The bankruptcy of FTX, one of the world’s leading cryptocurrency trading platforms, is the result of a classic and explosive mixture, combining blindness, negligence and a toxic environment, a situation that calls for strict regulation, especially in the United States.
Everything was in place for a crash, but as is often the case in the world of capital speculation, once disaster strikes, everyone pretends to be surprised. The bankruptcy of FTX, one of the world’s leading cryptocurrency trading platforms, is merely the result of a classic and explosive mixture.
Take a young entrepreneur whose Promethean ambitions fail to fully conceal an insatiable greed; an asset class that eludes financial regulation and whose workings remain cryptic for the general public; a company headquartered in a notorious tax haven with questionable transparency and governance; returns that defy gravity; and sprinkle the whole thing with prestigious names to attract suckers: It took only a few days for the house of cards to collapse on itself.
Valued at $32 billion at the start of the year, FTX filed for bankruptcy protection on Friday, Nov. 11. Sam Bankman-Fried, its founder and CEO, is dragging down with him 130 affiliated companies and some 100,000 investors, who, consenting adults they may be, may never recover their investment.
A the heart of the scandal lies a system for misappropriating funds. Part of the money that clients entrusted to FTX was allegedly sucked up by Alameda Research. This company, controlled by Bankman-Fried as the main shareholder, allegedly used the deposits to make high-risk financial bets without the investors’ knowledge. These operations were secured using an equally speculative asset as collateral, fast Fourier transform, the in-house cryptocurrency that Bankman-Fried himself regulated. The liquidity crisis was triggered by the flood of requests to withdraw funds by clients worried about the FFT collapse.
Blindness and Negligence
The FTX debacle is not the result of a series of unfortunate events, but of a mixture of blindness, negligence and a toxic environment.
Consider the signs that people were blind to the situation. While the banking industry has kept its distance, one has to wonder about the carelessness with which high-profile investment funds such as Sequoia Capital, the Ontario Teachers’ Pension Plan or the Japanese company SoftBank found themselves embroiled in this business without demanding minimal oversight of what was going on in FTX’s back kitchen.
Next, consider negligence. For months now, central bankers have been calling for regulation of cryptocurrencies. Why is such regulation struggling to see the light of day? A bank is no longer allowed to trade for its own account using its clients’ money. On what ground then can a cryptocurrency platform do this, when the soundness of its assets is more akin to casino gambling than investing? In view of the sums involved in this highly speculative sector, regulation of its practices is urgent.
And finally, consider the environment. The growth of cryptocurrencies has largely been fueled by the mountains of cash that central banks have injected into the financial system. That money, created almost out of thin air, has pushed investors to invest in increasingly risky and increasingly exotic assets to chase ever higher returns. One benefit of reverting to more orthodox monetary policies is that it pierced the crypto bubble.
Firm regulation of cryptocurrencies needs to happen. Since most of the trading takes place in the United States, Congress and the Securities and Exchange Commission, the U.S. financial market’s watchdog, must finally turn words into action.