Why Is Congress Still Writing Crypto Regulations?

Today on TAP: The FTX debacle shows that crypto is less an industry than it is a scam.

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While everyone was busily watching election returns, one of the Democratic Party’s biggest donors had an epic financial meltdown. On Tuesday, Sam Bankman-Fried, the young CEO of crypto exchange FTX (a company name you might remember from the World Series, as the umpires wore an ad for it on their uniforms), announced a sale of the exchange to its chief rival Binance, after a “liquidity crunch” (a neutral term for a run on the bank, or in this case the crypto exchange). Even on the announcement, Binance chief Changpeng “CZ” Zhao noted that Binance reserved the right “to pull out from the deal at any time.”

That took about 24 hours; Binance took one look at FTX’s books and pulled out of the acquisition. FTX, at one point valued as a $32 billion company, has had to pause withdrawals, and Bankman-Fried has told investors that the company is $8 billion in the hole and might have to declare bankruptcy. FTX’s legal and compliance team quit. You can no longer describe SBF as a crypto billionaire; his net worth has fallen below that mark.

What appears to have triggered this is a news report in Coindesk revealing that most of the assets in SBF’s private hedge fund, Alameda Research, were made up of FTX’s own digital token, FTT. This shouldn’t have necessarily affected FTX, which is an exchange: People hand in deposits and trade crypto, and the exchange holds those deposits and executes the trades, making money on fees. But FTX has been lending to customers to buy crypto, hasn’t been holding very much reserve capital to cover withdrawals, and worst of all, didn’t segregate the accounts, instead using customer money to make a bunch of bets.

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SBF essentially copped to this in a long Twitter thread, but he’s very, very sorry about it. The proper response to that is handcuffs.

Some of these machinations worked through FTT. So when CZ at Binance questioned FTT after the Coindesk report, that worried investors and sent FTT’s price straight down. And that worried more investors, who scrambled to get their money out of FTX—money that FTX didn’t have. “The problem is that FTX took its customers’ money and traded it for a pile of magic beans, and now the beans are worthless and there’s a huge hole in the balance sheet,” as Bloomberg’s Matt Levine put it.

This is a typical vicious cycle for, well, a Ponzi scheme. Or a more reputable institution shot through with fraud, like in the financial crisis. Of course, it’s also the vicious cycle we’ve seen throughout crypto this year, when the main institution bailing out the lenders being … Sam Bankman-Fried. So if the entity that bailed out half of crypto is now himself so toxic that he has to be bailed out, I think we can confidently say that this asset class is vaporware. (Binance, which resisted the lender of last resort role, may not be in such great shape either.)

All of which begs the question: Why is Congress just plodding along on industry-friendly crypto regulation right now? We could see action on the Senate Agriculture Committee’s legislation to move some jurisdiction to the Commodity Futures Trading Commission in the lame-duck session. There are bunches of bills in Congress to exempt this or that crypto asset.

This is absolutely deranged. We have a volatile product that basically blows up every few weeks, and members of Congress, fattened with crypto money from before the billionaires went bust, are just following the old program, seemingly unaware of what reality has presented over the past few months. Putting together a weak regulatory and tax regime for crypto right now is like putting together a prescription drug benefit for fentanyl.

Regulations should be prophylactic, if anything. “If the digital asset industry has a real future, they must meet at least the minimum safeguards which exist for traditional financial institutions so as to prevent or mitigate such fiascos,” Mark Hays, senior policy analyst at Americans for Financial Reform and Demand Progress, said in a statement. But I doubt that’s even viable. My two cents (or 0.000001 of bitcoin, and rising) is that the only entities that should be working on crypto in Washington right now are law enforcement authorities.

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