Interest rates rose sharply late Thursday afternoon after the Federal Reserve announced a bigger-than-expected increase in the money supply.

The yield on the 30-year bond closed at 7%, up from 6.97% on Wednesday.

The yield had surged past 7% earlier in the week on inflation fears sparked by a sharp rise in the price of gold. It retreated below 7% on Wednesday when those fears subsided. But the Fed's report that M2 increased $20.1 billion in the week ended May 10 sent the bond market into a tailspin at day's end.

Stocks Rallied

The stock market, subdued much of the day, rallied in late afternoon. The Dow Jones industrial average rose 23.25 points to a record 3,523.28. The dollar fell to 1.6158 German marks from 1.6230 and to 110. 60 yen from 110. 6 5.

John Lonski, senior economist at Moody's Investors Service, said conflicting economic signals kept the bond market in check most of Thursday.

A sharp rise in the Commodity Research Bureau Index, which measures 21 futures prices, provided new inflation worries. The index' rose 1.41 points, or 0.67%, to 210.99.

Mr. Lonski said a big rise in energy prices was the biggest factor in the index's increase. Gold prices rose moderately as well.

But the bond market took heart from a report from the Federal Reserve Bank of Philadelphia indicating that the economy is weakening.

The bank's monthly business outlook survey showed that growth in its region's manufacturing sector has slowed. Indicators of future growth fell to their lowest level in two years.

Some investors had feared that the Fed, whose monetary policymakers met on Tuesday, would tighten credit to check inflation. These fears dissipated as the Fed moved Wednesday and Thursday to add reserves.

However, Douglas Schindewolf, money market economist at Smith Barney, Harris Upham & Co., noted that there remains sentiment in the market that the Fed on Tuesday changed its stance on the direction of short-term interest rates.

Fed policy has tilted toward easings for the past four years. Many bond market professionals believe the Fed's next move will be a tightening.

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