Situations with systemic risk suggest a coming event in which several different financial institutions threaten to bring on a worldwide collapse. A-No. 1 on Obama's new financial regulatory agenda this week was finding a way to manage systemic risk. So why is assessing systemic risk such a huge priority in financial regulation?

Because it's important to determine whether the failure of one financial institution will be an isolated event or trigger a domino effect. According to a report from the Heritage Foundation, the collapse of the housing market was a good example of a small-scale systemic risk. The collapse affected not only contractors, Realtors, and retail business but also "politically connected groups such as the credit ratings agencies, hedge funds, derivitive underwriters, mortgage brokers, etc." If a firm is deemed "too big to fail," that's usually because its potential collapse carries a great deal of systemic risk.

So how do you manage systemic risk? If you're President Obama, you turn to the Fed. Economic blogs, like Barry Ritholtz's, were afire this week, after Obama's overhaul of financial regulatory procedure involved granting increased oversight responsibilities to the Federal Reserve. Even before the announcement, there was broad criticism directed at a potential Fed-backed regulatory body for systemic risk.

Of course, if you were to ask the American Enterprise Institute, they'd tell you an effective systemic risk regulator might not even be possible. Let's hope that's not the case.