Crypto’s future

One of the biggest stories this week in finance has been the implosion of the cryptocurrency exchange, FTX, founded in Bermuda by Sam Bankman-Fried. I haven’t paid all that much attention to crypto markets since bitcoin began retreating from its high at the end of last year. From the beginnings of cryptocurrency markets, however, I was convinced that holding digital “assets” was a fools’ game, largely entered into by unsophisticated investors motivated by hyped up marketing pitches that have highlighted historic price gains and the fear of missing out. Still, public interest in crypto has motivated a host of entrepreneurs to cater to the needs of those seeking to trade these instruments. FTX is just one of these startups, but a multitude of other “servicers” are now operational, from exchanges to brokerage services to managed accounts.

Some may claim that a good portion of cryptocurrency buyers have sought to add diversification to their portfolios, with the expectation that the increased diversification would lower the risk of their aggregate holdings, provided, of course, that the asset class being added had an expected positive rate of return. In this instance, the justification for expecting digital currencies to appreciate over time may largely have been predicated on the expectation that, at least for some reasonably extended time, a concerted marketing effort would successfully expand the demand for these products. The recent bankruptcy of FTX and the concurrent slide in digital currency prices, if sustained, will almost assuredly challenge the legitimacy of this justification.

As a critic of crypto currencies (largely because of their utility in connection with criminal activities, the substantial energy usage requirements, and the incredible waste of human intellect that could otherwise be directed to more worthy endeavors), I welcome these developments. I had been in somewhat of a bind: The expectation of positive returns on digital currencies — for whatever reason — could justify their inclusion in portfolios, disregarding the destructive role that they may play in our economy at large. I never wanted to see these instruments become part of the financial mainstream; but I understand why, to some extent, they have.

The recent debacle for FTX may cause the crypto industry to scale back; and that, to my mind, is all to the good. I don’t see much, if any, virtue in crypto currencies. Given their volatility, the idea of them serving as a medium of exchange is risible. Rather, they’ve served to enrich a handful of creators who successfully marketed their idea and “mined” these tokens, carving out generous allocations for themselves. We’ve also witnessed r perhaps hundreds of thousands of investors who have been victimized by the FTX collapse, giving lie to the “benefit” of this financial activity falling largely outside of the authority of federal regulation.

Speculators generally provide a critical risk transfer function. In most situations, though, the risk being transferred involves some legitimate economic activity. Put another way, most speculations facilitate the use of capital for some productive economic purpose. With speculations in cryptocurrency, no legitimate economic activity is involved. The only risk transfer that occurs is shifting the exposure of holding crypto currency from one speculator to the next — a case of the market participants simply trying to pick each other’s pockets. Where’s the social good in any of this?

I admit that I’ve welcomed the demise of FTX and its consequent impact on digital currency prices. In fact, I hope crypto prices continue their downward trajectories. The longer that decline persists, the fewer people will be taken in by the hype.