The U.S. nonfarm payrolls report due later this week will be a key test of the economy’s resilience. The data will not only offer a snapshot of labour market conditions, but also directly shape the Federal Reserve’s policy outlook: will the Fed stay on hold, or will signs of job-market weakness reopen the rate-cutting debate that was effectively sidelined by the Iran conflict?

At present, strong growth and war-driven inflation concerns have led markets to abandon expectations for rate cuts this year. That marks a sharp reversal from January, when markets were pricing in two 25-basis-point cuts in 2026.

Some analysts argue that the economy has shown considerable resilience despite the ongoing conflict. Even without the uncertainty created by geopolitics, current economic conditions do not appear to warrant aggressive monetary easing. In fact, only a clear deterioration in the labour market is likely to push Fed officials toward considering rate cuts.

However, given last month’s strong employment report, solid broader economic data, and persistently elevated inflation, even a single weak jobs report this month is unlikely to shift the Fed’s policy consensus on its own. Investors had previously hoped that rate cuts would help support gains in equities and other asset prices this year.

Recent economic data has further strengthened the case against cutting rates, even if the war is resolved in the near term. The U.S. economy added 178,000 jobs in March, nearly three times economists’ forecast of 60,000, while the unemployment rate edged down to 4.3%.

As a result, interest-rate markets have repriced significantly. The benchmark 10-year Treasury yield has climbed from 3.94% before the war on February 28 to 4.43%, while the rate-sensitive 2-year Treasury yield has risen from 3.38% to 3.94%. This suggests markets are increasingly accepting the reality that interest rates may remain higher for longer.

At this stage, there are few signs that easing is a priority for Fed officials. At the most recent meeting, the Fed kept rates unchanged, but three policymakers dissented against language in the statement that implied a bias toward rate cuts. There are also signs that, during the intermeeting period, more officials have moved toward a more neutral view on the future path of interest rates.

Fed Chair Jerome Powell said at last week’s post-meeting press conference that the central bank could abandon its rate-cutting bias as early as the mid-June meeting. Analysts believe the conditions required to support a cut in the federal funds rate, currently at 3.50%–3.75%, have narrowed significantly.

The U.S. economy rebounded in the first quarter, supported by increased corporate investment in artificial intelligence and a recovery in government spending after a severe shutdown. Consumer spending also remained resilient, despite higher gasoline costs.

One strategist noted that if the Fed cuts rates, it will not be because inflation data has improved; it will be because the labour market has deteriorated. More importantly, that weakness would need to appear across multiple reports, most likely through a sustained rise in the unemployment rate. Economists currently expect the Labor Department to report 60,000 new jobs for last month, with the unemployment rate unchanged at 4.3%.

Even if oil prices normalise after a U.S.-Iran ceasefire, inflation had already been on a worrying upward path before the conflict began. That means a resolution in the Middle East would remove one obstacle, but it would not fully clear the way for rate cuts. Some analysts warn that inflation was already rising before the oil shock, so markets should not assume that inflation concerns will fade simply because oil-related risks become less significant.

That said, several factors could prevent markets from continuing to price in Fed rate hikes. These include the still-incomplete Senate confirmation process for the former Fed governor expected to succeed Powell as chair, long-term inflation expectations that remain anchored at low levels, and the Fed policy committee’s implied dovish tilt. But without a deterioration in economic data, that dovish bias alone is unlikely to revive aggressive rate-cut expectations.

Another factor that may be masking underlying weakness in the economy is the large wave of tax refunds, which has helped consumers absorb higher energy costs. How quickly that cushion fades, and how rising oil prices affect consumption and other economic indicators, will be key variables for markets assessing the Fed’s policy path.

Overall, the threshold for both rate hikes and rate cuts remains high. Without a break in the labour market, the case for rate cuts will be difficult to build. At the same time, with inflation still elevated, the argument for keeping rates at current levels remains strong.

As one market participant put it, rate-cut expectations may return in a more meaningful way if labour market data begins to break down. Otherwise, markets may struggle to fully return to their pre-war pricing.