According to Matt Levine from Bloomberg.com, the crypto industry appears to be re-learning the lessons of traditional finance.
This is a reasonable sentiment when one considers the development of the Crypto Currency industry, and environment. Since the introduction and proliferation of Bitcoin in 2008, crypto has attracted what could be charitably called “governmental cynics” or indeed “centralized authority sceptics”. This includes scepticism of national leadership and legislative efficacy, as well as centralized authority in any form, along with more common sense initiatives like risk management, compliance, and governance infrastructure. For proponents of Crypto, its decentralization and lack of authority is something to be celebrated
However, the recent case of FTX demonstrates a clear reason for the pessimism of this “scepticism of government”. FTX was at one point, one of the largest crypto exchanges in the world. Today, it is another example of why the aversion to regulations by the crypto industry remains one of the largest risk factors for not only users, but the industry as a whole.
FTX’s collapse was in the simplest explanation a bank run. Changpeng Zhao, the CEO of Binance tweeted that Binance would be liquidating its FTT tokens due to FTX using FTT as collateral on its balance sheet. This caused investors to withdraw funds which in turn caused a lack of liquidity for FTX.
This lack of liquidity was caused due to FTX taking its customers’ deposits and lending them to Alameda, its sister currency trading platform. Due to the positions that Alameda was allowed to take, this essentially evaporated FTX’s clients’ deposits, which caused them to go bankrupt.
Much has been said about the failures at FTX, and more is expected as new information comes to light. With FTX having to file for bankruptcy, it would be pragmatic for their new CEO and bankruptcy lawyers to piece together exactly how and where things went wrong.
A simpler question though, is why?
Why exactly did this happen at FTX?
The simplest answer is that there was an absolute dearth of any form of actual management. At no level within the organization was anyone concerned with even simple things such as regular accounting principles, communication and corporate governance. Let alone any structures to
deal with the risk inherent in cryptocurrency.
For a company worth $32 Billion at its peak to have little to no corporate governance is astounding. For a company involved in crypto, it’s unfortunately just another day ending in y. The lack of any clear regulations in the US for the crypto industry does not help but in most
cases there are no clear internal regulations or guidelines within the crypto industry itself.
And while external regulations would have helped, risk management structures could have independently been implemented outside of governmental regulations. This would have allowed FTX to fix any internal issues, while regulators were still playing catch up.
One could point out that all the troubles the crypto industry is currently facing are very much self-created. Lack of regulations, rules and guidelines which have caused all these issues are the inherent and essential components of cryptocurrency, the raison d’etre of the crypto space if you will.
Unfortunately, having little to no regulation is not sustainable. There are clear and obvious reasons why regulation is put in place. This includes less risk and volatility not only for crypto’s customers but also less risk for the crypto industry as a whole.
Sean Stein Smith, chair of the Wall Street Blockchain Alliance’s accounting working group recently stated “FTX is a poster child of how corporate governance failed, financial reporting failed, and the transparency and the auditability of the asset in question failed.”
While this may be true, one needs to remember that having little to no crypto regulation is not a bug, but rather a feature in the larger crypto space. While the near-absence of any governmental regulations for the crypto industry remains an issue, the simple fact is that crypto’s internal systems are in a similar situation. If crypto wants to avoid heavy-handed regulations, they should look at cleaning up their own house before various governments do it for them.
According to a report put out by Grand View Research, the crypto exchange industry was worth $30.18 billion in 2021. By the end of 2022 it’s expected to be worth approximately $37.07 billion. By 2030 its growth is estimated to reach $264.32 billion, a compounded annual growth rate of
27.8%. This is only a possibility. With the crypto industry keeping regulators at arm’s length, and internal processes clearly lacking among many of the large exchanges, only time will tell.
Until then, we can expect more collapses and failures in the crypto world as it appears that the crypto industry has a ways to go, and a lot to learn as they come to understand the lessons around why risk, compliance and governance are all a part of a thriving financial industry.
The financial crisis in 2008 has a lot of lessons for the current issues ailing the crypto community. Will they learn from it?