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Do Crypto Firms Fail Due to Unstable Business Models? or Regulators Can’t Keep Up With Them?

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Crypto firms with a variety of services have popped up in different regions around the globe and some have even attracted investments from popular venture capital firms like Binance Labs and Coinbase Ventures. However, regulators around the world have often criticized crypto businesses, claiming that their services are based on unstable models. 

The crypto world has always been volatile and this has often shown in the performance of the companies that provide crypto-related services. While the price of Bitcoin (BTC), the world’s largest cryptocurrency, topped at $69,000 in November 2021, by November 2022, BTC was down by more than 75% in just a span of 12 months. 

As a result, many institutional investors and regulators believe that crypto firms have unstable business models which has resulted in losses worth billions over the years. How far this is true will be uncovered in this guide

Crypto Firms and their Services

Crypto firms provide a wide range of services and offerings, catering to different aspects of the cryptocurrency and blockchain ecosystem like:

Cryptocurrency Exchanges: Crypto exchanges are platforms that facilitate the buying, selling, and trading of various cryptocurrencies. They provide a marketplace for users to exchange one cryptocurrency for another or convert fiat currency (e.g., USD, EUR) into cryptocurrencies and vice versa.

Wallet Services: Crypto firms offer digital wallets that allow users to store, send, and receive cryptocurrencies securely. Wallets come in various forms, such as software wallets (desktop, mobile, online) and hardware wallets (physical devices).

Payment Gateways: Some crypto firms develop payment gateway solutions that enable businesses to accept cryptocurrencies as payment for goods and services. These gateways handle the transaction process, converting cryptocurrencies to fiat currency if required.

Crypto Investment and Trading Platforms: These platforms cater to investors and traders interested in cryptocurrencies. They may offer services like portfolio management, automated trading, market analysis, and access to various investment products like crypto funds or indices.

Tokenization and ICO/STO Services: Crypto firms help companies tokenize real-world assets, issue Initial Coin Offerings (ICOs) or Security Token Offerings (STOs) to raise funds, and ensure compliance with relevant regulations.

Decentralized Finance (DeFi) Services: DeFi-focused crypto firms contribute to the development and maintenance of decentralized financial applications, including lending and borrowing platforms, decentralized exchanges (DEXs), yield farming, and liquidity pools.

Blockchain Development and Consulting: Firms in this category offer blockchain development services, smart contract development, and consulting for businesses looking to implement blockchain solutions.

Mining Services: Some crypto firms engage in cryptocurrency mining operations and offer mining hardware, hosting, or cloud mining services to individuals or entities interested in participating in the mining process.

Education and Research: Crypto firms may provide educational resources, news, market analysis, and research reports to help individuals and businesses stay informed about the crypto industry.

Security and Auditing: Security-focused firms offer services related to crypto asset security, including auditing smart contracts, conducting security assessments, and providing solutions to enhance the overall security of blockchain projects.

Factors Affecting Stability of Crypto Firms

The cryptocurrency industry is highly dynamic and subject to constant change. The business models of crypto firms can vary widely, and while some have proven to be successful, others may face instability or challenges due to the unique nature of the industry. Here are some factors that can contribute to the perceived instability of crypto firms’ business models:

Volatility: Cryptocurrencies are notorious for their price volatility. Rapid price fluctuations can impact revenue, profitability, and operational sustainability for crypto-related businesses, especially those heavily reliant on trading or speculative activities.

Regulatory Uncertainty: The regulatory landscape for cryptocurrencies and blockchain technology can be uncertain and varies significantly across different jurisdictions. Shifting regulations can create operational challenges for crypto firms and may impact their ability to operate in certain regions.

Security Concerns: The security of crypto assets and blockchain systems is crucial. Firms that handle cryptocurrencies or offer crypto-related services are often targeted by hackers, which can lead to substantial losses and damage to their reputation.

Market Saturation and Competition: The crypto industry has experienced rapid growth, leading to increased competition. This can lead to smaller or less-established firms struggling to gain traction in a crowded market.

Technological Advancements: The blockchain and crypto landscape is continually evolving, with new technologies and projects emerging regularly. Established firms may find it challenging to adapt quickly to changes in the technology, while newer entrants may have to compete with more innovative solutions.

Lack of Traditional Infrastructure: The cryptocurrency industry is still relatively young compared to traditional finance, and it may lack some of the well-established infrastructure and support systems found in traditional markets. This can pose challenges for firms seeking to establish stable business models.

Implosion of Crypto Firms in 2022

The implosion of billion-dollar crypto firms in 2022 brought the regulatory wrath on crypto investors as well as businesses that operated using lax KYC laws or outside the regulatory requirements. 

FTX

One of the largest and most infamous bankruptcies in the crypto space was the collapse of crypto exchange FTX under the leadership of Sam Bankman-Fried, also known as SBF in the crypto space. It all began with a report by CoinDesk highlighting potential leverage and solvency concerns involving FTX-affiliated trading firm Alameda Research.

