Crypto in transition: Lessons from the downfall of titans

By Rajagopal Menon

Bitcoin was created nearly a decade and a half ago to overcome the limitations of the current financial system. It is ironic that 2023 has claimed two crypto titans for the sort of excesses that traditional finance has been engaging in since its existence. The upheavals around FTX and Binance show a deviation from the foundational promise of crypto—to empower individuals and eliminate the undue influence of centralised entities. This period of great churn not only marks a time for deep reflection within the crypto community but also offers invaluable lessons for its future direction, highlighting the need for an evolution that addresses vulnerabilities and paves the way for a more secure future.

Sam Bankman-Fried (SBF) and Changpeng Zhao (CZ), once archrivals in their quest for crypto supremacy, present a cautionary tale about the perils of unchecked ambition. The large-scale fraud at FTX, spearheaded by SBF, exemplifies how unethical leadership can compromise an entire organisation. Simultaneously, under CZ’s stewardship, Binance grew to become the world’s preeminent crypto exchange. However, its frequent clashes with US and global regulators reflected a high-risk approach of prioritising expansion and speed, often at the expense of regulatory compliance and cautious growth.

Transitioning from the “Wild West” Era

The end of crypto’s freewheeling years is upon us. The industry is shifting from its initial phase of unregulated freedom to a more structured, regulated environment. This transformation is crucial for cultivating a stable and trustworthy landscape, benefiting both investors and users.

The Imperative of Regulatory Compliance

The regulatory scrutiny that CZ and Binance have experienced emphasises how crucial it is to adhere to local regulatory and compliance standards. Operating in the “grey zone” of regulatory frameworks is no longer viable. Abiding by local legal rules and regulations is an imperative, not an option. This is crucial to maintaining the integrity and sustainability of crypto exchanges and retaining customer trust and marks a new era of accountability and responsibility in the crypto world.

Effective Risk Management

The lack of internal controls and effective risk management at FTX allowed fraudulent activities to persist unchecked, underscoring the need for comprehensive risk management frameworks. These frameworks, incorporating customer protection, conflict of interest management, and fraud prevention, are essential in safeguarding against financial malfeasance.

Corporate Governance and Transparency

The cases of Binance and FTX illuminate the critical need for transparent corporate governance. Clear operational and financial disclosures are fundamental to building trust and preventing potential damage to businesses and their stakeholders.

The Necessity of Rigorous Audits

Despite undergoing several audits, the collapse of FTX raises serious concerns about the effectiveness of financial oversight in crypto. Regular, thorough audits and transparent financial reporting are indispensable in detecting and preventing fraud, preferably through external agencies. KYC compliance is another element that companies need to focus on to weed out illicit activities.

Enhanced Due Diligence in Investments

The implosion of FTX highlights a significant lapse in due diligence, even among top-tier crypto and traditional venture capital firms. The involvement of major entities like Sequoia and BlackRock in FTX without adequate due diligence emphasises the importance of meticulous research in investments. Moving forward, we are likely to witness heightened diligence standards, with investors demanding more stringent corporate controls and governance measures.

Media’s Role in Upholding Accountability

The meteoric rise of SBF was fuelled by the mainstream media, which portrayed him as a prodigy, overlooking potential red flags. The fall of FTX, triggered by a CoinDesk article (a crypto news site), underscores the crucial role of diligent journalism in maintaining industry accountability. This event highlights the significance of independent and investigative journalism in preserving the integrity of the financial sector. Similarly, CZ was portrayed as a saviour of the crypto community, and his tweets formed the opinion of most journalists covering the space. Instead of focusing on data and facts, most publications focused only on Binance’s milestones and its talking points because of the sheer dominance of the company.

In conclusion, the events of 2023 represent a defining moment for the cryptocurrency industry, serving as a stark reminder of the need for ethical practises, regulatory compliance, effective risk management, and transparent governance. As the industry matures, these lessons will be instrumental in guiding its evolution towards a more stable, trustworthy, and sustainable future.

The author is vice-president, WazirX

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