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What the Fed can’t do

The Fed surprised the markets with a chunky half-percentage-point cut yesterday morning, two weeks before its regularly scheduled policy meeting.

The stock market rally lasted about 15 minutes. Bullishness about monetary stimulus quickly gave way to fears that the drastic action implied that the Fed thinks the coronavirus will hit the economy hard, tanking stocks.

Bonds set new records, with the 10-year Treasury yield dropping below 1 percent for the first time. It’s not a good sign for investors’ worries about the state of the economy.

“The fundamentals of the U.S. economy remain strong,” Jay Powell, the Fed chairman, said as he announced the rate cut. For some, it brought to mind this passage from the economist John Kenneth Galbraith’s book “The Great Crash, 1929”:

Always when markets are in trouble, the phrases are the same. “The economic situation is fundamentally sound” or simply “The fundamentals are good.” All who hear these words should know that something is wrong.

What could go wrong? Market watchers aren’t predicting anything as bad as the Great Depression, but there are scenarios in which the supply shock of the coronavirus could turn into a full-blown credit crunch or dent demand enough to tip economies into recession.