A year of carnage in the digital assets space: Where do we go from here?
The crypto industry has, since its inception, often been characterized by the outsized and media-savvy personalities that founded its most prominent enterprises. Now some of those personalities are facing significant prison sentences, and their companies have either collapsed or are subject to significant federal oversight.
Convictions and collapses
A year of carnage in the digital assets space has culminated in the conviction of FTX founder Sam Bankman-Fried on seven fraud and conspiracy related counts. Changpeng Zhao, the CEO of crypto exchange Binance, most often referred to simply as CZ, has pled guilty to federal charges as well, including money laundering. Binance itself has pleaded guilty to several charges and has agreed to extensive federal oversight. Criminal charges have also been filed against the co-founders of other crypto entities, such as Do Kwon of Terraform Labs, Alex Mashinksky of Celsius, as well as principals from Three Arrows Capital and SafeMoon LLC. Additionally, there have been an onslaught of civil enforcement cases filed by the SEC.
Anyone who reviews court dockets might conclude that these are apocalyptic times for the industry, at least in the United States. Some claim that this is a harbinger of what is likely to be a sizeable contraction of the industry, if not an imminent collapse. But is this view mistaken? Is it an error to view the closing of prison doors on crypto founders as a sign that the digital assets industry as a whole is facing an existential crisis? Or is this in fact a blessing in disguise that might serve as the portent of a more stable industry?
It bears emphasis that what ultimately brought down FTX, and what led to the guilty pleas regarding Binance, are acts that would be criminal no matter what the business sector: aiding terrorists, evading sanctions, and defrauding banks, customers, and investors. Nor are these violations unique to cryptoworld; as a former SEC prosecutor, I can attest that US prosecutors charge these violations far more frequently against non-crypto entities.
The age of the charismatic founder with evangelical aspirations to change how finance is conducted is likely giving way to more conservative aspirations of economic sustainability and profit.
How can crypto entities move forward
A better way of looking at these developments might be to see them as reflecting what is likely an inevitable maturation of the industry. This necessarily entails not only moving beyond some of the more utopian claims made by its most enthusiastic adherents, but adoption of some of the norms of the traditional finance industry.
The digital asset economy has long prided itself on being outside traditional norms of corporate behavior and chafing at state control. That is going to change as it looks to survive the last year of turmoil and thrive in the future. The recent wave of criminal and civil prosecutions likely herald three dramatic changes as crypto entities move forward.
First, digital assets will be increasingly subject to a set of rules and regulations that will govern crypto entities on the federal level. These may include, say, limitations on exchanges sponsoring proprietary tokens, the widespread imposition of KYC and AML obligations, required segregation of customer assets from company assets, separation of trading and exchange functions, and some kind of regularly required audits of both assets and operations, or some mix of the above. Regardless of what the final legal framework turns out to be, regulation is almost certainly going to be imposed to provide both investors and customers with the confidence in operational integrity that is lacking after a year-plus of highly publicized collapses and indictments.
Second, rather than an industry dominated by utopian start-ups promising to change the world and burdened with outsized expectations, we are likely to see an increase in traditional legacy financial service firms entering into the digital asset arena, once there is more regulatory certainty. We are already seeing this, with multiple applications for spot Bitcoin ETFs from firms such as Invesco, Fidelity, BlackRock, and others. As digital assets become more widely held by US investors, we are likely to see other established institutions develop ways of tapping into these markets. Among other benefits, legacy companies with an extensive capital cushion may be perceived to be less likely to raid customer assets – not to mention having substantial experience in how to segregate customer from proprietary accounts.
Thus, the age of the charismatic founder with evangelical aspirations to change how finance is conducted is likely giving way to more conservative aspirations of economic sustainability and profit. (Especially as many of these prophets are going to be spending significant portions of the next few years in federal custody). Digital businesses will be more likely to be run by old-line business people with MBAs from Harvard or Stanford, and experience at traditional financial and banking institutions, than enthusiastic media-savvy promoters. While there will always be a role for disruptors and new entrants, customer and investor anxiety about the security and probity of major crypto organizations are likely to be assuaged by the entrance of legacy firms into the field.
Hail the gatekeepers
Finally, traditional gatekeepers will be given greater prominence in operations. This includes lawyers and other related professionals, both inside and outside enterprises, who will ensure that firms comply with established legal requirements, as opposed to (as is alleged with Binance) counsel who stand by as firms evade or ignore the law.
We are leaving the era of the Wild West, where charismatic gunslingers reigned supreme, and moving to an era where both established businesses and disruptive founders rely on lawyers, accountants, and compliance professionals. While many will mourn the abandonment of the iconoclastic spirit that inspired the crypto world, lawyers might actually help save the industry by helping crypto companies prosper in a new era.