Does the extradition of one crypto’s highest-profile players mean digital currencies are fundamentally unsound?
As a symbol of the year in crypto, the sight of Sam Bankman-Fried being hustled out of court in Nassau to a blacked-out SUV that would take him to an airfield, and an extradition flight to New York, takes some beating.
For the highest-profile player in cryptocurrency, 2022 has come to an abrupt and unforgiving end.
The man who received celebrities, prime ministers and presidents in shorts and a T-shirt is no longer the quirky nerd whose genius might unlock the potential to earn digital billions.
Instead, he’s the face of a massive fraud, accused of using customers’ money in the crypto exchange FTX to cover his bad bets and fund a Bahamian penthouse lifestyle while he preached a doctrine of altruism, in which his millions were earned in the service of the less fortunate.
Prosecutors revealed on Wednesday that his closest partners in the business, his co-founder and the some-time girlfriend who ran his crypto hedge fund, have turned, pleading guilty to wrongdoing and providing evidence against him.
SBF, as he is sometimes known, has insisted that none of this was intentional, that the siphoning of customer money to his private accounts is a function of incompetence rather than venality.
But with tens of millions of those dollars having been directed to political donations, Washington is as embarrassed as celebrities like Tom Brady – who beamed their endorsements in FTX’s lavish marketing campaigns – and the outlook is bleak.
Was it inevitable?
The question for the crypto industry, and the wider field of digital assets, is whether FTX’s collapse is an inevitable symptom of a sector that, in promising to magic value out of the electronic ether, has always been short on trust and credibility, and fertile ground for corruption.
Or is SBF, as his successor as chief executive of FTX alleges, simply an old-fashioned embezzler whose alleged crimes were sophisticated only in the way they were hidden in plain view? And if so, do digital assets have a future not forever mired in wild volatility of questionable assets, sudden collapses, and cons?
It had already been a chastening year with a series of summer collapses, of crypto lender Celsius and the Terra-Luna network, a scandal with its own fugitive from justice, Do Kwon, subject of an arrest warrant in South Korea, and an Interpol red notice.
Naomi Osaka appeared in an ad for FTX
These collapses wiped out billions, and a 75% slump in the value of the original cryptocurrency Bitcoin took a few more, much of it from retail investors whose willingness to exchange real money for digital ciphers is the fuel that keeps the crypto machine running.
Frances Coppola, an economist and noted crypto-sceptic, says these episodes are a consequence of the fundamentally unsound nature of the products, hastened by the wider economic climate in which cheap money is no longer available to top up the punchbowl.
“In the time crypto’s been in existence it has promised much and delivered very little, except a lot of bubbles which have then spectacularly burst,” she says. “We are now in our third major bursting of a crypto bubble in its short timeframe and it’s not at all clear when or if it will recover from this.
“I think FTX and the rest, Terra, Luna, Celsius, are a phenomenon of the crypto bubble that we’ve seen in the last two years. It’s not greatly surprising that it all came to grief when the Fed [US Federal Reserve] started to tighten monetary policy along with other central banks, and the withdrawal from the global economy of all the money that had been pumped in during the pandemic.”
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What went wrong for FTX’s Sam Bankman-Fried?
Wild volatility part of Crypto’s appeal
The wild volatility that has been so costly this year appears to be a fundamental part of crypto’s appeal. Speculation and the ability to massively leverage bets by borrowing from exchanges feels like it has more in common with gambling than an investment, a retail version of the wild derivatives trading exposed to public view at horrible cost in 2008.
That has not stopped mainstream investors from taking a greater interest in crypto. Some of the biggest venture capital funds in America lost money in FTX, and banks are responding to demand from institutional investors unwilling to leave an estimated trillion dollars in new digital assets on the table.
Waqar Chaudry, of Standard Chartered bank, told me the next two years will be pivotal for mainstream engagement with digital finance: “We believe digital assets are here to stay for the long term. The primary job for a bank is to provide services to the clients where they need it.
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“From an institutional banking point of view, there is demand where large institutions are moving into cryptocurrencies. So where they are moving into that world they need service providers who have pedigree in financial services, and they are talking to us about what their plans are and what they look like for the next 12 to 24 months.”
The corporate world meanwhile is looking hard at the technology that lies beneath. These ‘distributed digital ledgers’, in which watertight cryptography and a public network of scrutineers replacing a clearing house or intermediary, have long appeared to have transformational potential.
For years blockchain has seemed like an answer awaiting the right question, but numerous routes are becoming clear.
The value of FTX’s FTT token collapsed. Pic: CoinMarketCap
The economy of things
Philip Skipper, Vodafone’s head of technology for the internet of things, says they are crucial to the next step in digital living, ‘the economy of things’.
“We already have devices that you can communicate with. The economy of things is when these devices communicate and transact with each other.
“So you can be driving down the road and your electric car could be communicating with a traffic light, you can be buying access to a congestion charge for the next 50 yards. It’s the ability of these devices to connect and transact together. That is the economy of things. Underpinning that is how you link all those plays together and that’s where blockchain has the key role.”
Global supply chains, so disrupted by COVID, could be transformed by the technology too. The combination of blockchain and stable digital currency opens the door to smart money, which could link payments to quality and delivery at each stage of a production process.
