What happens to Bitcoin if Binance goes down?

After the spectacular collapse of the US cryptocurrency exchange FTX, investor confidence in the cryptocurrency ecosystem is very low. Therefore, the ongoing media reports and social media rumors of higher than usual outflows from the world’s largest crypto exchange Binance are raising alarm bells among crypto investors and the wider investment community.

Binance’s controversial proof of reserves report, meant to reassure investors, has appeared to further fuel speculation about the company’s finances. The report’s release has led to widespread online speculation that Binance is not 100% secured, raising significant concerns over the exchange’s solvency.

Bitcoin, which experienced a meteoric rise of around 73,000% from 2012 to December 2022, is once again facing the negative consequences of bad actors in the cryptocurrency ecosystem, albeit completely separate and independent from Bitcoin itself. If Binance were to go under, what would happen to Bitcoin?

Controversy surrounding Binance’s audit

Led by Changpeng Zhao, commonly known as “CZ”, the crypto exchange hired Mazars, an auditing firm used by former US President Donald Trump, to develop an audit report. The focus was on the exchange’s assets, held in custody for the users. Binance has claimed on several occasions, including on December 13th, that it has more than enough funds to cover all customer funds.

Still, Mazar’s report was not well received by the public, with many on Twitter branding it fake and claiming auditors believe Binance is only 97% secure.

John Reed Stark, former head of internet enforcement at the US Securities and Exchange Commission (SEC), said:

“Binance’s ‘proof of reserve’ report does not address the effectiveness of internal financial controls, does not express an opinion or assurance conclusion, and does not vouch for the numbers. I worked in SEC Enforcement for 18+ years. This is how I define a red flag.

Stark also criticized Binance for hiring Mazars to prepare the proof of reserves report instead of using the services of one of the Big Four auditing firms.

According to blockchain intelligence platform Nansen, fears over Binance’s bailout triggered massive withdrawals on the exchange, with investors pulling out more than $2 billion in just two days. The figure marks the highest net outflow at Binance since FTX’s implosion.

Binance then temporarily stopped withdrawals of the USDC stablecoin. However, the exchange said it halted withdrawals while performing “a token swap” – exchanging one cryptocurrency for another without using fiat currency.

Still, it could be that significant withdrawals indicate that investors are looking to move their assets to another platform or take them into self-storage, after the proof of reserves report, which did not exactly reassure market participants as intended. In addition, Reuters recently reported that the exchange and its founder, CZ, both face a potential lawsuit from the US Department of Justice (DoJ) for potential money laundering and criminal sanctions violations.

Other crypto exchanges are also witnessing significant outflows since the fall of FTX, one of the largest crypto exchanges at the time. As the FTX situation continues to unfold – in humiliating fashion – the exchange’s founder and former CEO Sam Bankman-Fried was arrested in the Bahamas and charged with defrauding investors by US authorities.

What happens to Bitcoin if Binance becomes insolvent?

The outlook for risk assets, meanwhile, has improved following the latest consumer price index (CPI) printout, which confirmed that US inflation is easing, raising hopes for a more dovish monetary policy approach from the Federal Reserve.

However, that may not be particularly true for Bitcoin and other digital assets, as crypto-specific news continues to dampen investor confidence. Shaking confidence and potential problems at Binance could seriously damage the crypto ecosystem.

Bitcoin fell over 20% in early November on the FTX collapse with around $250 million wiped off the total crypto market cap in response to the FTX fallout. Many fear that the fallout following a potential collapse of Binance could be much worse, bringing serious and long-term consequences for the entire ecosystem centered around Bitcoin.

First, the general risk sentiment surrounding Bitcoin and crypto is much worse than it was in the days before the FTX collapse. Second, while FTX was mostly focused on the US, Binance is a true global crypto exchange. Any major problems at Binance could create a snowball effect and set off another round of extreme withdrawals, which could eventually lead to more bankruptcies.

This week, investment titan VanEck predicted that the Bitcoin price could remain under pressure in early 2023 as several major mining companies are on the brink of collapse.

VanEck said Bitcoin could plunge to as low as $10,000 in the first quarter of 2023, before eventually recovering to $30,000 later in the year. The sale of Q123 would “mark the low point of the crypto winter,” according to Matthew Sigel, head of digital asset research at VanEck.

However, the recovery could only happen without negative crypto-specific news, such as FTX or Binance.

The importance of self-storage is growing

Earlier this year, the fall of crypto lender Celsius Network wiped out over $4 billion in user funds. Correspondingly, more than 1 billion dollars in customer funds are missing after FTX’s fall. Although these collapses have no direct links to Bitcoin, they highlight the important problems associated with centralization, exactly what the Bitcoin network initially sought to solve.

Therefore, one of the main features of the FTX drama is the growing need for self-storage of digital assets. As seen in several examples this year, centralized exchanges offer a convenient way for users to store digital assets. However, they have no guarantee that users will be able to recover these funds if multiple possibilities arise – from hacks to bad actors with inside access.

Earlier this week, Ray Youssef, CEO of crypto exchange Paxful, urged users to switch to self-storage and move their crypto assets to external hardware wallets. He wrote in a tweet:

“Will be sending out an email every week strongly advising our staff to never keep savings on any exchanges including @paxful. This is the way! Always keep your savings!”

Similarly, Congressman Warren Davidson, the US representative from Ohio, discussed the importance of self-detention during a Congressional hearing on the collapse of FTX.

Conclusion

Despite assurances from Binance, which insists it can still attract deposits while withdrawals stabilize, the crypto community is increasingly nervous about the financial state of the world’s largest digital asset exchange.

A Binance collapse, while seemingly unlikely, is poised to have a much stronger, negative impact on the entire crypto community, given the company’s global footprint and importance, should it happen. Potential problems at Binance, coming just over a month after the FTX collapse, could trigger another big selloff in Bitcoin. While this would be an obvious disaster for many, long-term Bitcoin investors will likely see it as an attractive buying opportunity.