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The FTX Rohrschach Test
In which I make my best case for why crypto is over/early.
Working in crypto means that you often have to hold two parallel realities in mind.
There’s the crypto world where “winter” has led to massive building momentum while prices languish. Then there’s the “real world” where a close friend asked me if NFTs still exist.
Occasionally, very occasionally, these two worlds collide in spectacular fashion.
Like when one of the crypto world’s largest exchanges helmed by its most public frontman blows up. For one awesome second, we all exist in the same reality.
Then like light through a prism, reality fragments again.
In the “real world”, FTX exploding proves that crypto is irredeemably broken. It should be regulated. It should be banned altogether. If you have ever seriously considered its potential then you are bad and you should feel bad.
In Crypto’s parallel reality, just a few clicks away on Twitter, FTX exploding is proof that the crypto vision is necessary, just and inevitable.
Both can’t be right. So which is it?
No, I’m seriously asking you.
Because surely, dear reader, you know the truth. You are not misled. Your beliefs are founded on a deep understanding of markets and technology. Your views are not at all distorted by self-interest or schadenfreude.
Would that I could say the same.
Telling what is real in moments like these is hard. It’s a critical point where a few flaps of a butterfly’s wings will make the difference between two wildly divergent outcomes. Everyone will claim the winning perspective was obvious in hindsight. But it wasn’t.
So here’s what I’m going to do.
I’m going to make the best case for both realities that I can via two particularly obnoxious voices in my head, Anti-Crypto Aaron and Pro-Crypto Peter. Then we can talk about which “story” is real and which is delusional.
You will know one of these stories already. It’s the conventional wisdom that your reality bathes you in, so I’d encourage you to only read the one with which you disagree.
Let’s see if we can’t shake some priors.
Thanks for reading. If you’re interested in crypto or the future of online communities, I hope you’ll subscribe. It’s free!
FTX is (more) proof that crypto is a fraud
How else was this going to end?
Let’s look at some facts. We have a technology that has existed for 14 years. Every use case that has been postulated for it has been demonstrably wrong. Bitcoin is not an inflation hedge. It is not a stable store of value. Its transaction fees are not cheaper than typical bank transfers. It is not empowering the global poor or making global finance more stable. It has achieved one thing and one thing only. It has made early buyers more money.
Oh, wait, I forgot money laundering. Yeah it does that, too.
Then you add in Ethereum. But Ethereum’s primary use-case has been to enable peer-to-peer “contracts” which enable thousands of other tokens and unregulated entities to be speculated on in more complex fashions.
So now, we have an entire parallel financial system speculating on arbitrarily slow computing power, memory on this slow computer, unregistered equities and various pieces of art.
This financial system is built on zero-actual-assets with zero actual value, zero regulation and zero proof-of-real-identity. So there’s no floor on the value of assets here. It’s empty speculation on empty promises. And everyone is playing “don’t look down” because no one wants to admit that maybe this was a bad idea?
But that’s all prelude, right? Because FTX “isn’t crypto.” That’s what you want me to understand. It’s just a centralized investor speculating on crypto, right?
Your whole system is centralized. .01% of Bitcoin holders control over 55% of the value. .01% of Ethereum addresses hold 58% of the value and their proof-of-stake system now entrusts that elite to guard your “decentralized system.” South Africa is the least equal country in the world for wealth distribution. Yet the top 1% (that’s 100x .01%) of South Africans only own 40% of their country’s wealth.
Congratulations, decentralization maxis, you’ve invented the world’s most concentrated economy!
Now, let me suggest something controversial. Maybe, the people who are able to make the most money on an asset without any real, underlying value are always going to be the smoothest talking con-men? Maybe, just maybe, it’s inevitable that your shell game attracts the best shell game players. Maybe people who claim to be “pro-democracy” are able to actually create oligarchies and tyrannical dictatorships.
Maybe that’s how this goes every single fucking time.
