Disclaimer: The information provided on this blog does not constitute investment advice, financial advice, trading advice, or any other sort of advice and you should not treat any of the content as such. Conduct your own due diligence and consult your financial advisor before making any investment decisions. I am simply a technologist with an interest in learning new things and educating others. Reinventing financial markets into a more secure, trusted, and democratized system is that “new thing”. We still have a lot of work to do to achieve this vision.

I’ve been extremely fortunate enough to have the past few weeks off for paternity leave to take care of my beautiful new daughter and disconnect from the crazy 24/7 soap opera that is Crypto. In my spare time between feedings and diaper changes I have been watching and reading much about some of the historical turmoil in financial markets. Most of these were around the GFC (Great Financial Crisis of 2008/2009), and others were more specific to the alleged market manipulation conducted during the Gamestop frenzy of 2021. Looking at these and other significant negative events in financial markets, you come to one conclusion as to what was the root cause of all of them: Greed

The latest drama is of course around Sam Bankman-Fried (SBF) and his exchange business FTX.com, along with its questionable relationship with SBF’s former hedge fund Alameda Research. I won’t delve into significant details here on the specifics of what went down. But to summarize it succinctly:

2017 — SBF and his compadres start a hedge fund, Alameda Research

2019 — SBF launches FTX.com a cryptocurrency exchange and one of the first to widely support crypto derivatives

2020–2022 — SBF and team go on a rampage in private markets and raise $1.8 billion from prospective investors. Everyone from Tom Brady, to the poster child of fashionably late stage tech venture capital, Tiger Global.

2022 — SBF with FTX.com & Alameda Research conduct significantly leveraged operations including buyouts of other troubled firms following the Terra Luna collapse. One big problem though: the majority of their leverage and debt was in their own natively inflated token, FTT.

When you control the money supply, as SBF did with his native token FTT, it is often too tempting to turn on the money printers and inflate your value on paper to drive growth. This could be because of the VC/Tech culture of ‘growth at all costs’, or inspiration drawn from the surge in inflationary monetary easing conducted by central banks that quite literally printed money of out thin air (although backed by the trust and assumption that these central banks and their respective governments would repay their debts).

Understanding the nature of FTX.com and its relationship with Alameda and the risky actions conducted via the leveraged FTT is where most of these investors failed. If you believe that FTX is a growing company (which it was, at least on paper), and it is capturing revenues that will then be distributed to FTT holders, then sure, FTT could appreciate in value. Or it could provide some form of yield or benefit to holders. Otherwise, until that day comes, it is just an asset that has been printed out of thin air. At its peak, FTT had a market cap of a staggering $9.3 billion. Yet how much of this was actually circulating supply vs. total supply is where the shenanigans began. SBF, like many others, realized that if you control the supply, you can inflate/deflate it as much as you need to accelerate growth.

The main difference between a token like FTT and a native L1 token minted at genesis is that the supply mechanism is effectively hard coded into the protocol. One of the appeals of Bitcoin is its fixed supply of no more than 21 million. Other protocols like Algorand have their own fixed supply, 10 billion specifically. Sure developers of the protocol could make changes to the code that handles supply mechanisms, as seen in Ethereum (which has recently become deflationary), but these changes would need to be accepted by the validators of the blockchain. If the blockchain is properly decentralized, and the majority of actors are good, then any of these changes should be made in the best interest of the protocol, otherwise it would be revoked by the network and a possible fork would result.

Now I am certainly not against flexible monetary supplies for certain types of tokens in all scenarios. With the advent of vote escrowed models of tokenomics it is clear that a flexible monetary supply can be beneficial to many when implemented correctly. But we must realize that it comes at a cost. As an investor or holder of that token I must trust in the issuing entity that they will act as a fiduciary and practice sound financial practices to not artificially inflate the tokens supply to achieve short-term financial gains, at the cost of token holders.

As we saw with SBF, greed is a powerful and ever-present human condition, and the trust that many placed in Sam was violated. I wanted Sam to succeed so badly. He was the poster child to me of a brainiac MIT graduate reinventing the financial system for the better. Yet he got caught in the same mistakes of the past. Trust is an incredibly hard and sometimes impossible thing to regain once it’s been lost.

What could have been done to prevent all of this?

We have the tools in blockchain today to eliminate most fraudulent financial activity. We just need to double down on building these solutions and making them more generally available. The beautiful thing about crypto and blockchain is it allows us not to rely solely on trust in individuals or organizations. But rather, we can trust on cryptographic and mathematic truth.

Smart contracts achieve this for us. Instead of relying on trusting humans to execute on pre-arranged agreements, which we have seen violated time and time again, we can instead place our agreements in immutable code. Every token should have clear and transparent data embedded directly into smart contracts that can be constantly monitored to assure investors that their money is where they think it is. Solutions like Chainlinks Proof of Reserve could have helped assure investors that FTX’s and Alameda’s balance sheets were sufficiently healthy. Sure they operated in private markets and aren’t legally required to do so, but if you truly believe in the ethos of crypto and it’s ability to dis-intermediate trust, then you should be doing all you can to strive towards that vision.

Lastly, this is yet another broken record reminder that if you don’t own your crypto private keys, you do not own your crypto. Many investors find themselves unable to withdraw any balances they held with FTX, and it is unclear if they will ever be able to recover it. They trusted FTX to act as a fiduciary, and their trust was violated.

Lastly, I would recommend subscribing to Dirty Bubble Media’s substack as they have done a great job detailing this and other issues seen over the past year, such as the downfall of Celsius caused in part by similar causes. We need to do better as an industry. If we are truly going to reinvent finance than we must prevent the mistakes of the past. We must use the cryptographic tools at our fingertips to expose fraud and greed and build a better financial system for all.