For instance, a standard thermostat keeps your house at 20 +/- 2 degrees C. In order to keep it at 20.00000000 exactly, it might need to model every air molecule bouncing around.
So, it may be a correct proof, but it's a useless one.
But you didn't need my comment for that, the fact that there is an entire engineering discipline thriving on doing exactly what the article claims to be impossible should suffice.
The colloquial restatement of the theorem suggests a regulator "is a model of [a] system" if the regulator's action is a function of the system, and nothing else. As in, a constant regulator that has only one state still meets the criteria for being a "model". The possibility that is excluded is that the regulator has additional details that don't correspond to states of the system.
In your thermostat example, the theorem doesn't even begin to say that, even though that's what the title suggests, and what everyone wants to believe. In fact, the theorem merely says a thermostat that only depends on the temperature of the room is simpler than one that also cares if the walls are blue.
That said, I think I agree with Baez about the actual mathematical content of the paper. That is, the proof is fine, but the way they try to formalize "model" seems so weak as to be useless. The definition used in the proof is that R is a model of S if the state of S determines the state of R. There's nothing about preserving the fidelity of those states.
edit: Maybe the clearest way I can put this confusion is that a regulator based on measurement of the system it's regulating is a "model" per the paper. The authors choose a formalism which sounds like it was more common at the time that describes the regulation as a function of "disturbances"/inputs only. Through this lens their definition of model makes more sense to me, but only in those cases where there is no measurement or feedback.