But “it’s early” you say.
Wait wasn’t the whole idea that once we get enough people involved, enough capital deployed, enough… I don’t know, momentum?... that it would magically become real. I’ve read Sapiens, too. You people didn’t invent shared myths.
So - crypto has spent ten years saying it’s the “future of finance” and looking for ways to break into the mainstream. And FTX helped you get the poor normal people bought in on your grift! It let everyone do all the fun stuff that you won’t shut up about – betting on all these random investments, letting retail investors pursue complex trading strategies.
What is FTX but the realization of your crypto dreams/nightmares?
And, no this isn’t all about fraud. At least not the kind that you claim is the real culprit. The bottom fell out of the market because it had no value. The emperor had no clothes. Crypto was seen for what it was – massively overvalued! – and that crushed the “value” of your imaginary digital magic money. FTX fell on the same sword they were selling.
Their fraud is incidental. It’s marginal. The real fraud is that every asset on their “balance sheet” was worthless and inevitably going to go to zero at some point. The fact that it did so quickly enough that it spurred fraudulent behavior is just the icing on your corrupt cake.
The only way out of this mess is for crypto to add actual value, add regulation and add real identity. But, you see, that space is already taken by the actual financial sector (TradFi, that’s what you call it, right?) that you all claim to hate so much.
This ending is poetic. It’s just. And with any luck, it will be the end of this entire chapter in our weird internet history.
It ain’t early, bro. It’s over.
FTX is proof that crypto is necessary
by Pro Peter
Before we talk about FTX, I want to tell you a story about my friend. She used this Robinhood-like stock-trading app called TechExchange to invest in tech stocks.
TechExchange was a platform for investing in major public market tech companies. But they also had an ill-defined relationship with a separate hedge fund called Piedmont Equities.
Piedmont and TechExchange, both started by the same guy, right?
And here’s what happened – Piedmont made some really bad bets on Peloton (-94%), Netflix (-55%), Facebook (-67%) and Snapchat (-86%) over the last two years. Woof.
So then, the founder of TechExchange/Piedmont sold a bunch of his TechExchange clients’ stock to help Piedmont cover its losses. He imagined that the market couldn’t stay bad forever, so if Piedmont made some smart bets they would win it all back. Then they could top-up those accounts he “borrowed from” and no one would be the wiser.
Now, to be clear, this was illegal both by law and by the terms that TechExchange offered its users. But hey! It would be totally fine as long as Piedmont didn’t lose the new money, and as long as everyone didn’t try to withdraw their stocks at the same time.
And honestly, what were the odds of that?
Except that “when it rains it pours.” The CEO of a rival stock trading app, who happened to also have been an early investor in TechExchange, tweeted that he had lost faith in the company. He said he was selling all his stock. He said he was withdrawing all of his holdings from TechExchange.
Now there’s panic and a bank rush!
So the firm collapsed. Taking its customers’ net worth with it.
My friend, she’s drawing the right lessons from this. Tech Companies are all scams! Stocks are evil! We should never invest in any of it ever again. We should probably forget the whole “tech” bubble ever happened.
Ok, I know this is obvious, but that’s the story of FTX. And that closing point about never investing in tech stocks again, that’s what these weird anti-crypto crusaders want you to believe is the obvious consequence here.
But, here’s the truth: FTX’s collapse has nothing to do with the blockchain. It has to do with a bad CEO doing sketchy things.
And you say, “Well, regulation is the answer!” Except that Enron was regulated. And Lehman Brothers. And AIG. That system has had hundreds of years to root out bad actors. Tell me, my self-righteous friend, how is that working out for you?
Look – bad actors are going to do bad shit. You say we need to trust regulators, I say we should trust no one. We should prevent anyone from being powerful enough to shake the markets like this. We should have absolute transparency so we can hunt down every bad actor before they can do harm. You want a regulatory state. I want a state of transparency.
