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imageNEW YORK: The US Treasury yield curve surged to its steepest levels in 2-1/2 months on Thursday after US retail sales fell more than expected in August, further reducing the odds that the Federal Reserve will raise interest rates when it meets next week.

The Commerce Department said retail sales declined 0.3 percent amid weak purchases of automobiles and a range of other goods, after an upwardly-revised 0.1 percent gain in July.

"The data was weaker than expected," said Gary Pollack, head of fixed-income trading at Deutsche Bank Private Wealth Management in New York. "That has implications for monetary policy and reduces the chances that the Fed will raise rates in September."

Futures traders are now pricing in only a 12 percent chance of a rate increase this month, down from 15 percent on Wednesday, according to the CME Group's FedWatch Tool.

Other data on Thursday showed the labor market continuing to tighten with layoffs remaining very low last week, and underlying producer inflation creeping up in August.

Consumer price inflation data on Friday is the next economic focus.

Expectations that the Fed will wait longer to raise rates is causing the long bond to underperform as lower rates are likely to increase inflation in the longer-term, which erodes the value of the debt.

The yield curve has also steepened on concern that the Bank of Japan will purchase fewer long-term bonds.

The BOJ is studying options to steepen the yield curve to help prompt new lending by banks that have been hurt by low long-term rates.

The Bank of Japan and Fed will both conclude their September meetings next Wednesday.

US benchmark 10-year Treasury notes fell 4/32 in price to yield 1.70 percent, up from 1.69 percent on Wednesday.

The gap between five-year note yields and 30-year bonds yields widened to 130 basis points, the steepest curve since June 27.

Copyright Reuters, 2016

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