Type parameter constrained to union cannot be exhaustively narrowed to 'never'

TypeScript Version: 2.1.1 (http://www.typescriptlang.org/play/index.html)

Code

type Type = "a" | "b"

function isA(a: any): a is "a" {
    return a === "a"
}

function isB(a: any): a is "b" {
    return a === "b"
}

function assertNever(arg: never) {
    throw new Error("This should never be called")
}

function handleAction<T extends Type>(type: T) {
    if (isA(type)) {
        return type
    } else if (isB(type)) {
        return type
    } else {
        assertNever(type)
    }
}

Expected behavior:
No compilation error

Actual behavior:
Argument of type 'T' is not assignable to type 'never'

Start by reproducing the provided TypeScript 2.1.1 example and verify the error at assertNever(type). Investigate generic control-flow narrowing for T extends a string-literal union; done means the example compiles without treating the exhaustive else branch as an error.