Tales from the Crypto
The recent sentencing of Crypto King Sam Bankman-Fried and the collapse of the crypto exchange FTX have brought increased attention to the digital currency. But what, exactly, is crypto?
NEW YORK — To many of us crypto is well, cryptic. The fallout from the bankruptcy of the crypto exchange FTX, and the recent sentencing of its founder Sam Bankman-Fried to 25 years in federal prison for for financial fraud, has shone a harsh light on this increasingly popular, though widely misunderstood, form of “currency.”
Bankman-Fried was indicted in the aftermath of the collapse of FTX, at the time the world’s largest crypto trading platform, in 2021. He was charged with orchestrating what the government called “one of the biggest financial frauds in American history.”
But what is “cryptocurrency?” And why should we, or should we, care at all? Was the FTX scandal really a “crypto” scandal? Or just another financial scam?
Just another financial scam — but sexier.
The collapse of FTX wasn’t really about crypto. Not really. It was just your everyday multi-billion investment scandal that seems sexier because it involves cryptocurrency.
FTX was an “exchange” that facilitated the buying, selling and trading of cryptocurrencies— not unlike the stock market or the mercantile exchanges — except for the fact that it was mostly unregulated, and the asset that was bought and sold was cryptocurrency.
What led to to collapse of FTX, and the loss of billions of investors money, is that FTX (aka Bankman-Fried) allowed its trading arm, Alameda Research, to “borrow” (aka steal) from customer accounts to backfill its own speculative trading losses, all the while bankrolling lavish lifestyles for Bankman-Fried (and other top executives of the company) while preaching a philanthropic philosophy known as “effective altruism.”
“Neither Bernie Madoff, Kenneth Lay, nor Jeff Skilling was, to the best of my knowledge, associated with a particular philosophical tradition,” Gideon Lewis-Kraus wrote in The New Yorker back in December 2022. “Bankman-Fried has, however, identified himself as an adept of effective altruism, the utilitarian-flavored philanthropic social movement.”
Bankman-Fried, wrote Lewis-Kraus, became one of its leading proponents and prominent donors, “promising to eventually donate almost all of his net worth, which was once estimated at twenty-six billion dollars.” The problem, as it turned out, was that Bankman-Fried’s favorite charity was himself.
Blockchain, what’s a FOCNN Blockchain?
Cryptocurrency, according to comedian John Oliver, involves “everything you don’t understand about money combined with everything you don’t understand about computers.”
NOVA, the popular PBS documentary series, describes it in a segment entitled “Crypto Decoded”, as a “collective belief,” a “consensus,” even a “necessary fiction” that something is of value, or at least represents it. “Twenty percent of it is a working technology,” tech historian Finn Brunton told NOVA, “and 80 percent is a utopian vision of how society could be.”
“Crypto currencies, everything you don’t understand about money combined about everything you don’t understand about computers”
- Comedian John Oliver
At its core, “crypto” is really just a technology called “blockchain.” It’s literally “blocks” of data in a “chain.” The Bitcoin network is a globally distributed digital public ledger consisting of a giant list of timestamped transactions. Similar to a bank ledger, a blockchain records and stores transactions.
Unlike a bank, however, that keeps its own private ledger, a Bitcoin blockchain ledger is public and resides simultaneously, and anonymously, on many computers at once. As the ledger is changed, for example when a Bitcoin is sold or created, the transaction is automatically updated on all the other ledgers.
Scarcity and the difficulty in creating new cryptocurrency gives crypto its value. When a cryptocurrency is issued the creator(s) set its parameters; how many will be available, rules for buying and selling, how new “coins” are added to the market. These “rules” cannot be changed after the fact. For example, only 21 million Bitcoin “coins” can ever be created, and creating Bitcoins requires “work” and must be “earned.” They are created by a process called “mining.”
A Bitcoin is a unique block of data that has an encrypted digital code known as a “hash.” Mining involves being the first to crack the digital code that uniquely identifies each Bitcoin. The code (or “hash") is complex and requires increasingly complicated algorithms and computer power to mine a block. This is how Bitcoin is “earned.” Think of it as guessing an an incredibly complex encrypted password.
Though anyone can mine for Bitcoin, due to the difficulty and expense of solving the hash and the extraordinary computing power needed, it’s mostly beyond the reach of the typical computer enthusiast. Whoever solves a hash first gets the block of Bitcoin (the unique digital data) and the transaction is entered into the chain. As more Bitcoins are “mined,” mining them becomes more difficult and requires more resources (time and electricity, for example) to mine them.
“[S]olving the hash for a bitcoin block…requires an extremely large amount of computation,” according to the crypto data company CoinDesk, “the need for this large amount of processing power that means new bitcoins get mined over a long period of time, not all at once.”
What's ironic is that Bitcoin was originally invented to free people from banks and centralized money and to be equally available to all. It’s now almost exclusively an investment for the wealthy and the technologically sophisticated.
Mining a Bitcoin, for example, is all but out of reach for the ordinary investor. Its anonymity draws hackers and criminals. New “currencies” are springing up all the time – and it’s unregulated by most – if not all – governments. Its value is volatile, and investing in digital currencies – generally not pegged to anything of value (other than hope) – makes it an extremely risky investment.
The FTX scandal is more about greed and corporate mismanagement than crypto. Supposedly sophisticated investors put their trust in a 21st century con-man — who wound up way over his head. Bankman-Fried's deputies have pleaded to securities fraud and are serving lengthy prison sentences.
The court-appointed CEO of FTX, John Ray III, told the Wall Street Journal “[n]ever in my career have I seen such a complete failure of corporate controls and such a complete absence of trustworthy financial information.”
In FTX's bankruptcy filing, Mr. Ray stated that "[f]rom compromised systems integrity and faulty regulatory oversight abroad, to the concentration of control in the hands of a very small group of inexperienced, unsophisticated and potentially compromised individuals, this situation is unprecedented.”
Magical Thinking.
As a technology, however, blockchain has uses other than financial. For example, it can ensure “trust” in peer-to-peer transactions. “Large companies including IBM, Walmart, Maersk, DeBeers and others,” according to IBM, "invested substantial money in blockchain to improve and secure business worldwide. Blockchain exists with real world implementations beyond cryptocurrencies and these solutions deliver powerful benefits to healthcare organizations, bankers, retailers and consumers among others.”
However, it's often the people using technology, not the technology itself, that can’t be trusted.
"A cryptocurrency is not a currency, not a commodity, and not a security," Berkshire Hathaway Vice Chairam Charlie Munger wrote in the Wall Street Journal, "Instead, it’s a gambling contract with a nearly 100% edge for the house."
In a Guest Essay in the New York Times, Harvard Economics professor Mihir A. Desai described cryptocurrency as "magical thinking." Magical thinking when it comes to digital currencies, according to Desai, is "the assumption that favored conditions will continue on forever without regard for history. It is the minimizing of constraints and trade-offs in favor of techno-utopianism and the exclusive emphasis on positive outcomes and novelty. It is the conflation of virtue with commerce."
And like most "magic," it's actually just an illusion.