WASHINGTON (Reuters) - Insurer MetLife Inc MET.N won a major regulatory and legal battle on Wednesday when a federal judge struck down the U.S. government's determination that it is "too big to fail."

MetLife had argued in court that the Financial Stability Oversight Council (FSOC), made up of the heads of the country’s financial regulatory agencies, used a secretive and flawed process when in 2014 it designated the company as a systemically important financial institution.

The designation meant regulators believed a collapse of the insurer could devastate the U.S. financial system just as much as failure of a major bank, and triggered possible requirements for it to hold more capital and for stricter oversight.

“From the beginning, MetLife has said that its business model does not pose a threat to the financial stability of the United States,” the company’s chief executive, Steven Kandarian, said in a statement.

A representative for the U.S. Treasury said the agency disagreed with the decision and would vigorously defend the council’s designations process.

“FSOC conducted a rigorous analysis of MetLife, including extensive engagement with the company, and determined that material financial distress at MetLife could pose ... a threat to the financial system,” said spokesman Adam Hodge.

The ruling by the judge, U.S. District Judge Rosemary Collyer, is currently sealed, but parts may be made public next month, according to Wednesday’s order, which also said the federal government may appeal.

During a hearing last month, Collyer expressed concerns about the process and the analyses that the council, which includes the Treasury secretary and Federal Reserve chair, uses to make designations. [nL2N15P0TZ]

In the order, Collyer granted three of the reasons, or counts, that MetLife gave when it argued against the designation. The company had said there were flaws in how the FSOC assessed its vulnerabilities, that some of the FSOC’s assumptions and speculations were arbitrary and capricious, and that the FSOC had not given enough consideration of the designation’s economic effects on MetLife.

The MetLife building is seen in New York, March 8, 2010. REUTERS/Shannon Stapleton

WELCOMED BY WALL STREET

MetLife, the largest U.S. life insurer, said earlier this year it was considering breaking up its business to shed the designation.

Its shares ended up more than 5 percent on the news, at $44.73. Those of other insurers designated systemically important, Prudential Financial Inc PRU.N and American International Group Inc AIG.N, also rose.

“It’s a major win for companies placed under this designation. It’s a very large blow for the FSOC. But FSOC can appeal,” said Raymond James analyst Steven Schwartz. “It’s not over until it’s over.”

Deutsche Bank Markets Research analyst Yaron Kinar wrote in a note that because of potential appeals the company’s status may not “be finalized for some time” and “we’d expect the company to continue down the path of separating its U.S. retail business despite the ruling.”

Asset managers greeted the decision as good news with the potential to soften future regulation that their industry has been expecting. Earlier this month, the FSOC said it was discussing how to address the risks that their products could pose to financial stability. [nL2N16T22N]

The nonprofit, nonpartisan group Better Markets said, however, Collyer’s decision threatens “the entire structure that protects the country and its taxpayers from future financial crashes caused by nonbanks.”

The 2010 Dodd-Frank Wall Street reform law authorized regulators to designate nonbank companies as “systemically important,” largely in response to the $182 billion government bailout AIG received during the 2008 financial crisis.

White House spokesman Josh Earnest declined to comment on the decision, but said crisis-era bailouts showed “it’s not just banks on Wall Street that could potentially shake the foundation of our financial system.”

“And if we’re serious - and the president certainly is -about following through on a commitment to make sure that taxpayers are never in that position again, we need to make sure that our regulators ... can exercise, at least, some authority over nonbank institutions,” he said at a White House briefing.

MetLife sued last year, saying the FSOC had not followed its own guidance and essentially changed the rules to ensure the designation was made.

The government argued its process was fair and a collapse by the insurer, with its many financial ties, products and contracts, would indeed hurt the financial system. It said it was open with the company during a 17-month process that included a meeting with the full council. [nL2N15P0TZ]

At the same time, criticism of the council has mounted in the financial sector and on Capitol Hill, where Republicans say regulators should operate more openly. Securities and Exchange Commissioner Michael Piwowar, also a Republican, has blasted the council, saying it should be renamed the “Firing Squad On Capitalism.” [nL1N13X257]