00 -1.00 U.S. 5-year dollar swap spread 4.00 -1.00 U.S. 10-year dollar swap spread 4.00 -0.75 U.S. 30-year dollar swap spread -43.50 -2.50 (Reporting by Herbert Lash Editing by Nick Zieminski)