By Brian Johnson, Director of Investment Services

As we close out the first quarter of 2026, it’s important to reflect on how economic and geopolitical developments abroad can impact monetary policy here at home. If the past few months have reminded us of anything, it’s that unknowns can introduce bigger and more immediate impacts to the global economy and financial markets than what we thought we knew before those headline events emerged.

At the start of 2026, the federal funds futures market reflected a growing expectation that the Federal Reserve (Fed) would likely proceed with restraint towards additional rate cuts in the coming year. The market largely priced in a view of the federal funds rate being 50 basis points (0.50%) lower by the end of the calendar year.  At the conclusion of the Federal Open Market Committee’s (FOMC) policy meeting on March 18, it was announced the target range for the benchmark fed funds rate would remain unchanged at 3.50% – 3.75%.  With the January and March policy meetings complete, there are now six more FOMC meetings that remain for 2026.

The membership of the FOMC has continued to display a range of views regarding the appropriate path for monetary policy. Their most recent dot plot (a chart published by the Federal Reserve that shows where each member of the FOMC expects the fed funds rate to be in the future), reflects a more cautious approach for the remainder of 2026. At the start of the year, FOMC officials were projecting two or more quarter-point cuts in 2026 (relatively aligned with broader market expectations). Following their meeting on March 18, the dot plot reflects that one quarter-point cut might still be in the cards for 2026, but there are now several members forecasting no cuts for the remainder of this year. The fed funds futures markets are implying a roughly 75% probability of a single, quarter-point rate cut through the end of calendar year 2026.

The FOMC’s present stance reflects ongoing uncertainty around persistent inflationary pressures and labor market uncertainty. The Federal Reserve’s dual mandate focuses on both maximum employment and price stability. Entering 2026, the Fed had been through delayed and, in some cases, incomplete economic data stemming from last year’s government shutdown. However, more recent releases have helped fill in portions of those gaps. Despite a recent decline in jobless claims, Fed Chair, Jerome Powell, reiterated the Fed’s cautious approach toward the labor market following the March 18 FOMC meeting, stating that “effectively, there has been zero net job creation in the private sector.”

On the inflation front, recent inflationary readings have shown that some price pressures have eased while others remain sticky. The forecast for economic growth has also been re-rated due to the recent conflict in Iran and the supply chain dynamics for the global energy market. Because a large share of the world’s oil and gas flows through the Strait of Hormuz (a narrow channel off the coast of Iran), attacks on regional infrastructure and the threat to shipping have pushed oil prices above $100 per barrel (as of the time of this writing) and created tremendous volatility in energy markets and financial markets. “In the near term, higher energy prices will push up overall inflation, but it is too soon to know the scope and duration of the potential effects on the economy,” stated Powell following the FOMC’s recent meeting.

In addition to its rate policy, the Federal Reserve has continued its efforts to manage overall liquidity in the financial system. The previously announced purchases of short-dated U.S. Treasury securities have proceeded as planned in early 2026 to the tune of approximately $40 billion per month. The Fed is expected to slow these purchases in April, however, this initiative has helped the Fed ensure there is enough liquidity in the money market space to maintain control over its short-term interest rate target.

Looking ahead to the second quarter of 2026, several key factors are expected to play a role in shaping the path of interest rates. The trajectory of the U.S. labor market and the conflict in Iran remain central, particularly as policymakers balance signs of cooling against the risk of a sharper slowdown. At the same time, inflation continues to run nominally above the Fed’s 2.0% target and economic growth will be at risk due to increased energy prices.

Against this backdrop, we see a strong probability for further yield curve steepening. The interest rate environment has shifted substantially just in the past several weeks. As of the writing of this article, U.S. Treasury rates have increased anywhere from 25 – 40 basis points (0.25 – 0.40%) in the 1 – 5-year part of the yield curve. In fact, some parts of the yield curve where inversion was present now have a positive spread over the effective fed funds rate.

In this environment, maintaining a long-term investment perspective remains critical. While short-term instruments like money market funds and Local Government Investment Pools (LGIPs) may continue to offer relatively attractive yields, they are also among the most sensitive to shifts in monetary policy expectations and volatile in their returns over extended periods. Locking in longer-term yields at compelling rates can provide greater income stability and predictable cash flow across budget cycles — an important consideration for many governmental investors navigating today’s uncertain rate and economic environment.

If you’re interested in discussing your current portfolio or exploring alternative investment strategies, please contact your Ehlers Investment Adviser to learn more.

Required Disclosures: Please Read

Ehlers is the joint marketing name of the following affiliated businesses (collectively, the “Affiliates”): Ehlers & Associates, Inc. (“EA”), a municipal advisor registered with the Municipal Securities Rulemaking Board (“MSRB”) and the Securities and Exchange Commission (“SEC”); Ehlers Investment Partners, LLC (“EIP”), an investment adviser registered with the SEC; and Bond Trust Services Corporation (“BTS”), holder of a limited banking charter issued by the State of Minnesota.

This communication does not constitute an offer or solicitation for the purchase or sale of any investment (including without limitation, any municipal financial product, municipal security, or other security) or agreement with respect to any investment strategy or program. This communication is offered without charge to clients, friends, and prospective clients of the Affiliates as a source of general information about the services Ehlers provides. This communication is neither advice nor a recommendation by any Affiliate to any person with respect to any municipal financial product, municipal security, or other security, as such terms are defined pursuant to Section 15B of the Exchange Act of 1934 and rules of the MSRB. This communication does not constitute investment advice by any Affiliate that purports to meet the objectives or needs of any person pursuant to the Investment Advisers Act of 1940 or applicable state law. In providing this information, The Affiliates are not acting as an advisor to you and do not owe you a fiduciary duty pursuant to Section 15B of the Securities Exchange Act of 1934. You should discuss the information contained herein with any and all internal or external advisors and experts you deem appropriate before acting on the information.