TREASURIES-US Treasury yields edge up after inflation data suggests smaller rate cut

By Chuck Mikolajczak

NEW YORK, Aug 30 (Reuters) - U.S. Treasury yields were modestly higher on Friday, with the benchmark 10-year set to snap a two-week streak of declines, after economic data raised expectations the Federal Reserve was likely to opt for smaller rate cut in September.

The Commerce Department said the personal consumption expenditures (PCE) price index rose 0.2% last month, matching expectations of economists polled by Reuters, after an unrevised 0.1% gain in June. In the 12 months through July, the PCE price index increased 2.5%, matching June's gain.

In addition, consumer spending, which accounts for more than two thirds of U.S. economic activity, rose 0.5% last month, also meeting expectations, after advancing by an unrevised 0.3% in June to indicate the economy remained on a solid footing in the early stages of the third quarter.

"The market's focus is shifting more towards jobs and labor rather than inflation. It feels like the market's pretty well convinced that inflation is moving in the right direction," said Thomas Urano, co-chief investment officer at Sage Advisory in Austin, Texas.

"As long as it continues to move in that direction, then the focus is going to be on growth and in the job market."

The yield on the U.S. 10-year Treasury US10YT=RR rose 0.6 basis points to 3.873%. The yield is set for its first weekly rise in three but fourth straight monthly decline.

Markets are fully pricing in a rate cut of at least 25 basis points at the Fed's mid-September meeting. Expectations for a 50 basis point cut dipped to 30.5% after the data, however, from 34% in the prior session, according to CME's FedWatch Tool.

The yield on the 30-year bond US30YT=RR fell 0.2 basis points to 4.149%. Like the 10-year yield, the 30-year was set to snap a two-week streak of declines but was poised for a fourth straight monthly drop.

Fed Chair Powell last week flagged the cooling in the labor market, which signaled a shift in the Fed's focus towards the job market over fighting inflation.

A closely watched part of the U.S. Treasury yield curve measuring the gap between yields on two- and 10-year Treasury US2US10=RR, seen as an indicator of economic expectations, was at a 5.2 basis points.

The two-year US2YT=RR U.S. Treasury yield, which typically moves in step with interest rate expectations, rose 3 basis points to 3.923%. The yield was barely lower on the week but set for a fourth consecutive monthly decline.

The breakeven rate on five-year U.S. Treasury Inflation-Protected Securities (TIPS) US5YTIP=RR was last at 2.041% after closing at 2.057% on Aug. 29.

The 10-year TIPS breakeven rate US10YTIP=RR was last at 2.148%, indicating the market sees inflation averaging about 2.1% a year for the decade.

(Reporting by Chuck Mikolajczak; editing by Barbara Lewis)

((charles.mikolajczak@tr.com; @ChuckMik;))