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FTX Collapsed and SBF Arrested: Should Crypto Market Be Regulated?
Having both regulated markets and unregulated markets is important as investors can choose which risk-reward ratio they are happy to bear responsibility for.
13 December, 2022

On the 13th of December, Sam Bankman-Fried (SBF), founder of the FTX crypto exchange, was arrested in the Bahamas on criminal charges at the request of US government prosecutors as they intend to pursue him personally for the collapse of FTX which resulted in the loss of billions of dollars of investors money. This is probably the end of the line for SBF, but we are yet to see how this event will influence the crypto industry in the long term. One question that arises from this collapse is whether the crypto market should be regulated.

The value of the unregulated market can be found in the aftermath of the FTX scandal. FTX crashed because the owner, Sam Bankman-Fried, secretly used customer assets to provide loans to Alameda Research, a hedge fund that he owned. While this practice is common in modern banking, Sam took it to the extreme and eventually many FTX customers happened to withdraw their assets at a similar time. FTX didn’t have enough assets to process these withdrawals and filed for bankruptcy. Going forward, customers of other exchanges have begun to feel uneasy over the idea of storing their crypto assets in these exchanges.

Binance, the biggest crypto exchange in the world, has responded by sending an email directly to its customers containing proof of their asset ownership, conducted by a global financial audit, tax and advisory firm, Mazars. Now consumers of Binance’s products can conduct research and decide for themselves if they are willing to trust Mazars. Mazars, going forward will have to work to not only provide financial services to Binance but also to stay trustable to Binance’s clients. Regulated markets, on the other hand, require consumers to trust the same institutions that refused to truthfully evaluate the asset value of big banks during the financial crash of 2008 where the institutions waited until the banks sold their low-value assets at a high price before correctly valuing those same assets at their true, reduced value. 

Other exchanges now need to build trust to persuade investors of the financial safety of their products by voluntarily providing proof of asset safety to reduce investor uneasiness. This requires voluntary and relatively decentralised forms of regulation, meaning that the unregulated market will now begin to regulate itself organically with the difference being that regulators would need to earn the trust of investors by providing proof of asset safety directly to investors’ email inboxes rather than the inbox of a regulatory institution. The proof itself would also need to be of high quality and understandable for all levels of experience, increasing financial transparency. Furthermore, regulatory institutions can learn more effective methods of regulation by establishing similar naturally created self-regulation systems, improving the markets that they currently modulate.

Self-regulation of unregulated markets is not strictly limited to responses to big market crashes such as the one discussed above. An example of this can be seen in the extremely popular digital wallet safety system called WalletConnect, which was developed as an open-source app for crypto assets, allowing users to safely access their crypto assets by scanning a barcode with their phone. The system is so safe that it is trusted by users who store millions of dollars worth of crypto assets that they can now access and send extremely quickly and safely without paying any fees to WalletConnect. Some could argue that this technology is unmatched by current online banking systems as it removes the need to exchange usernames and passwords over WiFi connections while maintaining security. Crypto’s strengths lie in the lack of institutional regulation and decentralisation.

Moreover, if crypto markets stay unregulated, consumers and investors get the best outcome as they now have the option of choosing between the regulated markets such as stocks, bonds, forex, etc, and the unregulated market of crypto. Regulated markets provide value by selling safer and more stable slow growth. Unregulated markets provide value by selling riskier and more volatile growth. Both markets contain the risk of slow and volatile losses respectively, but unregulated markets provide value in other ways such as direct and voluntary communication, between exchanges and customers, of asset safety.

It should be noted that while advocates of regulated markets may believe that regulation is for the greater good, it needs to be understood that trusting a financial institution with money comes with risk. Centralised regulation gives a lot of power to a small group of people who in many cases can’t even be voted out by the customers who entrust them with their assets. While unregulated markets open individual corporations up for more scrutiny from their customers. Therefore, having both regulated markets and unregulated markets is important as investors can choose which risk-reward ratio they are happy to bear responsibility for. They can even diversify their investments across both markets if they wish. Furthermore, the investors’ assets are not completely risk-free within regulated markets. There is no reward without risk and no risk without reward. Excessively reducing risk only allows the richest in society to make beneficial gains as they have enough funds to make large profits from small percentage gains. Allowing crypto markets to self-regulate allows individuals of all financial backgrounds to access big gains at a risk and allows them to be trusted with their own financial prosperity.

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