On the other hand, rival exchange Binance confirmed that it would sell all of its holdings of FTT token, the native token of the FTX crypto exchange. Interestingly, Binance had a huge amount of FTT because it was an early investor in FTX. This resulted in all the holders of the FTT token selling their holdings and dropping the price significantly. 

The very next day on November 7, 2022, FTX announced that it was in a liquidity crisis and was looking for a bail out. According to reports, after the CoinDesk report, customers started withdrawing their money which was around $6 billion. However, the exchange did not have the money. 

Reports claim that FTX CEO Sam Bankman-Fried loaned customers’ money to another firm called Alameda Research which was also founded by SBF. Also, SBF had aggressively made investments in crypto firms during the bear market which further depleted the company’s liquidity. 

Finally, SBF stepped down as FTX CEO and the firm filed for bankruptcy. New CEO John Ray was appointed to guide the company.

Celsius Network

In April 2022, crypto lending platform Celsius Network announced that it will begin holding non-accredited investors’ coins in custody, where investors will no longer be able to add new assets and earn rewards on its Earn platform. The collapse of Terra Luna’s UST triggered withdrawals on the platform and it was rumored that the firm had become deeply insolvent. 

After many customers started taking money out of the Celsius crypto lending platform, the firm paused withdrawals and a month later, it also cut off 23% of its workforce which further fueled the rumors of insolvency. 

Finally, Celsius filed for bankruptcy in July 13, 2022 after transferring $8.4 million in USDC stablecoin to DeFi lending protocol Aave, closing a loan and freeing up $10 million in stETH, a derivative type of the ether (ETH) token, $13 million in Chainlink‘s LINK tokens and $3 million in Synthetix’s SNX.

Three Arrows Capital (3AC)

Back in March 2022, Three Arrows Capital (3AC) managed around $3 billion in funds and now, the founders of the bankruptcy crypto hedge fund, Kyle Davies and Su Zhu, are wanted by creditors and authorities for being unable to meet the margin call of investors. The hedge fund worked by borrowing money from industry players and investing it in other crypto projects. 

However, the firm had a huge exposure to the Terra ecosystem. While it said that it had an exposure of $200 million in Luna, some reports claim that it was around $560 million. Following the collapse of Luna, the firm did not have the money to repay its creditors and it filed for bankruptcy.

Terra Ecosystem

The Terra ecosystem consisted of two cryptocurrencies–the UST which was a stablecoin and LUNA, the native utility token of the ecosystem. Luna had an all-time high of around $120 and since then, it tumbled down to a value of $0.00001675 in May 2022. The collapse of the entire ecosystem is not in the hands of developers but in the hands of the flawed model that its creator, Do Kwon, has penned down. 

A large-scale sell-off of Luna and UST was initiated in early May 2022 which resulted in UST losing its peg. In an incident which can be termed as a bank run on the Terra ecosystem, both the tokens lost more than 99% of their value and billions of dollars are now worth pennies. 

BlockFi

A major crypto lending company created in 2017, BlockFi made its name in the industry by offering high yields for users that deposit their money on the platform. In March 2021, BlockFi raised $350 million and was worth $3 billion as a company. 

However, the first major blow to the firm was a lawsuit by New Jersey’s Bureau of Securities’ cease and desist notice which claimed that BlockFi’s interest accounts amounted to sales of an “unregistered security” and issued a ban on creating new interest-bearing accounts. In a span of few days, similar notices were issued by Vermont, Alabama, Texas, and Kentucky. 

At the end of June, BlockFi held $1.8 billion in open loans and $600 million of exposure. It had made huge loans to Three Arrows Capital, which had already filed for bankruptcy post Terra collapse. Interestingly, BlockFi relied heavily on crypto exchange FTX for its credit facilities and had $355 million worth of cryptocurrencies frozen on the platform. The losses piled up and it filed for bankruptcy.

Why are Regulators Unable to Keep Up?

Regulators in various jurisdictions have faced challenges in fully understanding and keeping pace with the complexities of crypto business models. 

This lack of understanding can lead to misconceptions and regulatory approaches that may not align with the unique nature of the cryptocurrency industry. Some reasons for this misunderstanding include:

Novelty of Technology: Cryptocurrencies and blockchain technology are relatively new and rapidly evolving. Regulators may not have had prior experience with such technology-driven financial systems, making it challenging for them to grasp all the nuances and potential implications.

Complexity of Business Models: Crypto firms often operate in a global and decentralized environment, offering services that may not neatly fit into existing regulatory frameworks. For instance, cryptocurrency exchanges may have aspects of both traditional financial exchanges and technology platforms, making it difficult for regulators to categorize them accurately.

Rapid Innovation: The cryptocurrency industry is highly innovative, with new business models and technologies emerging frequently. Regulators may struggle to keep up with these rapid changes and adapt their regulations accordingly.

Risk Perception: Cryptocurrencies have been associated with certain risks, such as price volatility, fraud, money laundering, and terrorism financing. Regulators may focus on these risks without fully appreciating the potential benefits and transformative aspects of blockchain technology.

Global Nature: The borderless nature of cryptocurrencies and blockchain projects can present challenges for regulators operating within specific jurisdictions. Coordinating regulatory efforts internationally can be complex.

