So far, the Trump administration has done a very good job stemming the regulatory tide. It has launched a serious reform agenda, blocked and rescinded several rules, and withdrawn hundreds of other regulations from the pipeline.

Overall, the president has issued more than 50 executive orders and memoranda, two of which are aimed directly at fixing the regulatory process.

The president has even signed 15 Congressional Review Act resolutions, thus eliminating multiple Obama-era regulations. (The latest was the CFPB’s arbitration rule, the previous administration’s gift to trial lawyers that would have harmed consumers.)

More narrowly, the administration has firmly supported efforts to fix the mess that Dodd-Frank created and to fix financial market problems that existed prior to Dodd-Frank.

In his first month in office, president Trump issued guiding principles for regulating U.S. financial markets that were wholly consistent with free market principles. These principles – such as preventing taxpayer bailouts and empowering Americans to make their own choices – were also aligned with the underlying principles of the CHOICE Act, the reform bill that eventually passed in the House.

The administration then followed up with several equally encouraging financial regulation reports from the Treasury department. The reports kept friends of limited government and free enterprise excited about the future, but there were some troubling signs.

For instance, the capital markets report supported the idea that government regulation and government backstops should sometimes be used to maintain financial stability. This concept is fundamentally inconsistent with free-market principles because it ultimately requires the government to protect someone from losing money.

On balance, though, all of the reports encouraged the belief that the administration would support rolling back Dodd-Frank and instilling more market discipline in financial markets.

Then, just before Thanksgiving, Treasury issued a report titled The Financial Stability Oversight Council Designations. In terms of these reports, it is the first real disappointment for conservatives who care about the administration’s role in financial market reforms.

The Financial Stability Oversight Council (FSOC) is the most dangerous component of Dodd-Frank because it gives the federal government an explicit, yet ill-defined, mandate to stamp out financial risks.

Aside from the richly ironic fact that Dodd-Frank expects the same financial regulators who were minding the store prior to the 2008 crisis to now get everything right, the FSOC’s mandate is the opposite of empowering people to make their own financial decisions.

Even the “activities based” approach that the report champions ultimately treats people like children. It allows people to make choices, but only government-approved choices. (The activities based approach, for what it’s worth, is what several nonbank financial firms have been pushing for, making the correct, but short-sighted, bet that it will be easier to get the process tweaked to their advantage than to get rid of the FSOC.)

Perhaps the biggest miss in the report deals with the FSOC’s designation process, whereby it designates so-called “systemically important financial institutions” (SIFIs) for special regulations. This process rests on the theory that financial firms will facilitate investments that endanger their own health as well as the financial stability of the U.S. unless special regulations prevent them from doing so.

Thus, singling out these firms for stringent regulations will, supposedly, end the too-big-to-fail problem, whereby taxpayers are forced to cover financial failures.

If, however, policy makers really want to end government bailouts of large financial firms, the last thing they should want is for the federal government to pre-identify the firms whose failure (according to the regulators) would be catastrophic. It’s difficult to see why people would expect anything other than for these firms to receive some kind of federal support if they do get into financial trouble.

Combine the SIFI designation concept with Dodd-Frank’s orderly liquidation fund, a taxpayer-supported mechanism that replaces bankruptcy, and it’s laughable to argue that people would not expect these designated firms to receive some kind of taxpayer support prior to failure.

What’s maddening about Treasury’s FSOC report is that it recognizes this potential problem, acknowledges that the presidential memorandum requires them to consider it (it’s item “c” on page 5), and then completely fails to address it in any meaningful way. Even once.

Equally frustrating is the following passage (starting on the bottom of page 9):

But it is difficult to predict with precision the impact that the failure of any nonbank financial company will have on financial stability. The appropriateness of the nonbank financial company designations tool as a mechanism for mitigating potential risks to U.S. financial stability should therefore be considered. The challenges associated with assessing systemic risk and designation underscore the need for the Council to make every effort for its analyses to be rigorous, clear, and comprehensible to firms and to the public, and to be undertaken only when the expected benefits to financial stability exceed the costs imposed on the designated firm.

It certainly is difficult to predict the impact of firm failure on financial stability, especially without an objective definition of financial stability. And event though it’s virtually impossible to do a cost-benefit analysis without such a definition, there still is no such definition in federal law. Or in Treasury’s report.

Giving federal regulators the power to designate firms for special regulations and to outlaw or curtail specific economic activities based on such an ill-defined concept simply is not consistent with a system of free enterprise or of limited government.

The best way for policymakers to protect against widespread failures and financial turmoil, while keeping the government out of the way, is to eliminate policies that:

• Create non-diversified financial firms (like risk-weighted capital requirements);
• Mitigate incentives to monitor counterparties (such as bankruptcy preferences for derivatives); and,
• Create the expectation that taxpayers will back financial losses (such as the SIFI designation).

The Treasury FSOC report’s failure to address this last point was very discouraging by itself, but it compounds the second major disappointment with Treasury: the recent revelation that Treasury supports federal guarantees in the mortgage market.

To be fair, the administration has not yet released a full-blown mortgage financing policy stance, and the details will matter.

Will Fannie and Freddie be eliminated or preserved as guarantors? Will the new guarantee system be some version of the current Ginnie-Mae platform? Will the administration push for creating a new FDIC-like agency, specialized in providing federal mortgage insurance?

Pretty much the only known factor right now is what Craig Phillips, a top adviser to Treasury Secretary Mnuchin, recently told a group of credit union executives:

We think the right approach is to consider an explicit, paid-for, full-faith-and-credit guarantee for federally sponsored mortgage-backed securities, with added protections on the front of that guarantee to make it really usable when you are in very exigent circumstances.

So it is still possible that the administration, after considering it, wants to limit federal housing market guarantees by, for example, better targeting Federal Housing Administration (FHA) loans and Ginnie-Mae securities toward low-income buyers.

On the other hand, if the administration does support a broad-based, explicit federal guarantee in the housing market, it will outweigh many of the positive reforms that have been undertaken so far.

The implicit guarantees of the government-sponsored enterprises Fannie Mae and Freddie Mac were a principal cause of the 2008 meltdown. They made housing less affordable, increased risky private debt, and (predictably) failed to fulfill the goal of increasing homeownership.

Expanding federal guarantees will worsen the dangers that such promises cause and provide the basis for more intrusive regulation. The best course of action is to eliminate these guarantees.

In its first year, the Trump administration has done a great job supporting, promoting, and even undertaking positive regulatory reforms in financial markets. Its early track record makes it all the more puzzling that the administration would support taxpayer guarantees and use a far-ranging power that Dodd-Frank gave to financial regulators.