Imagine instead a system that works like this:
When you invest money, you can see exactly what your trustees are doing with it.
You never have to worry about bank solvency because you can withdraw your money at any time. In fact, it’s always under your complete control!
To prevent any one actor from becoming a systemic risk, we keep all of our critical infrastructure operating – like email – on a protocol that no one owns.
Is that something you might be interested in? My guy, that’s what we’re trying to do!
And here’s the crazy thing: the collapse of FTX only happened because our system works.
The only way we caught FTX was because of transparency. A journalist reported Alameda’s (the real-world equivalent of “Piedmont Research”) balance sheet looked sketchy. Then, when their team tried to tell us everything was under control, we could watch as a bank-run started and their wallets stopped processing transactions.
We could catch them (or another party — unclear as of writing) trying to steal from their customers in real-time! All on-chain!
What traditional banking regulator could ever do that?
Without that open ledger, who knows what happens? I’ll admit I was taken by Sam and would have bet on him over Binance. That’s because charlatans win in political systems and facts win in open-systems.
As for systemic risk – okay, that wasn’t great. We let FTX get too big, too quickly. But the decentralized protocols all stayed up: Uniswap, SushiSwap, dy/dx, the Ethereum chain itself! Nothing fell. Even Solana – which had FTX as a major investor – has rallied and kept all their critical infrastructure working.
Our system works! It needs refinement, but the proof is there!
The problem is that we haven’t gone far enough.
FTX was not a blockchain entity. They were a bridge between the old world and the new world. They took people’s money and then used it to speculate in crypto. They were just an unregulated bank. They found a regulatory blindspot and worked that loophole for everything it was worth.
In the old world, we have regulation. In the new world, we have on-chain transparency and decentralization. FTX found a weakness where those two worlds meet. You say it means go backward. You say that crypto has gone too far. I say it means we have to go farther.
And here’s the fun part. That’s happening. Maybe you missed it but Nike announced NFTs on Monday. JPMorgan(!) pointed out that protocols were not to blame. Then the NYFed announced a pilot Central Bank Digital Currency.
My brother, if you’re not ready for the revolution that’s fine, press snooze for another couple years. We’re going to figure this out. It is still so fucking early.
Back to Shared Reality
If I can bring us back to some sense of shared ground here, there’s actually a lot the two sides agree on. FTX was a bad actor. They committed fraud. I think even our Pro-Crypto Peter would agree that crypto has a way of attracting bad actors.
The conflict, the core open question of this debate are these three simple questions:
Do crypto projects create value other than speculation?
Is transparency or decentralization possible in the financial system and if so, can it prevent bad actors?
Is decentralization feasible in the current crop of cryptocurrencies?
Point 1 is a big debate, and I’m going to leave it alone. I have weighed in elsewhere.
Point 2 – well, there’s a Rohrschach blot here. Crypto tools helped catch the fraud, but regular regulation might have prevented it altogether.
Point 3 – The trends are favorable. The economy is getting less centralized over time. But the crop of VC projects funded during boom times are not going to help. Nevertheless, the key isn’t equality here, it’s provable neutrality. And Bitcoin’s controlling .01% is still 7000 people. It’s hard to get that many people in on a conspiracy.
The bad news for Pro-Crypto Peter is that the regular people are going to be scared away for a good, long while.
They see repeated fraud, and they don’t care about all of his nuances or promises of progress.
The good news for Pro-Crypto Peter is, ironically, that the regular people are going to be scared away for a good, long while.
The tools appealing to them – by offering UX benefits without fulfilling the promise of decentralization and transparency – are going to wither on the vine. Only the true believers are left. Only technology that appeals to their values will win.
Crypto’s next few years are make or break. If the community can create real value, if it can prove that transparent markets allow “white blood cells” to catch fraud and prevent it from spreading, then they will have earned the next boom time.
If they can’t – well – from zero your magical internet money came and to zero it will return.