On Monday, January 21, when the US stock markets were closed for Martin Luther King Day, world markets took a bad stumble. The next morning, as our markets were about to open, the Federal Reserve took the rare step of cutting the interest rate under its direct control a deep three-quarters of a point. What was rare about the cut was not only its size--triple the quarter-point moves that were typical over the past decade--but its timing, a week ahead of a normal policy meeting at which the Fed was nearly certain to cut rates. Such intermeeting moves are very unusual. Clearly, the cut was intended to have a dramatic psychological effect. The Fed's earlier rate cuts since last summer left the markets unimpressed and screaming for more; maybe this one will do the trick. And no doubt there's more to come.

Although real-world economic indicators have been softening for well over a year, they're far from collapsing. Yes, the housing market has been heading south for the better part of two years, and the economy produced a minimal 18,000 new jobs in December. But those things alone weren't enough to cause the central bankers to push the panic button. Plainly they were worried that the turmoil that had afflicted the financial markets ever since the subprime crisis broke out last summer was threatening to do serious damage to the real economy.

The cynical interpretation of events would be that the Fed is acting to rescue its most cherished constituency, Wall Street, which has had a pretty rough go of it lately after about twenty-five years of raking it in. This isn't wholly untrue, but tragically, Wall Street holds the rest of us hostage. Were the financial markets to seize up, the economy would go down the drain. That's not always true of the stock market, which often dances to its own delusional music, but it's very true of the credit markets, because they provide crucial day-to-day funding for businesses large and small. The Fed is trying to keep that credit flowing.

It's not only our economy that's at risk. For months, it was fashionable to say that the rest of the world had "decoupled" from the United States; a recession here wouldn't necessarily affect the economies of Europe or Asia. But the idea that the rest of the world could escape the influence of the United States-- which despite the erosion of its dominance over the last several decades is still responsible for about a quarter of the world's output-- never made much sense, and the global stock selloff was an acknowledgment of that reality.

Just how stark is the reality? Doom-mongers are ominously predicting the worst downturn since the 1930s. Maybe. But with the Fed cutting interest rates this aggressively, and Washington almost certain to concoct a large stimulus program, a more likely outcome would be a recession followed by a year or more of stagnation. It's going to take time to work off the glut of new houses and the overhang of bad debts.

How dire things will get depends in large part on the makeup of that stimulus program. Size alone doesn't matter. If it's just tax rebates skewed to the upper brackets and business tax breaks, as the Bush Administration wants, it's not going to help all that much. (Regardless of any tax cuts, why would businesses invest if the economic outlook stinks?) Money must be gotten into the hands of those most in need of it, who are also those most likely to spend it: poor and lower-middle-income Americans. And a moratorium on foreclosures is essential to minimize suffering while a longer-term solution to the housing mess is worked out. Sad to say, though, it's hard to imagine our President signing such a humane and sensible bill.

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