Lack of Expertise: Regulators might face a shortage of expertise in blockchain technology, cryptocurrencies, and related fields. Understanding the underlying technology is crucial to formulating effective and balanced regulations.

Balancing Innovation and Investor Protection: Striking the right balance between fostering innovation and protecting investors and consumers can be challenging. Regulators may struggle to find the optimal regulatory approach that allows for growth while mitigating risks.

To address these issues, there have been efforts to increase dialogue and collaboration between the crypto industry and regulators including formation of multiple blockchain lobbying groups.

Efforts to Reduce Misunderstanding Between Crypto and Regulators

Efforts to reduce misunderstanding are ongoing, and the regulatory landscape is continually evolving. 

Collaboration and open communication between the cryptocurrency industry and regulators remain essential for striking a balance between fostering innovation and safeguarding the interests of consumers and investors.

Regulatory Sandboxes: Some countries have established regulatory sandboxes, allowing crypto firms to operate in a controlled environment under the supervision of regulators. This approach enables regulators to observe and learn about the industry firsthand, fostering better understanding and collaboration.

Industry Engagement and Dialogue: Governments and regulators are increasingly engaging in dialogue with representatives from the cryptocurrency industry, including exchanges, blockchain projects, and advocacy groups. Regular meetings and consultations help address concerns, clarify regulatory expectations, and bridge gaps in understanding.

Education and Awareness: Initiatives to educate regulators about blockchain technology and cryptocurrencies have been implemented. Workshops, seminars, and educational programs are conducted to increase awareness of the potential benefits and risks associated with the technology.

Task Forces and Committees: Some jurisdictions have formed specialized task forces or committees comprising experts from various fields, including technology, finance, and law. These groups work together to study and advise regulators on cryptocurrency-related matters.

Industry Self-Regulation: In response to regulatory challenges, some segments of the cryptocurrency industry have developed self-regulatory bodies and best practices. These self-regulatory efforts demonstrate a commitment to responsible business conduct and can serve as a basis for dialogue with regulators.

International Coordination: Given the global nature of cryptocurrencies, international coordination and collaboration among regulators have become more critical. International forums and organizations facilitate sharing of information and best practices to address cross-border challenges.

Clear Guidance and Frameworks: Regulators are working to provide clearer guidance and regulatory frameworks specifically tailored to the cryptocurrency industry. By offering more comprehensive and specific regulations, the ambiguity and uncertainty for crypto firms can be reduced.

Innovation-Friendly Policies: Some jurisdictions have embraced an innovation-friendly approach, recognizing the potential benefits of blockchain technology and cryptocurrencies. These policies aim to attract crypto businesses and investment while ensuring that necessary safeguards are in place.

Pilot Projects: In certain cases, regulators have initiated pilot projects in collaboration with blockchain companies to explore real-world use cases of the technology. This hands-on experience can enhance regulators’ understanding and inform their regulatory decisions.

Collaborative Research: Public and private institutions are partnering to conduct research on cryptocurrencies, blockchain, and their impact on various sectors. Research outcomes can help regulators make informed decisions based on data and evidence.

Conclusion

The collapse of billion-dollar crypto firms in 2022 have further strained the relationship between regulators and the crypto industry. While there are many genuine crypto firms that offer exceptional services, from a regulatory perspective, the industry has yet to mature. Many billionaires have said that almost all the bad players from the crypto space were pushed out during the crypto market collapse in 2022. 

It is crucial to note that in order for crypto to develop, lobbying groups and representatives from the industry need to explain the intricacies of the industry and the complexity of the operations of blockchain-based firms. Interestingly, many governments have also decided to experiment with blockchain technology, cryptocurrencies, and stablecoins.

FAQs

Are crypto firms unstable?

Some crypto firms have very stable businesses while some are unstable and soon collapse. As the industry is still developing, the stability might change over time.

What kind of services do crypto firms provide?

Crypto firms provide many services like crypto trading platforms, wallet services, payment gateways, lending and borrowing.

How can relations between crypto firms and regulators be improved?

Regulators need to establish a better understanding of the complex blockchain sector while the crypto space needs better representatives that are willing to work with regulators and explain their case. Things have already started to change in places like Hong Kong and Singapore.

Why did crypto firms collapse in 2022?

Unstable and unfair business models along with lack of transparency is what caused crypto firms like Celsius to collapse. The firms’ management were incapable of handling the attention and growth.

Will regulators ban crypto?

As of now, no country has directly banned cryptocurrencies but many have banned their usage for payments while some have even banned staking, lending, and borrowing cryptocurrencies.

Disclaimer. The information provided is not trading advice. Cryptopolitan.com holds no liability for any investments made based on the information provided on this page. We strongly recommend independent research and/or consultation with a qualified professional before making any investment decisions.

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Micah Abiodun

Micah is a crypto enthusiast with a strong understanding of the crypto industry and its potential for shaping the future. A result-driven Chemical Engineer (with a specialization in the field of process engineering and piping design), Micah visualizes and articulates the intricate details of blockchain ecosystems. In his free time, he explores various interests, including sports and music.

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