Aside from the surprising results of last week’s midterm elections, the most interesting story from the last few days involves the massive evaporation of wealth from a financial asset that few people understand.
This is in reference to the collapse of the FTX cryptocurrency exchange. In the space of a week it went from one of the largest “crypto” exchanges to a bankrupt shell. Its founder, a young guy with a shock of black hair, was supposedly worth $16 billion at the start of November. Now most or all of that is gone.
The question that most people are asking is, short of a nuclear war, how could something that was worth billions of dollars last month be worth nothing today?
One possible answer is something any student of The Great Depression (or who has seen “It’s A Wonderful Life”) has heard of: A run on the bank. The Associated Press reported last week that FTX customers fled the exchange due to concerns that the company lacked money to continue its operations. FTX was unable to raise $8 billion to pay off its departing customers, according to the AP.
Regulators also are investigating whether the company used customers’ money to pay for investments at the founder’s high-risk hedge fund – a definite no-no, even in the frontier world of cryptocurrency.
But the larger issue is this: Crypto enthusiasts praise the technology as a way to trade assets without using a government-managed currency. They distrust these government currencies, like the U.S. dollar, and tend to believe there’s no need for any regulation at all.
There certainly are times when currencies around the world change in value rapidly. But it takes an extreme case, like hyperinflation in dismal economies like Zimbabwe and Venezuela, for a nation’s currency to become worthless.
Those are great exceptions to the stability that currencies, especially the dollar, have provided over the decades. While nothing is guaranteed, and the U.S. continues to load up on debt that puts the value of its currency at greater risk, history says we’ll figure it out after trying everything that doesn’t work.
Megan McArdle, a columnist for The Washington Post, had some insightful observations about FTX and other crypto exchanges that went belly-up before it.
“These failures occur so regularly, one begins to wonder if they are part of crypto’s appeal to a certain class of gamblers,” she wrote. “They certainly keep things exciting.
“Heck, if all the market participants wanted was an exotic, techno-futurist way to wager on irrelevancies, I’d say we should let them. We allow dank casinos to strip retirees of their Social Security checks. Youngish nerds should have their fun, too.”
That’s a good point. But McArdle makes another good point in observing that, while crypto seems a high risk today, there’s no telling what will happen in the future. The world’s stock markets had equally modest beginnings three centuries ago, after all, and it took many years before they earned the trust of all the American households that are invested in it today.
Here is the greatest irony for crypto advocates, who tend to look down on government currencies: It will require the assistance of governments around the world for crypto to gain greater acceptance – through regulation designed to prevent FTX-style wipeouts.
If today’s crypto world dares to claim it already has rules in place to limit the pain of excessive speculation and outright fraud, then how come these cybercurrencies keep crashing so regularly, taking customer money with them?
As of now, crypto looks just as much like a Ponzi scheme as it does a global currency free of regulation. Until that changes, buyers beware.
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