Short covering and relief that President Bush's economic proposals did not include any deficit-raising initiatives helped the market overcome its softer tone yesterday.

The long bond reversed morning losses from profit-taking and finished the session up 1/8 point, to yield 7.24%.

The morning session began lower for the second day in a row, as investors continued to consolidate profits earned during two previous sessions of big gains.

The market slipped further when news reports surfaced about President Bush's proposals for the economy. One wire service reported that the President, in a speech to the Detroit Economic Club, said he would propose a 1% across-the-board tax cut. That fueled a minor sell-off, as market participants expressed their fears of a bigger budget deficit.

Later in the day R became clear the President was not proposing anything he had not already suggested previously, and the market moved higher. The reference to a 1% tax cut was a hypothetical plan President Bush said could be implemented if Congress agrees to his $132 billion in spending cuts - an unlikely scenario.

"Traders realized he is still only advocating tax cuts if they can be paid for, if we can reduce spending by the same amount," said Fred Leiner, a market strategist at Continental Bank. "There was also some concern that he would call for some immediate action to stimulate the economy. So we're also seeing some relief that he did not."

Short covering added to the better tone late in the day.

In other news, a spokesman for the Federal Reserve Bank of New York reported at the bank's weekly press briefing yesterday that the nation's MI money supply rose $6.6 billion to $979 billion in the week ended Aug. 31; the broader M2 aggregate increased $7.0 billion, to $3.472.4 trillion; and M3 jumped $11.8 billion, to $4.180.1 trillion, in the same period.

The New York Fed also said the federal funds rate averaged 3.09% for the week ended Wednesday, down from 3.33% the previous week.

The announcement yesterday that initial claims for unemployment rose 8,000, to, a seasonally adjusted 394.000 in the week ended Aug. 29, was in line with expectations and had no impact.

Also passing without much notice was the Commerce Department announcement that businesses plan to increase spending on new plants and equipment by 4.3% in 1992, putting planned spending for the year at $551 billion.

The biggest indicator of the week will be released today, in the form of the August producer price index. The index is once again expected to show inflation under control.

The December bond futures contract closed 5/32 higher, at 106 24/32.

In the cash market, the 7 1/4% 30-year bond was up 1/8 point. at 99 30/32 - 100 17/32, to yield 7.24%.

The 6 3/8% 10-year note rose 2/32, to 100 13/32 - 100 17/32, to yield 6.30%. The three-year 4 5/8% note was unchanged, at 100 26/32 - 100 28/32, to yield 4.30%.

Rates on Treasury bills were lower, with the three-month bill down one basis point at 2.91%, the six-month bill two basis points lower at 2.94%, and the year bill down one basis point at 3.06%.

Foreign Exchange Report

In its periodic update on the foreign exchange markets, the Federal Reserve Bank yesterday announced it had, in conjunction with the U.S. Treasury, purchased $170 million through the sale of German marks in a July 20 intervention operation coordinated with the Canadian central bank and about a dozen European central banks.

Combined with the actions of the Canadian and European central banks. the entire intervention totaled about $1 billion. Both the Fed and the Treasury shared equally in the intervention financing, each purchasing $85 million, Federal Reserve Bank officials said.

The intervention, the only one during the three-month period of May. June, and July, was instituted as the U.S. dollar came under strong downward pressure, in contrast to the strength evidenced in the currency during the previous reporting period.

The Fed's report is the first official acknowledgment of U.S. foreign exchange transactions for the three-month period. ,

The dollar declined over I 0% against the market and most other European currencies and nearly 5% against the Japanese yen during the period, and the decline had been accelerating prior to the intervention. Fed officials hoped the intervention would help reinstitute a two-way market and curb dollar selling. Afterward, the dollar held steady against the mark during the remainder of the period.

In other operations during the period, the Fed and the Treasury purchased $6.177 billion by selling marks to the German Bundesbank in a series of off-market spot and forward transactions.

The arrangement, similar to a transaction conducted last year, followed an agreement between U.S. and German officials that their respective holdings of marks and dollars were in excess of current needs and that it was to their mutual advantage to reduce those holdings.

A spot transaction of $2.504 billion settled on May 22 and a forward transaction of $743.7 million settled on July 21. Sixty percent of the marks were sold for the account of the Federal Reserve and the remainder for the account of the U.S. Treasury. The remaining forward transactions will settle later in the year.

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