Crypto assets - wild west finance or a force for good?

Note that the following opinion piece contains the views of FSCS’ Chief Data, Intelligence and Technology Officer, Sabah Carter and does not reflect the FSCS position on crypto.

Introduction

Crypto assets are becoming impossible to ignore. The collapse of one of the biggest crypto currency exchanges FTX last month sent shockwaves through the financial services sector and made us think again about their merits, amplifying the calls for regulation. But it also propelled the story out from the crypto sphere into the regular news - crypto assets are also seen by many as the future of finance and a force for good, providing access to resources for marginalised communities and democratising the sector.

In this extract from a recent article, FSCS’ Chief Data, Intelligence and Technology Officer, Sabah Carter looks at the debate going on in the crypto space, which has intensified in recent weeks. You can read the full article on LinkedIn.

The crypto bubble

Over the past year or so the price fluctuations of Bitcoin, Ethereum, and Cardano - to name just a few – have made some wealthy, while others have lost fortunes. Bitcoin has dropped to less than $14,000 per coin, from a peak of around $67,000 a year ago.

In its short time in the market, FTX quickly became a trailblazer among crypto currency exchanges, led by its seemingly eccentric and well-connected founder, Sam Bankman-Fried, who had a vision of taking crypto mainstream. It was celebrated by celebrities and politicians and, shortly before its collapse, it had an estimated market value of $32bn.

All sorts of parallels and comparisons are being drawn between crypto and the dot com boom at the turn of the century, when several start-ups that had experienced remarkable growth went out of business.

But I think the critics are wrong to say that the crypto bubble is already bursting. I don’t think crypto is dead, far from it. The latest failure - and there will be failures – is for me just a bump in the road, albeit a pretty big one, which reminds us of the work that needs to be done to allow us all to embrace change and innovation in the sector and stay safe doing so, confident that we are making good decisions. After all, when the dot com bubble burst it didn’t signal the end of the internet and online businesses - if anything, it helped to improve legal and regulatory structures, and the businesses that did survive emerged stronger.

Crypto critics are right to warn that ordinary buyers should beware and caution against getting involved in the sector – indeed at FSCS we are at pains to remind people that the Financial Conduct Authority (FCA) does not regulate most crypto assets (exchange tokens such as Bitcoin and other cryptocurrencies for example are only regulated in the UK for money laundering purposes). This means that FSCS is unable to protect those who have invested if a platform that exchanges or holds them goes out of business (you can use the Investment protection checker to get more information on FSCS protection that is or isn’t available for different products, including cryptocurrencies). I think this just reinforces the need for better regulation and education so that people are clear what they are getting themselves into if they invest in cryptocurrency.

Disrupting the market

As a technologist I’m intrigued by the potential crypto has to disrupt the traditional finance sector in a similar way that the publishing industry has been disrupted by the move to digital.

It’s important to note that although crypto has often been viewed as a hi-tech toy for wealthy investors, and has been targeted by hackers, it also has the potential to be a real force for good, empowering ordinary people, particularly those in war-torn parts of the world, like Ukraine. Since the banking system came under attack by Russia earlier this year and restrictions made it hard to move money around, particularly cross-border, over $100m has been raised in crypto donations. Many Ukrainians have turned to crypto assets in their efforts to either survive in or flee the war zone. The Ukrainian Government has also spent money raised in crypto on things like medicine and military equipment.  

This highlights the simplicity of crypto transactions – anyone with a phone and access to the internet can access their funds via crypto wallets. In India we have witnessed JAM technology (Jan Dhan – Aadhaar – Mobile phones) which was designed to facilitate poor people’s access to social benefits and has resulted in an uptake of Jan Dhan accounts among the unbanked, providing the means to enter an economy based on cashless transactions. Digital-based wallets could well be the future for those who want to save or pay for goods and services but have no state identification or bank account.

Traditional banks like Lloyds Bank, Santander and TSB are increasingly distancing themselves from crypto, toughening their stance on people making payments to cryptocurrency exchanges due to their concerns over fraud. But newer players in the finance world are attempting to seize the opportunity of using their existing platforms to make it easy for people to give crypto a go. Crypto wallet maker Ledger recently announced that it is rolling out its crypto debit card across the UK and Europe. And when a household name like PayPal with millions of users in the UK starts inviting you to ‘start exploring crypto’ with them, you get the sense that while there may be bumps in the road, this really is the start of something.

Regulation and education

When a bank fails in the UK, people’s deposits are guaranteed by FSCS up to the value of £85,000 or double that for joint accounts. This helps maintain trust and stability in the banking system. FSCS played a vital role in protecting the 4m customers affected by the failure of five banks during the global banking crisis. But there’s no such safety net for crypto assets in the UK, so anyone investing stands to lose their money in a ‘bank run’ scenario where everyone scrambles to get their money out of a crypto exchange like FTX. This will potentially become a further debated area if crypto becomes more ‘mainstream’ where it may be questioned why deposits are protected, but stablecoins are not.

I’m not saying effective regulation will be easy – Ofcom has the difficult challenge of getting the balance right regulating social media in a way that protects freedom of speech and expression without allowing hate or bullying and the UK Government and the regulators have struggled to decide whether social media platforms are publishers or merely intermediaries - platforms which allow information to be shared.

The British Government has the ambition to make the UK a ‘crypto hub’. The Financial Services and Markets Bill, currently moving through the House of Commons will give the FCA greater regulatory oversight of the crypto sector, but this is only expected to pass into law sometime next year and consumer protections will continue to be worked through as part of that.  

Final reflections

There are so many questions about the collapse of FTX but I actually wonder if there will be a silver lining to all this. The FTX collapse may just make things safer in the long run for everyone, with better due diligence from investors and more thought about the questions that people should be asking before they invest. Far from being the end of crypto, it might just be the kick that the nascent industry needed to get its house in order.

The technologies that have been forged and are evolving in the crypto world, like tokenisation, encryption, distribution and smart contracts, not only seem unlikely to go away as our day-to-day lives become more ‘digital’, but they may also be able to increase efficiency, functionality and limit the risks in the financial system.

Read the full article on LinkedIn.

There are also lots of resources about crypto currencies on the FSCS website and the crypto podcast is also well worth a listen. There is also information on the FCA and UK Government websites.