TREASURIES -US yields moderately firmer as fiscal worries trump jobs contraction

(Adds new comments, reference to UK bonds selloff, updates yields)

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Fiscal concerns overshadow potential Fed rate cut

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Republicans face challenges passing tax-cut bill

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Yield curve steepens amid fiscal worries

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UK bond rout weighs on US Treasuries

By Gertrude Chavez-Dreyfuss

NEW YORK, July 2 (Reuters) - U.S. Treasury yields were modestly higher on Wednesday as fiscal concerns about President Donald Trump's tax and spending legislation seemingly outweighed the likelihood of a Federal Reserve rate cut following an unexpected drop in private-sector jobs last month.

"The focus is shifting back to deficit spending and the potential for inflation to rise," said Zachary Griffiths, head of investment grade and macro strategy at CreditSights in Charlotte, North Carolina. "I feel like the overall labor market data this week has been inconsistent with JOLTS (Job Openings and Labor Turnover Survey), which came out relatively strong yesterday and then ADP (private sector jobs report). So tomorrow's nonfarm payrolls print will be key." Republicans in the House of Representatives, meanwhile, teed up a procedural vote on Trump's massive tax-cut and spending bill that could reveal whether the party has enough support to pass it out of Congress. With only three votes to spare, it was not clear whether Republicans would be able to resolve the concerns of a handful of members who have threatened to vote against the legislation. A procedural vote was set for early afternoon, with a vote on final passage possible later in the day.

In late afternoon trading, U.S. two-year yields, which track interest rate expectations, rose 1.2 basis points (bps) to 3.787% after earlier trading lower. The benchmark 10-year yield, on the other hand, was last up 4.2 bps at 4.291% , on track for its largest daily gain since June 13. U.S. 30-year yields also gained, up 4.3 bps at 4.821% , on pace for its largest one-day rise since mid-June.

"We need to get the bill passed to give investors certainty," said Vinny Bleau, director of fixed-income capital markets at Raymond James in Memphis. He noted that taxes are going up on January 1 if the bill is not passed. "That's like taking money out of people's pocket, which would hurt the economy regardless of whatever else is in the bill. I don't think either party wants to raise taxes on the middle class." Also on weighing on Treasury prices was the steep drop in UK government bonds, after a tearful appearance by Chancellor Rachel Reeves in parliament on Wednesday, a day after the government backed down on its welfare reforms, stoking fears over Britain's finances. Investors are monitoring Reeves' status after the British government's reversal on welfare reforms meant the plans would no longer save taxpayers any money, shredding the margin Britain relies on to meet its fiscal rules. The yield on the 10-year UK government bond, or gilt, rose as much as 22 bps on the day at one point, to 4.681% GB10YT=RR. It was last down 1 bp at 4.611%. U.S. rates also reacted to data showing private payrolls dropped by 33,000 jobs last month after a downwardly revised 29,000 increase in May, according to the ADP National Employment Report. That was the first drop in more than two years. Economists polled by Reuters had forecast private employment increasing by 95,000 following a previously reported gain of 37,000 in May. "ADP's jobs report doesn't always line up with the BLS (Bureau of Labor Statistics) jobs report," wrote Bill Adams chief economist for Comerica Bank in Dallas, Texas in emailed comments.

"Hiring will likely stay slow in the second half of 2025. Ordinarily, job growth malingering at the second quarter's sluggish pace for half a year would translate into a meaningful increase in the unemployment rate, which would pressure the Fed to cut rates this fall. This is why financial markets price in half a percent to three quarters of a percent in rate cuts by year-end."

A Reuters poll showed that economists expected 110,000 new jobs in June, down from 139,000 in May. The unemployment rate was expected to have crept higher to 4.3%, from 4.2% the previous month.

Futures tied to the benchmark fed funds rate, on the other hand, lifted the chances of a rate cut by the July policy meeting, pricing in as much as a 27% chance of a July cut post-jobs data, according to LSEG estimates. It was last at 23%, compared with a roughly 20% chance just before the data release.

For the September meeting, the market has fully priced in a 25-bp rate decline. In other parts of the bond market, the yield curve steepened, with the spread between the two-year and 10-year yield rising to 50 bps US2US10=TWEB from 46.7 bps late on Tuesday. This suggests that bond investors are fleeing the long end of the curve due to U.S. fiscal worries.

(Reporting by Gertrude Chavez-Dreyfuss in New York; Editing by Andrew Heavens, Chizu Nomiyama, Matthew Lewis and Anna Driver)