Opinion | Crypto crashes. Where were the regulators?

When the Federal Reserve speaks, it speaks in Fedspeak. A sharp turn or a striking metaphor can all too easily become a headline, causing major market movements and a public setback. So dry technical language and euphemisms are usually the way to go.

Given this reality, the lethargy of a recent speech on cryptocurrency regulation by Fed Deputy Lael Brainard is almost shocking.

Admittedly, Brainard did not go as far as Jim Chanos, the famous shorts seller, who called crypto a “predatory scrap yard.” But she came close. The very first headline in her comments was “Separating responsible innovation from regulatory evasion”, and she strongly suggested that much of the crypto universe is driven by the latter. Traditional banking is regulated for a reason; crypto, by circumventing these regulations, she said, has created an environment prone to banking, not to mention “theft, hacks and ransomware attacks” – plus “money laundering and terrorist financing.”

Other than that, everything is fine.

The thing is, most of Brainard’s litany has been obvious for some time to independent observers. So why are we only now hearing serious demands for regulation?

Cryptocurrencies have been around since 2009, and in all this time they have never played a major role in real-world transactions – El Salvador’s much-hyped attempt to make bitcoin its national currency has become a debacle.

So how did cryptocurrencies come to be worth nearly $ 3 trillion at the top? (Two-thirds of this value has now disappeared.) Why was nothing done to curb “stablecoins”, which were allegedly linked to the US dollar, but which were obviously exposed to all the risks of unregulated banking, and which are now experiencing a series of collapses reminiscent of the wave of bank crashes that helped make the Great Depression great?

My answer is that although the crypto industry has never been able to come up with products that are widely used in the real economy, it has been spectacularly successful in marketing itself, creating an image of being both groundbreaking and respectable. It has done so, especially by cultivating prominent figures and institutions.

I’m not talking here about the embrace of crypto by libertarians and MAGA types, nor am I talking about embarrassing episodes like the crypto commercial with Matt Damon in the lead role. What strikes me instead is the extent to which crypto has gained a reputation for respectability through affiliation with institutions and individuals with high status.

For example, suppose you use a digital payment app like Venmo, which has demonstrated the benefits of real-time transactions (you can even use it to buy products at sidewalk fruit stalls). Well, if you go to Venmo’s website, you will receive an invitation to use the app to “start your cryptocurrency journey”; in the app itself, a “Crypto” tab appears right after “Home” and “Cards”. Sure, then crypto must be a serious business.

Suppose you want to learn about crypto. Many reputable universities offer programs, usually online subscription courses.

Suppose you want to know who advises major players in the crypto industry. Well, the board of Digital Currency Group, one of the largest players, includes a co-chair of the Brookings Institution’s board of trustees and can boast a former finance secretary as an adviser.

Given this aura of mainstream approval, how many people would be willing to believe that the digital emperor did not have clothes? More to the point, how many would be willing to accept a regulatory work?

Why did these ordinary institutions and people give cover to what, as Brainard made clear, was a very dubious industry? I doubt that there was any corruption (as opposed to what is going on in the crypto sector itself, which has been overrun by scammers). In fact, I know from personal experience that one can deduct a paycheck by doing what seems like honest work and only later find out that the people who signed the check were scammers.

Nevertheless, financial rewards were and are clearly involved. I do not know how much money Venmo makes from people buying and selling crypto on its platform, but it certainly does not offer the service of pure good will. If you want to take, for example, MIT’s online blockchain course, it will cost you $ 3,500.

As I see it, crypto evolved into a kind of postmodern pyramid scheme. The industry lured investors in with a combination of technobabble and libertarian derp; it used some of that cash flow to buy the illusion of respectability, which led to even more investors. And for a while, even though the risk multiplied, it actually became too great to regulate.

One way to read Brainard’s speech is that she said that cryptocurrency offers an opportunity – a moment where effective regulation has become politically possible. And she encourages us to take advantage of this moment, before crypto ceases to be a pure casino and becomes a threat to financial stability.

That is very good advice. I hope the Fed and other decision makers take it.