LONDON, NOVEMBER 17 (Reuters Breakingview) - Tighter regulation of cryptocurrencies is imminent after the collapse of the FTX exchange. However, there will still be places where the rules do not apply. Major players like Binance, as well as services based on decentralized money, may not be available. This ensures that the more advanced aspects of cryptography survive.
According to Reuters, Sam Bankman-Fried's bankrupt firm transferred $10 billion of client money to his brother's hedge fund to cover losses. This violates the promise to FTX users that their deposits will "always be with you". The apparent regulatory fix forces future crypto companies to hold client funds regardless of how they are held, instead of using the money to trade or lend money.
Massive EU regulations on cryptocurrencies will help. Known as MiCA, a set of rules recently approved by lawmakers requires custodians to separate clients' crypto funds from the company's own assets. Two bills introduced by US senators this year also ban the so-called "cohabitation" practice. The overall goal is to make users' assets available whenever they want to withdraw their funds, whether they are held in real-world tokens like bitcoin or dollars.
But it is unclear whether the watchdog, which would become the EU's national financial regulator and likely take over from the Commodity Futures Trading Commission in the US, would be able to fully enforce it.
The first risk is that they will not take on the decentralized finance project. This corner of cryptocurrency, where developers typically write software to facilitate automated transactions and product lending on the Ethereum blockchain, is somewhat disintermediated. According to the website DefiLlama, the total value of DeFi, which is crypto-slang for money invested in decentralized exchanges and other services, is more than $40 billion. It is unrestricted and often pseudonymous, making it difficult for the police to do their job. Security firm Chainanalysis estimates that nearly three-quarters of stolen cryptocurrencies in 2021 were withdrawn from DeFi services.
The second problem is the consolidation of companies located elsewhere. Take Binance, the biggest cryptocurrency exchange ever. It has an American subsidiary, Binance.US, but this company is smaller than its parent company. The danger is that moderators in their own backyards cannot see what is happening on other people's pages. Global alignment has proven difficult on other issues, such as minimum corporate tax rates; For something as complex as cryptocurrency, a simple structure is a pipe dream.
The industry's biggest hope is that territories with clear, consumer-friendly rules will attract more institutional money and protect retailers. But borders are porous and money finds its way to where it offers the greatest reward. Bankman-Fried initially said the U.S. arm of FTX had no problem with the Bahamas-based exchange. But on Friday, it filed for bankruptcy along with a larger group. The coming wave of regulation may protect the good, but it won't stop the unscrupulous.
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(The author is a Reuters BreakingViews columnist. Opinions expressed are his own.)
According to the November 14 lawsuit, FTX faced a "severe liquidity crisis" that forced it into bankruptcy. A collapsed cryptocurrency may have more than 1 million creditors.
FTX filed for bankruptcy on Nov. 11 after traders pulled $6 billion from the platform in just 72 hours and rival exchange Binance pulled out of a proposed bailout.
As of 8:35 a.m. on Nov. 17, bitcoin was trading at $16,600, down from $20,500 earlier this month.
Edited by John Foley and Streisand Neto
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