The Crypto Winter Has Become a Nuclear Winter

As FTX contagion spreads, the flaws in the cryptocurrency ecosystem become more apparent. Regulators and legislators like Elizabeth Warren may be honing in, but the damage is largely self-inflicted.

Illustrative image of two commemorative bitcoins seen in front of the Tesla car during a cold weather. (Photo by Artur Widak/NurPhoto via Getty Images)

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The question preoccupying much of the financial world this week—will fallen crypto idol Samuel Bankman-Fried testify before the House Financial Services Committee, or won’t he?—is of little more than academic relevance to the industry he helped to build and then quickly shatter. The crypto market is now well into a year of generally falling prices, and nothing Bankman-Fried says to Congress is going to restore investor confidence. The collapse of FTX exposed just how little capital and control underpin the crypto system, and even some of the strongest-looking crypto players are walking wounded. Consider:

  • Bitcoin investors are withdrawing record amounts of the cryptocurrency from public markets, the Financial Times reported on December 11. Citing data from Cryptocompare, the FT said that in November, “investors pulled 91,363 bitcoin, worth a total of close to $1.5 billion based on the November average price of around $16,400, from centralized exchanges including Binance, Kraken and Coinbase (COIN).” December is hardly looking healthier; in the first week “4,545 bitcoin were withdrawn from centralized exchanges, compared with inflows of 3,846 bitcoin in the same period last year.” Yes, it’s possible that some of these investors are moving their currencies to private wallets, but even that movement creates pain for the system (more below). Last month we noted the departure of “Bitcoin tourists” from the market; now it looks as if some permanent residents are also fleeing.
  • For years, Silvergate presented itself as a less-risky way to buy into the crypto revolution. It offered banking services to crypto exchanges (including FTX), which allowed it to balloon in size and go public in November 2019, again offering a safe-seeming proxy for crypto. But the FTX bankruptcy has been brutal for Silvergate’s stock, now trading at about one-tenth of its price from a year ago. On December 1, several Silvergate shareholders filed a class-action suit, alleging that Silvergate “knowingly or negligently allowed” Bankman-Fried to transfer FTX customer funds to his other firm, Alameda Research. (The firm will of course defend its actions, but expect more such suits imminently.) This week, Elizabeth Warren and two other Senators sent a lengthy letter to Silvergate CEO Alan Lane, pointing out that as a state-chartered bank, Silvergate has access to federal funds but is also subject to strict rules (such as the Bank Secrecy Act) which don’t necessarily cover all fintech companies. Allowing FTX and Alameda to commingle funds, they maintained, “appears to be an egregious failure of your bank’s responsibility to monitor for and report suspicious financial activity carried out by its clients.”
  • Coinbase’s year of misery continues. The company has taken several measures to reassure existing and potential customers that it’s a safer option than FTX, but that can’t salvage the business, which remains almost exclusively dependent on high volumes of crypto trading. This week CEO Brian Armstrong admitted in an interview with Bloomberg that the company’s 2022 revenue is likely to be less than half of what it was in 2021. Moreover, Coinbase’s relationship with Circle, which issues the popular stablecoin USDC, is being called into question. On Friday, analysts at Mizuho Securities downgraded Coinbase stock to underperform, noting that Circle’s plans to go public have recently been shelved, which might cause Circle to rethink its current practice of paying Coinbase for holding some of its assets in USDC. This week, Fortune’s Jeff John Roberts wrote in his newsletter that Coinbase’s market value is now low enough that a big Wall Street player, such as JPMorgan or Citi, or a private equity firm could acquire Coinbase with little pain.
  • No, not everyone in the crypto space plays as recklessly as FTX did, but the line between crypto innovation and outright fraud is way too blurry, and gets even companies that should know better into trouble. Jason Mikula this week documents the wild tale of ZELF, which markets itself as the “bank of the metaverse.” On Thursday, ZELF posted its latest offering on Product Hunt: an anonymous debit card that, according to the company, is available within 30 seconds and requires no social security number, identification or even address. It can be loaded using cryptocurrency but then used as a payment card via Apple (AAPL) Pay. Mikula tried it out, using a fake name, and sure enough, he got the card in 30 seconds. The problems here should be obvious, but apparently weren’t to Evolve and Solid, two ZELF financial partners, one of which (Evolve) is a federally regulated bank. Amazingly, by Friday morning, ZELF had removed the offer.

All this entropy within a few days. The crypto winter has gone nuclear, and there’s no sign it will warm up any time soon.

The Crypto Winter Has Become a Nuclear Winter