Bitfinex and Mt. Gox: The Familiar Happenstances Between Controversial Crypto Exchanges
History, too often moves like a metronomy from one dialectic to the other. While this leads us to think we go in socio-political circles, it's more like cycles. But that doesn't negate the very critical need on our part as independent investors and enterprises to understand that past so as to redress and prevent calamity in the present / future.
In the cryptocurrency world, this is very much the case, while Bitfinex is not something that fits into a Mt.Gox peg, but it is very worth looking at the latter in order to prevent the former from falling into the same fiscal murder holes.
Recently, both the likes of Bitfinex as well as Tether were subject to investigation by the Attorney General of New York, which doesn't bode well for either of them in terms of their credibility in the eyes of the institutional investment world.
For those of you that are not as well inducted in the world of cryptocurrencies – Bitfinex is a cryptocurrency exchange, with its owners also operating as the controlling entities of Tether, which is also known as USDT – a stable coin which is tethered to the underlying value of the US Dollar.
According to the New York Attorney General, Bitfinex was accused of losing more than $800 million, believing that the exchange had attempted to recuperate the losses by borrowing from its existing Tether-based cash reserves.
One of the issues is that, while taking money from the reserves of Tether sounds like a reasonable thing to do for the owners. The actual implications of this would render Tether useless in the hands of the community. Why exactly? Because this stablecoin is supposed to be backed by a stored volume of cash in reserve, allowing it to have a very real and virtual value.
Yet, if there were no cash behind this virtual stablecoin, or far less than one previously forecasted, then this would deflate the underlying principle of Tether, resulting in it being considered to be fraudulent in the eyes of the community.
This is the exact kind of argument being set out within the legal paperwork from later in the previous week. Within the document, towards the tail-end of it, the Attorney General issued a very clear ultimatum to the two organizations. The office itself “does seek to enjoin Respondents from taking any further action to access, loan, extend credit, encumber, pledge, or make any other similar transfer or claim between Bitfinex and Tether.”
Where's The Money
The legal proceedings will lead any onlooker of this legal case to ask – how on earth did Bitfinex manage to lose over $800 million? You don't just lose that of money in your other coat, after all. To answer that question, we need to understand just how closely linked the exchange is with banks, and what kind of relationship the two have, or don't have.
On the other hand, for those that are already more than well acquainted with the world of cryptocurrency trading, it may very well feel like this is a frame-by-frame rip off of another movie.
This is more than just inexplicable deja-vu, it has, in fact, happened before. It was only a few years ago, in what we would now call the early days of the cryptocurrency market. What was, at the time, known as one of the largest exchanges for Bitcoin in the world – Mt Gox. Where it comes into frame is how it got itself into legal trouble on account of the relationships that it had with the banking world.
This case got to such terrible states that, as of February 2014, Mt Gox officially filed for bankruptcy, finally ceasing trading, and announcing a total claimed loss of 624,408 Bitcoin.
One of the banks that handled a good number of cash transactions coming from Mt Gox included a Japanese company which was attempting to close out its account. Along with Japan's attempts to close it down, there wasn't a single US banking institution that would work with the exchange, with good reason in retrospect. It was because of this that users were taking to extreme measures in order to extract cash from the exchange, and increasingly hard for Mt Gox to send the money to them whenever users did try to withdraw.
In many instances, these logistical headaches resulted in delays of weeks and often months all before the exchanges unceremoniously and abruptly shut down trading.
When it comes to the case of Mt Gox, the end result of its closure had a massive and sustained negative impact on the world of cryptocurrency exchanges. The revurbertions of which continue to influence the judgements of individuals and institutional investors to this day.
If we are to take and leaves from the historical case of My Gox, it's that we can expect there to be atomic-style repurcussions from any issues that Bitfinex were to experience in the foreseeable future. This factor alone should give any investors significant pause for thought before delving in, and that is, if nothing else, a much-needed thing for this community. There's no such thing as too much soul searching in the cryptocurrency market.
A Sustained and Painful Implosion – Exchange Implosion
While we're seeing far more in the way of re-constitution of losses in 2019, there is still the chronic and sustained issue of problematic cryptocurrency exchanges, with ‘problematic' being a very diplomatic way of approaching them.
Including such problematic issues as the ‘problematic'/collossal failure of Bitfinex in managing to have $800 million dollars worth of crypto assets go ‘missing'. These kinds of exchanges do the marketplace as a whole no favours whatsoever. And the fact that we are seeing, not essentially a repetition, but a rhyming instance of major financial loss does not bode well at all for the industry as a whole.
There are only so many concessions that can be given to an industry that, for all intents and purposes, is still very much in its infancy, with a lot of growing pains yet to come. But this is akin to a teenager carrying billions of dollars – just how far can we shrug off these incidents as being a ‘learning curve'?
It's pretty clear that Bitfinex is a learning opportunity for the market as a whole, but how many of these lessons must be learned? What we know is this – that exchanges need to have links to financial entities like banks. And while we, as supporters of a decentralized landscape would vie not to have them involved, we have to. As we see from Bitfinex – those that have no ties to banks are the first in line to experience the sharp, familiar sting of market volatility.
We can at least come to understand why exchange overflow would undergo a steady spike in the current landscape of trading. Exchanges of more or less unsavoury reputation are clearly not trusted to keep a safe track of crypto assets, and this is going to become all the more glaringly apparent while institutional investment pours in.
While we have put cryptocurrencies and blockchain technology to pretty meticulous use. It's high time that these same bright bulb developers set their sights on something that has gone relatively overlooked when it comes to a mandate – Custody and Compliance for the Cryptocurrency world.
While it's easy for us to luxuriate in the status quo of cryptocurrency exchanges as we know them now. Until there is a more sophisticated system of security and underlying trust between the investor and the exchange, not only will we not see the kind of mass potential we know exists in blockchain's future, but the number of Mt Gox and Bitfinex's ‘losing' money will continue unabated.
Stephen Palley, speaking as both a crypto enthusiast and lawyer understands that there are plenty of Bitcoin boosters out there that want to see its value hit the highs once again. But if there is to be a future where that happens, there needs to be a far more thorough infrastructure.
So What do we Mean by Custody?
Cryptocurrency is something that goes far beyond just economics and well way from conventional computer science, inhabiting a world of its own in some instances. Much like any complex organism, it needs its fair share of experts – those that have the extensive degree of experience in the field in order to be known and trusted in order to safeguard such a monumental amount of money.
This is the crux of what we mean when we use the term ‘custody‘ in the cryptocurrency world. An increased level of security, a firm and robust legal / regulatory framework in place, legal accountability as well as compliance expertise. All of these are needed if there is to be a powerful ecosystem for the cryptocurrency world.
This includes the inclusion of Auditors, financial accountants, experienced financial professionals with enough collective experience between them in the conventional world of finance. This cadre of specialists should be able to bring a unified vision for the kinds of challenges which face the crypto world and how to overcome them. One of the great first steps and real-use cases for this would be bank-supported stablecoins such as USDC and PAX.
If these are steps that can be adhered to over the coming months and years, we may very well see some way of breaking out of the dialectic of crypto-history and re-inventing the coin exchange in a bigger, better way than was previously possible.