mopgcw,
I'm not concerned as much with the mechanics of what Poole suggested and exactly how FRE/FNM should be "fixed" as I am with the underlying issue he raises - the notion of unstable feedback loops, although of course he didn't put it in those terms.
Most functioning complex systems (like the economy) are inherently stable in the sense that moderate perturbations do not get magnified - instead they get damped. However, there are sometimes flaws embedded in the system that potentially can cause instability, particularly if they are not well known and understood. Just bringing them out in the open and discussing them sometimes makes them less dangerous, as the market forces corrections ahead of any major problem. I'd say that Poole's comments make the chance of a FRE/FNM disaster much less likely - if nothing else his comments will force FRE/FNM to be more conservative.
I didn't mark this post "OT" because I think that one needs to be constantly on the alert for positive feedback loops, because they can be responsible for very large market moves. As a concrete example, SEPR's liberal use of converts turned out to make it much more vulnerable to a regulatory setback - as the stock price declined, so its credit risk increased, which led to further price declines.
Another feedback loop we need to be aware of is the pension issue - as the market declines, so old-time companies will have to feed large sums of hard dollars into their defined-benefit plans as they are forced to adjust their forecast rate of return. However, the increased losses caused by this in turn create more stock price falls (we just saw this with GE).
Peter |
