With Monday’s collapse of MF Global came the recriminations against the regulator, not unreasonable given that, when firms are regulated, the point is to prevent what happened at MF Global. But, from what one can tell so far, regulators to foil the failure would have needed powers from on-high to stop the sins of avarice and deception – a performance standard that’s a bit unfair. Still, that regulators may have been duped doesn’t mean that the MF Global case doesn’t raise serious issues about financial regulation, the answers to which will drive an array of pending systemic standards in the U.S. and around the world. Here, we assess a new form of contagion risk – the hazard that regulated firms will be still more tightly circumscribed following the failure of a largely unregulated counterparty.

First up on the contagion-risk agenda is the Volcker Rule. We have been told over and over that MF Global’s failure proves the need for the Volcker Rule’s tight ban on proprietary trading, an assertion based on the view that MF failed because it bet too big with its own under-capitalized balance sheet. The latter is true – the firm was wildly over-leveraged – but the conclusion back to Volcker is way off base. Volcker is supposed to bar insured depositories and their affiliates from proprietary trading on grounds that this activity is too high risk to be conjoined with FDIC coverage. MF Global wasn’t a bank or BHC and, thus, it was free to bet with its own bucks and would have remained free to do so post Volcker Rule had it lived to see the day.

Another fall-out from MF’s failure for other firms – a more real issue for them than the Volcker Rule – comes in the repo arena. Regulators were already very, very chary of repos on grounds that these instruments throw systemic risk back to big banks through the securities-lending channel. The Federal Reserve Bank of New York and a global committee have been working on guidelines in this area that the industry is beginning to implement, but the Financial Stability Board still has repos and related activities in its shadow-banking sights. It’s among the vaguer of the action plans in the most recent FSB report, but could move quickly up the to-do list in the wake of MF’s collapse.

Custody is of course a very hot topic post MF’s reported failure to keep its fingers off its customers’ money. And, even if the funds are found – as some press reports now suggest – the custody issue won’t be lost in the MF debris. The SEC and CFTC have been thinking about custody since the last time – Bernie Madoff – an errant entity hoped to stem its red tide with other people’s money. Post-Madoff, rules were changed a bit, but investment advisers and broker-dealers beat back calls for true third-party custodians. In part, this was based on assertions that the self-regulatory organizations could ensure this essential protection – an assertion very much at issue since MF’s two SROs may fail this test.

In our view, the challenge here isn’t so much SRO or outside auditing – which all those responsible tried hard to do. Rather, third-party funds can only be robustly protected from day one when they are iron-boxed in impenetrable containers – an essential prudential standard so far not applied outside banks. Now, this prudential standard will get the attention it deserves, hopefully in the context of still broader SEC and CFTC self-examination about the flimsy prudential framework on which the bulk of their regulatory construct is based.

And, speaking of flimsy constructs, there’s the question of orderly resolution for complex non-banking organizations. The FSB resolution protocols released at the G-20 meeting today are just as bank-centric as the proposed regime and the final U.S. resolution requirements. When MF Global failed, screens went dark and lots of money went missing due to failed trades, not just the uncertainties about how much MF kept in its own kitty.

Fortunately, MF Global doesn’t appear to be systemic (although a few other broker-dealers under acute stress aren’t so sure). Had MF Global been systemic or if it proves now to be, no one at the SEC or CFTC or FDIC will have a clue on what to do with it and how to avoid a Lehman repeat. Cold comfort three years later.