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Will Crypto Survive? by Kenneth Rogoff

With a storyline full of celebrities, politicians, sex and drugs, the future looks bright for makers of feature films and documentaries about the stunning collapse of FTX. But, to paraphrase Mark Twain, rumors of the death of crypto itself are greatly exaggerated.

SAN FRANCISCO – The epic collapse of wunderkind Sam Bankman-Fried’s $32 billion crypto empire, FTX, is shaping up to be one of the great financial debacles of all time. With a storyline full of celebrities, politicians, sex and drugs, the future looks bright for producers of feature films and documentaries. But, to paraphrase Mark Twain, rumors of the death of crypto itself are greatly exaggerated.

It’s true, the loss of confidence in “exchanges” like FTX – essentially crypto financial intermediaries – almost certainly means a continued sharp drop in prices for the underlying assets. The vast majority of Bitcoin transactions are done “off-chain” in exchange, not in the Bitcoin blockchain itself. These financial intermediaries are much more convenient, require much less sophistication to use, and don’t waste nearly as much energy.

The rise of exchanges has been a major factor fueling cryptocurrencies’ price growth, and if regulators come down hard on them, the price of the underlying tokens will fall. As a result, Bitcoin and Ethereum prices fell.

But a price adjustment alone is not the end of the world. The relevant question is whether crypto lobbyists will be able to contain the damage. Until now, their money speaks volumes; Bankman-Fried reportedly gave $40 million to support the Democrats in the United States, and his FTX colleague Ryan Salame reportedly gave $23 million to Republicans. Such scale has certainly helped persuade regulators around the world to take a wait-and-see approach to crypto regulation, rather than being seen as stifling innovation. Well, they were waiting, and with the FTX crash, let’s hope they saw.

But what will they conclude? The most likely path is to improve the regulation of the centralized exchanges – the firms that help individuals store and trade cryptocurrencies “off-chain”. The fact that a multi-billion-dollar financial intermediary was not subject to normal record-keeping requirements is astonishing, no matter what one thinks about the future of crypto.

Of course, firms will face compliance costs, but effective regulation can restore trust, benefiting firms that attempt to operate honestly, which is surely the majority, at least if one weighs these trade-offs by size. Greater confidence in the remaining exchanges could even lead to higher crypto prices, although much will depend on the extent to which regulatory demands, particularly on individual identities, ultimately undermine demand. After all, the most important transactions currently conducted with crypto may be remittances from rich countries to developing economies and emerging markets, and capital flight in the other direction. In both cases, the parties’ desire to avoid exchange controls and taxes implies a premium on anonymity.


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On the other hand, Vitalik Buterin, the co-founder of the Ethereum blockchain and one of the crypto industry’s most influential thinkers, argued that the real lesson of FTX’s collapse is that crypto needs to return to its decentralized roots. Centralized exchanges like FTX make holding and trading cryptocurrencies much more convenient, but at the cost of opening the door to managerial corruption, just like in any conventional financial firm. Decentralization can mean greater vulnerability to attack, but so far the biggest cryptocurrencies, such as Bitcoin and Ethereum, have proven resilient.

The problem with only decentralized exchanges is their inefficiency compared to, say, Visa and Mastercard, or normal banking transactions in advanced economies. Centralized exchanges like FTX have democratized the crypto domain, enabling ordinary people without technical skill to invest and transact. It is certainly possible that ways will eventually be found to duplicate the speed and cost advantages of centralized exchanges. But that seems unlikely in the foreseeable future, making it hard to see why anyone not involved in tax and regulatory evasion (not to mention crime) would use crypto, a point I’ve long stressed .

Perhaps regulators should strive for decentralized equilibrium by requiring exchanges to share the identity of anybody who they transact with, including on the blockchain. While this may sound innocent, it will make it quite difficult to trade on behalf of an exchange’s clients on the anonymous blockchain.

True, there are alternatives that involve “chain analysis”, whereby transactions in and out of a Bitcoin wallet (account) can be algorithmically examined, so that in some cases the underlying identity can be revealed. But if this approach was always enough, and all semblance of anonymity could always be erased, it’s hard to see how crypto can compete with more efficient financial intermediation options.

Finally, rather than simply banning crypto-intermediaries, many countries may eventually seek to ban all crypto-transactions, as China and a handful of developing economies have already done. Making it illegal to transact in Bitcoin, Ethereum, and most other crypto won’t stop everyone, but it will certainly limit the system. Just because China was one of the first doesn’t make the strategy wrong, especially when one suspects that the most important transactions are related to tax evasion and crime, similar to large denomination paper bills like the $100 bill.

Eventually, many other countries are likely to follow China’s lead. But the main player, the US, with its weak and fragmented crypto regulation, is unlikely to undertake a bolder strategy anytime soon. FTX may be the biggest scandal in crypto to date; unfortunately, it is unlikely to be the last.

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