The flip side of this notion is state-controlled money which limits a citizen’s ability to spend as and when they choose. Imagine welfare payments paid only in approved digital coins that would only unlock for approved products.
The potential of these technologies for good and ill makes the role of regulators and government central, as well as the importance of public debate about what exactly we want from our money.
That absence of regulation is a common theme to the catastrophic failures in crypto this year. Ironically for a technology that promised to bypass mainstream institutions, they will be central to shaping the future of crypto and blockchain.
The business secretary will next week hold talks with dozens of private sector bosses as the government contends with a significant corporate backlash to Labour’s first fiscal event in nearly 15 years.
Sky News has learnt that executives have been invited to join a conference call on Monday with Jonathan Reynolds, in what will represent his first meaningful engagement with employers since Wednesday’s budget statement.
Rachel Reeves, the chancellor, unsettled financial markets with plans for billions of pounds in extra borrowing, and unnerved business leaders by saying she would raise an additional £25bn annually by hiking their national insurance contributions.
An increase in employer NICs had been trailed by officials in advance of the budget, but the lowering of the threshold to just £5,000 has triggered forecasts of a wave of redundancies and even insolvencies across labour-intensive industries.
Sectors such as retail and hospitality, which employ substantial numbers of part-time workers, have been particularly vocal in their condemnation of the move.
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On Friday, the Financial Times published comments made by the chief executive of Barclays in which he defended Ms Reeves.
“I think they’ve done an admirable job of balancing spending, borrowing and taxation in order to drive the fundamental objective of growth,” CS Venkatakrishnan said.
His was a rare voice among prominent business figures in backing the chancellor, however, with many questioning whether the government had a meaningful plan to grow the economy.
Mr Reynolds held a similar call with business leaders within days of general election victory, and over 100 bosses are understood to have been invited to Monday’s discussion.
A spokesman for the Department for Business and Trade declined to comment ahead of Monday’s call.
First things first: don’t panic.
What you need to know is this. The budget has not gone down well in financial markets. Indeed, it’s gone down about as badly as any budget in recent years, save for Liz Truss’s mini-budget.
The pound is weaker. Government bond yields (essentially, the interest rate the exchequer pays on its debt) have gone up.
That’s precisely the opposite market reaction to the one chancellors like to see after they commend their fiscal statements to the house.
In hindsight, perhaps we shouldn’t be surprised.
After all, the new government just committed itself to considerably more borrowing than its predecessors – about £140bn more borrowing in the coming years. And that money has to be borrowed from someone – namely, financial markets.
But those financial markets are now reassessing how keen they are to lend to the UK.
The upshot is that the pound has fallen quite sharply (the biggest two-day fall in trade-weighted sterling in 18 months) and gilt yields – the interest rate paid by the government – have risen quite sharply.
This was all beginning to crystallise shortly after the budget speech, with yields beginning to rise and the pound beginning to weaken, the moment investors and economists got their hands on the budget documentation.
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Chancellor challenged over gilt yield spike
But the falls in the pound and the rises in the bond yields accelerated today.
This is not, to be absolutely clear, the kind of response any chancellor wants to see after a budget – let alone their first budget in office.
Indeed, I can’t remember another budget which saw as hostile a market response as this one in many years – save for one.
That exception is, of course, the Liz Truss/Kwasi Kwarteng mini-budget of 2022. And here is where you’ll find the silver lining for Keir Starmer and Rachel Reeves.
The rises in gilt yields and falls in sterling in recent hours and days are still far shy of what took place in the run up and aftermath of the mini-budget. This does not yet feel like a crisis moment for UK markets.
But nor is it anything like good news for the government. In fact, it’s pretty awful. Because higher borrowing rates for UK debt mean it (well, us) will end up paying considerably more to service our debt in the coming years.
Rachel Reeves leaving 11 Downing Street before the budget. Pic: PA
And that debt is about to balloon dramatically because of the plans laid down by the chancellor this week.
And this is where things get particularly sticky for Ms Reeves.
In that budget documentation, the Office for Budget Responsibility said the chancellor could afford to see those gilt yields rise by about 1.3 percentage points, but then when they exceeded this level, the so-called “headroom” she had against her fiscal rules would evaporate.
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In other words, she’d break those rules – which, recall, are considerably less strict than the ones she inherited from Jeremy Hunt.
Which raises the question: where are those gilt yields right now? How close are they to the danger zone where the chancellor ends up breaking her rules?
Short answer: worryingly close. Because, right now, the yield on five-year government debt (which is the maturity the OBR focuses on most) is more than halfway towards that danger zone – only 56 basis points away from hitting the point where debt interest costs eat up any leeway the chancellor has to avoid breaking her rules.
Now, we are not in crisis territory yet. Nor can every move in currencies and bonds be attributed to this budget.
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Markets are volatile right now. There’s lots going on: a US election next week and a Bank of England decision on interest rates next week.
The chancellor could get lucky. Gilt yields could settle in the coming days. But, right now, the UK, with its high level of public and private debt, with its new government which has just pledged to borrow many billions more in the coming years, is being closely scrutinised by the “bond vigilantes”.
A Halloween nightmare for any chancellor.
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