Editorial: Crypto crash shows need for regulation

The Washington Post

The supposedly responsible face of cryptocurrency turns out to have been anything but punctilious in his dealings — which should be a wake-up call to sleepy regulators and legislators alike.

Sam Bankman-Fried’s empire died last month, when his cryptocurrency exchange FTX filed for bankruptcy. The details remain scarce, but the bottom line is this: FTX was supposed to act as a custodian of the funds customers traded via the service. Instead, it took billions of dollars of that money and lent it out, including to the trading firm Alameda Research, also owned by Bankman-Fried. To make matters worse, Alameda’s assets were largely tied up in FTT, FTX’s own digital currency. Alameda used this FTT as collateral for a boatload of loans, possibly including the customer funds it received from FTX.

When a CoinDesk report revealed some of this, what ensued was a death spiral: Investors worried about FTX’s solvency scrambled to redeem their assets, sending FTT’s value plummeting. But FTX didn’t have their assets — it had the digital currency FTT and a massive loan to Alameda that the company couldn’t return, because it, too, mostly had FTT.

This could classically be called a run on the bank. The trouble is, FTX wasn’t supposed to be operating like a bank at all. The complicated details surrounding the double-dealing and bad bookkeeping aside, the larger scheme has all the appearances of an old-fashioned scam. FTX’s customers likely thought their money was being safely held, but the exchange apparently passed it off to use for speculation. Now, Bankman-Fried (who has blamed the bulk of the problems on accounting errors) has resigned as CEO, and he and his executives are sure to face civil lawsuits and possibly criminal charges, too — in the Bahamas where the offshore FTX is headquartered, or in the United States, or both.

The Justice Department, the Securities and Exchange Commission and the Commodity Futures Trading Commission are reportedly all now investigating FTX; the SEC claims it had already begun before the scandal erupted. They should pursue these cases vigorously.

What’s perplexing is that the SEC and CFTC have done so little so far, even as Bankman-Fried (also a Democratic Party megadonor) wooed them and everyone else in Washington with proposals that would supposedly bring the crypto industry to heel.

The entire cryptocurrency industry has proved itself vulnerable to liquidity crises, if not full-on solvency collapse like the one FTX appears to have suffered.

Responsible agencies, from the SEC and CFTC to the Federal Trade Commission and Consumer Financial Protection Bureau, with or without congressional help, should develop guidance that draws clearer lines defining which of them has jurisdiction over novel products and their various attributes. Then they need to lay out what requirements apply — tweaking the rules they’ve written for the traditional financial system to fit the crypto realm where necessary. They should demand registration and go to court when companies refuse to come to the negotiating table.

Investors deserve a regime stricter and more transparent than what they have gotten.