More Blog Wars:
Don’t Leave the Door Open to Another Financial Crisis: ...perhaps the work on complexity analysis used in analyzing network connections in fields like physics and computer science can be used to analyze the connectedness of financial firms. The mathematics to do this are already well-developed, and this should be feasible. Both the number and size of the connections would need to be tracked, and a risk index could then be developed.
Then, and this is the regulation part, I would propose developing something like the measures used to assess market or monopoly power discussed here. To determine if a firm is too large and powerful, a measure of its market share is constructed, and if that share crosses a predetermined threshold, further action is pursued by regulators. There’s no reason we can’t do the same with measures of connectedness among financial firms...
Response from Houman Shadab: Why Too Much Regulation Increases Risk.