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Two Sundays ago, Henry Paulson’s Treasury Department again tried its hand at directing this year’s hot new drama “Credit Crunch” by placing mortgage giants Fannie Mae and Freddie Mac into a conservatorship. Since the program’s debut last year to scathing reviews by bankers turned critics, it has been marked by epic plot twists including major bank failures and the death of some of the financial industry’s most established players. As such, it is this investor’s sincere hope that the Treasury has finally succeeded in scripting a conclusion to this saga.

In July, Paulson gained the authority to rescue financial titans Fannie Mae and Freddie Mac if the need arose, saying at the time, “if you’ve got a bazooka and people know you’ve got it, you may not have to take it out.” His tough talk reassured markets for a short while, but over last weekend, Paulson decided to aim his bazooka squarely at the mortgage liquidity mess.

So with the stroke of a pen and a little speech, the Treasury Secretary converted a decades long implicit taxpayer guarantee on Fan and Fred’s debt into a concrete public bailout of the nation’s two major mortgage holders. In doing so, he added the largest liability yet to the government’s growing list of private market interventions since the start of the credit crisis last year.

There is certainly a lot to like about the Treasury’s announcement. The move clarifies what had formally been a gray area for investors and banks alike by putting the full weight of the federal government behind the stability of the two government-sponsored enterprises (GSE) in the form of a conservatorship. It also removes the blundering CEOs of Fan and Fred and stops the absurd practice of a GSE lobbying the government that sponsors it, ending an era of million dollar accounting errors and beltway-insider mentalities.

By reassuring investors, the government has done the market a great favor. When one considers that a financial transaction is basically just a bet on the future of the market, it becomes easy to see how removing volatility encourages trading. Thus, when markets opened the day after the Treasury’s decision, traders took a bullish outlook, with the Dow Jones Industrial Average finishing 289.78 points higher.

Unfortunately (queue foreboding music), not all is well and good during this scene. The Treasury’s deal comes with some ominous fine print, saddling the U.S. Government with up to $200 billion in obligations to help Fan and Fred ride out any additional mortgage related losses. If the mortgage situation degrades, or if the formerly government-sponsored enterprises (should they be called the government’s socialist enterprises now?) are called on to take on even more risky debt to ‘stabilize’ the market, taxpayers will be on the hook to foot the bill.

Let’s be clear from the start: the Treasury did what they had to do to prevent a massive selloff of Fannie Mae’s and Freddie Mac’s stock and the broader financial slide that would accompany such a scenario. Stripped of the ability to raise new capital, Fannie and Freddie would be forced to discontinue buying mortgages, freezing the market for new loans, and sending home prices into a tailspin.

While normally I advocate a laissez-faire style of economic regulation, Fan and Fred’s unique position makes that impossible. It is the government who created these monsters and kept them alive, so it is the government who is going to have to pick up the pieces. Taxpayers will pay money for decades of political incompetence, because it is unconscionable and utterly stupid to even consider dumping the problems of Fan and Fred on Wall Street. Voters should not blame The Street for what Washington started.

The problems with Fannie and Freddie stem from their core mission. They are publicly traded companies with privately chosen boards and executives, chartered by the government to expand the availability of mortgages to more citizens. While the goal is noble (though arguably part of the reason for the housing bubble in the first place), the reality is that despite controlling roughly half of the U.S. mortgage market (a cool $5 trillion), Fan and Fred have not fulfilled their mission.

The inherent conflict of interest means that shareholders sell when the government calls upon the companies to take a greater role in the market, as has been the case during the credit crisis. It isn’t wise to count on profit oriented investors to try and fill your potential money pit, but that has been the GSE’s business plan until now.

While there were always warning signs from concerned economists, the money doled out by Fan and Fred lobbyists served as a powerful intoxicant to preventing change. And because of their coziness with the government, Fan and Fred always enjoyed preferential treatment by their regulator, which wasn’t always beneficial to their long term stability.

For example, when the government lowered Fan and Fred’s already low capital requirements earlier this year to give the market a quick boost, it left the companies even more leveraged than they already were, meaning that the GSEs stood an even greater chance of not having the capital to ride out an unexpected downturn. Investors took note and their stocks sunk accordingly.

Unfortunately, as is the case of most of the government’s actions during the housing crisis, the politicians preferred a temporary bump to a long term solution. Fixing the problem before it became an issue would have been the cheaper, responsible way for congress to handle the Fan and Fred, but that has rarely been reason enough for the bureaucrats before. There is an excellent reason why congressional approval ratings currently sit in the teens.

The failure of multiple sessions of congress to act on a dire prognosis of major deficits (Fannie and Freddie combined lost over $3 billion last quarter alone) and investor concern (both companies have seen their stock values plummet by more than 80 percent this year before the takeover, and shares currently go for under a dollar) is the greatest tragedy in this story, and the foils of Social Security and Medicare do not inspire confidence that congress has the potential to learn from their mistakes.

Ultimately, the problems with this conservatorship have little to do with the terms of the deal itself, which are as good as could be hoped for under the circumstances. Instead, it is the precedent set by rescuing institutions that, like Bear Stearns this spring, are believed to be ‘too big to fail.’

The argument is that some financial companies are so large and important that their collapse would harm the entire economy, so the government is obligated to save them. This, however, is not capitalism. It is not the survival of the fittest mentality that enabled America to grow and prosper to become the economic powerhouse of the world. Like it or not, when an institution fails, the market rids itself of deadweight, and what remains are the battle hardened survivors. (The ones who weren’t the targets of the bazooka.)

Secretary Paulson’s call for the two companies to be shrunk to a far more manageable size after the crisis passes is a good start, but it will be up to the next administration to fire the final shell into the hearts of the monsters that are Fannie Mae and Freddie Mac.

In the meantime, it is clear that this story is not settled. As this piece is written, Merrill Lynch has been sold, Lehman Brothers has filed for Chapter 11 bankruptcy, and AIG is attempting to raise cash fast. While the government has ruled out a rescue for Lehman, the financial crisis is nearing a climax, where tough calls will have to be made.

A string of government intervention here would profoundly hurt our economy going forward. Keeping at heart that the invisible hand of Adam Smith is ultimately dafter than those of Hank Paulson and Ben Bernanke (MIT education notwithstanding), we must be willing to endure a thorough shakedown now to end the Band-Aid fixes that have only deepened the credit crisis; above all else, that means trusting in capitalism, not government, to get us through.

Joe Maurer is a member of the Class of 2012.