Tales from the Crypto

“There’s no there there, and we have plenty of history to prove it.” 

 Lee Reiners, a crypto expert at Duke University and former regulatory Federal Reserve Bank official, testifying on Capitol Hill on February 14th

Cryptocurrencies have become the preferred transactional vehicle for sophisticated criminals the world over. Hard to trace and protected by a decentralized coding system (blockchain), what’s not to like for nefarious trades, drug money and fraudulent gains? But exactly what is the underlying value that justifies the value of a cryptocurrency? Blind faith seems like a good answer. Oh sure, there are exceptions, but most of the activity is on private exchanges with proprietary currencies. However, see my January 8th Yuan to Go Digital? blog about how the People’s Republic of China, having banned private cryptocurrencies, is creating a new government-issued crypto-platform to circumvent American-dominated financial systems and trade sanctions.

For sovereign nations, the ability to work-around monetary and fiscal policies and regulations via a parallel unregulated currency-equivalent is indeed a challenge. El Salvador took a shot at officially recognizing crypto with nasty consequences, and certain states (e.g., Florida) have bent over backwards to invite crypto traders to build their networks under their protection. Perhaps because these crypto models are relatively young and unfathomable to most of us, they were attractive as news stories about instant billionaires dominated the headlines for a long time. Fraudsters were also having a good time creating instant wealth, often siphoned off for “other purposes,” from political campaigns to funding the promoter’s private equity investment fund.

Federal regulatory agencies struggled with which, if any, federal laws applied to crypto or its “collector’s” cousin, so-called "non-fungible tokens” (NFTs). Did the “Howey Rule” (earning passive money from the efforts of others) apply, making these “securities” under the jurisdiction of the Securities and Exchange Commission? Perhaps they should be regulated as commodities or even under our banking laws? One group of anti-regulatory Republicans actually was proposing bills aimed at keeping crypto unregulated. That effort is fading fast, although there are diehards on the wrong side of statistics and common sense:

“At Tuesday’s [2/14 Senate] hearing, Sen. J.D. Vance (R-Ohio), a venture capitalist in his outside life, asked ‘how people would have described the internet in the 1970s and 1980s. ... If we had taken an overbearing approach then, we might have destroyed a lot of the upside that has come over the last three decades.’ He asked how to regulate crypto now ‘in a way that protects the upsides of the technology right now’… The flaws in this argument should be instantly apparent. One is that the virtues of any given innovation don’t validate any other claimed innovations.” Michael Hiltzik writing for the February 19th Los Angeles Times. Congress continues to hold hearings on the subject, but I doubt most in Congress have a clue what a cryptocurrency really is and how it really works. Without much digging, Crypto sure smacks of a Ponzi scheme with no tangible underlying asset base.

It took a mega-billion-dollar collapse to wake that legislative body – Congress – which is used to dealing with issues a decade or more after the technology has been implemented into common use. “The immediate trigger for the change of heart in Washington was plainly the November implosion of FTX, a crypto firm whose founder, Sam Bankman-Fried, had been a prominent advocate for looser regulations on crypto firms. Bankman-Fried is free on bail while awaiting trial on criminal charges.

“Yet FTX’s bankruptcy was only one of a string of crypto firm failures during 2022, and the precursor of further bankruptcies. Perhaps more important, many of the operational shortcomings allegedly found in FTX’s operations are common in the field, including inadequate record keeping and security arrangements, and commingling of customers’ and firms’ assets.

“Consumer interest in crypto was probably destined to wane even without the FTX collapse. Last year’s Super Bowl telecast brimmed with high-priced commercials from crypto firms featuring celebrities such as Matt Damon and Larry David. Supernovas like 2022-vintage crypto are always destined to fade to some extent; this year’s Super Bowl was crypto-free .

“In recent weeks and months, however, U.S. regulators have taken strong steps to inoculate the larger banking and financial system against contamination by crypto firm failures.” Hiltzik. Lawsuits against celebrity endorsements are rising almost as fast as crypto is falling. Yet the losses to those who joined the crypto scam late in the game or who continue to hold crypto are staggering. Many still lumber under the belief that, despite “momentary” declines in value, crypto would continue its rise as a sustainable and reliable currency. They just may have been those children who continued their belief in Santa Claus and the Easter Bunny late into their elementary school years… or those who “know” that conspiracy theories are “true.”

“The capitalization of the crypto market, which peaked at more than $3 trillion in late 2021, is now estimated at $800 billion, implying enormous losses for late-stage investors. (Some cryptocurrencies have rallied, but the benchmark bitcoin is still down by more than 60% from its peak in November 2021.)… To critics of crypto, these developments reflect the influence of gravity on a marketplace characterized by ‘frequent instances of operational failures, market manipulation, frauds, thefts and scams, as the U.S. Treasury put it in a consumer advisory issued last September.’…

“At the hearing, committee member Sen. Elizabeth Warren (D-Mass.) mentioned ‘international drug traffickers who raked in over a billion dollars through crypto ... North Korean hackers, who stole $1.7 billion and funneled that money into their nuclear program ... and ransomware attackers who took in almost $500 million.’” Hiltzik. Can crypto survive amidst a global regulatory effort? This old adage seems to apply: what seems to be too good to be true usually is.

I’m Peter Dekom, a big Los Angeles sports fan, and I wonder how long our downtown venue for professional basketball and hockey will continue to carry the name “Crypto.com Arena.”