Web3

FTX Collapse and What It Means for Web3

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What Is FTX?

FTX, just like Binance, is a cryptocurrency exchange, enabling customers to trade digital currencies for other digital assets or fiat money and vice versa. FTX and Binance possess a majority of all crypto trades globally.

Headquartered in the Bahamas, FTX was run by Sam Bankman-Fried, who also spent millions of dollars lobbying American legislators to create crypto-friendly regulations. Bankman-Fried was considered a repeated voice and person in the crypto industry.

FTX built a business on risky transactions that aren’t legal in the United States. FTX’s American arm FTX.us runs in the US, closely following the little regulation from the US government. However, the bulk of the cash stream flowing through their books remains unconstrained by regulatory requirements.

It’s also worth noting that Bankman Fried owns another firm, Alameda Research. And that FTX has a native cryptocurrency they birthed from thin air called FTT, used by traders to pay transaction fees.

Now that we’ve set up the scene, let’s find out what happened at FTX.

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A Summary of What Happened at FTX

On November 2, 2022, the crypto publication CoinDesk reported that roughly $5.8 billion of $14.6 billion of assets on Alameda Research’s balance sheet were linked to FTX’s exchange token, FTT and that Alameda Research used it as collateral in further loans. 

The finding was based on internally leaked documents and was enough to kickstart a series of events that led to the downfall of FTX. The report was worrying because of the close relationship between Alameda and FTX, both being founded by Bankman-Fried.

Moreover, FTT had no inherent value aside from the promise by FTX to buy any tokens at $22, leading to fears that the entire system was a sandcastle. Binance’s Chief Executive Changpeng Zhao then tweeted his company was selling its FTT holdings worth $500 million in light of the “recent revelations”.

Negative speculations quickly became a self-fulfilling prophecy, creating uncertainty and leading to liquidity issues from frantic withdrawals by investors. The exchange saw $6 billion in withdrawals within 72 hours, and things got too much on November 8 when FTX had a balance of one bitcoin, in stark contrast to more than half a million BTC each in Coinbase and Binance.

Binance then promised to bail out FTX, only to announce the next day that the deal won’t come through because of discoveries in the corporate due diligence, reports of mishandled funds and regulatory investigations in the US.

FTX filed for bankruptcy on November 11, and its CEO resigned. Industry insiders consider this a “Lehman moment”, referring to the 2008 fall of the investment bank that sent shockwaves across the globe. Some are also comparing the collapse to Enron, the 2001 corporate fraud that resulted in the bankruptcy of the US energy company. FTX was last valued at $32 billion.

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The Ripple Effects of FTX’s Downfall

The FTX downfall has increased volatility in the already volatile crypto market, destroyed investor confidence and encouraged regulators to pace up regulations. Since FTX was one of the most trusted names in the crypto industry, the recovery will be slow.

Since the FTX crisis began, Bitcoin saw a dip from $20k a coin to around $16k, its lowest valuation since 2020. FTX crashing is a harsh reminder of the uncertainty of the crypto industry.

As per Coingecko, which lists over 13,000 cryptocurrencies through 600 exchanges, cryptocurrencies are currently valued at $870 billion, while they cumulatively stood at over $1 trillion ten days ago.

As scared investors pull out their funds from the crypto market, the ripple effects will continue. JPMorgan predicts that bitcoin could fall to $13,000, a decline of nearly 22% from where it stands today.

In this climate, the “crypto winter” may end up being worse as against the broader economy, there’s less appetite for risky assets. Of course, the FTX collapse will be driving away institutional investors as they begin to get familiar with the space.

What’s Next for the Crypto/Web3 Industry?

The cryptocurrency industry was still struggling to convince regulators, investors and customers of its trustworthiness when the fall of FTX jolted the industry.

Some experts believe that this event would be an inflection point for the crypto industry, prompting a harder push for regulations to restore its credibility and reliability.

Meanwhile, DeFi supporters argue that DeFi is better at offering transparency and auditability. Since the core premise of crypto is to eliminate the need for trust using decentralization and transparency of the blockchain, DeFi supporters raise an issue with centralized exchanges that make it hard to see through them.

For crypto investors, it’s imperative moving forward that regulations be set in motion fast. However, the balance would be between protecting investors and customers and promoting transparency and growth in the crypto industry.

The good news from FTX’s collapse is the revelation that the crypto market is not the golden hen for unsophisticated investors. These investors, often called irrational investors, are often taken advantage of by informed investors. Irrational investors have had too much of an impact on prices, which is undesirable for the functioning of an efficient market. Once irrational investors leave, crypto assets will be priced for what they are worth.

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Summing Up..

Finally, the FTX crisis hurts beyond its financial implications as it questions the moral compass of the founder of FTX. So, it makes sense that crypto industry members call for unity and community at this point to show commitment toward blockchain technology alongside financial risk management, legal compliance and transparency policies.

This is analogous to the situation right after the internet bubble burst of 2001 when the true business models rose to the surface. Industry thinkers still believe in blockchain for its revolutionizing potential for economies, hoping the technology will still receive the attention it deserves.
If you’d like to learn about KiwiTech’s Web3 Center of Excellence, reach out to our blockchain consultants


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