December 5, 2022

FTX’s Sudden Unraveling May Allow DeFi to Grow

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If you are cryptocurrency’s version of John Pierpont Morgan, you stake your fortune to save the industry. Not out of kindness, but to shape the regulatory landscape in a way that your firm becomes the tallest tree in the forest for all time to come. Sam Bankman-Fried of crypto exchange FTX.com did the bailouts with aplomb last summer. It’s in lobbying Congress that SBF — as the 30-year-old is known — botched things up. 

By trying to influence the crypto policing regime in a way that would bolster exchanges like his but undermine digital protocols of decentralized finance, he must have upset rival billionaire Changpeng “CZ” Zhao enough for the latter to pull the plug on his former disciple. 

After dumping its holdings of FTX’s native coin and triggering an exodus of users from the rival bourse, CZ’s Binance, the world’s biggest cryptocurrency exchange, is acquiring FTX in a rescue deal. The terms have not been disclosed, and it isn’t entirely clear how anti-trust authorities will react to one entity’s control of more than four-fifths of the global market. 

More importantly, CZ’s action may lead to fresh chaos in the blockchain world. The tremors are bound to reveal new fault lines in the Digital Commodities Consumer Protection Act (DCCPA). That won’t be entirely unwelcome. Decentralized finance, which was staring at oblivion under the proposed law, would now expect a seat at the table under CZ’s stewardship: DeFi protocols — computer code that runs on the blockchain network — will seek legitimacy just as much as Bitcoin or Ethereum, which were going to be blessed as commodities so that the Commodities Futures Trading Commission could regulate how they change hands. 

“Binance and broader industry participants were unhappy with FTX’s approach to rush the regulation, in a way that could be perceived as favorable to FTX and not the entire industry, particularly, DeFi,” Bernstein analysts Gautam Chhugani and Manas Agrawal wrote in a note to clients. “We believe regulatory progress on crypto cannot exclude decentralized finance.”


DeFi is the industry’s name for replicating all the services that modern finance provides — paying, saving, lending, borrowing, trading, investing and insuring — in a tokenized world powered by algorithms, not intermediaries. But the bill brought forward by Michigan Democrat Debbie Stabenow and John Boozman, a Republican senator from Arizona, is geared toward keeping centralized intermediaries in line, thereby according a seal of public approval to the likes of FTX and Binance.

Lines of code will get left behind in a twilight zone. Not surprisingly, a section of the industry called the proposed law a “DeFi killer.” Mind you, CZ also gains if the public is assured that CFTC regulates Binance. But what will be the price of that victory? Modern finance is built atop the deep foundations of law. To be able to recreate all of that by replacing courts with self-executing code — known as smart contracts — is a much bigger prize than to simply have more people come to your bourse to speculate on tomorrow’s Bitcoin or Ether price. But it can’t happen if regulation bypasses the industry as most of today’s DeFi is puppet theater, with intermediaries manipulating protocols from behind.

Last month, SBF tried to defend his support of the bill on Twitter: “I’m optimistic that the Stabenow-Boozman’s bill will provide customer protection on centralized crypto exchanges without endangering the existence of software, blockchains, validators, DeFi, etc. If I were convinced I was wrong about that, I would not support it.” Clearly, CZ wasn’t impressed. If you think a tall tree is stunting the growth of the forest, you take an ax to it. Which is what CZ seems to have done.  

More from Bloomberg Opinion:

• The Wild West of Crypto Claims Another Victim: Lionel Laurent

• Matt Levine’s Money Stuff: Binance’s CZ SBF’ed FTX’s SBF

• Central Banks Can Save DeFi. Really: Andy Mukherjee

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Andy Mukherjee is a Bloomberg Opinion columnist covering industrial companies and financial services in Asia. Previously, he worked for Reuters, the Straits Times and Bloomberg News.

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