It’s impossible to overstate the extent to which the collapse of crypto exchange FTX has shaken not just the formalized crypto industry, but the idea of crypto itself. When the FTX news broke, it wasn’t just a single company taking a hit. Bitcoin fell to a two-year low when news broke that a potential rescue fell through; Ether was pummeled as well (although both have since recovered somewhat). This is not how it was all supposed to work. One of blockchain’s key promises, and supposed advantages over both the traditional internet and traditional fiat currency, is its decentralized nature. The idea — in theory — is that by storing financial records and personal data in a public, immutable ledger, users will be protected from fallible third parties like banks (or exchanges), in a “trustless” system of perfect confidence. As one might imagine, the second-largest crypto platform halting withdrawals and going under because its balance sheets were completely fraudulent puts a little bit of a dent in this theory. Some of the most vocal proponents of decentralized finance, or “DeFi” — financial products that exist entirely on the blockchain — have been unfazed, and argue that FTX was insufficiently decentralized , and therefore simply replicated the problems of traditional finance. Michael Anderson, co-founder of Framework Ventures, insisted to TechCrunch on Friday that “DeFi is the only way that we can continue to do these types of financial services operations in the crypto ecosystem,” and the FTX collapse “gives us hope and strengthens our resolve.” It’s far from clear, however, that the blockchain protocol itself prevents all the risks of disastrous FTX-style events in the way some DeFi proponents claim. One major arena where this is already painfully obvious: Security, as hundreds of millions of dollars in crypto were stolen from FTX in a hack in the hours following its bankruptcy filing. “It’s strange to use the FTX debacle as an opportunity to advertise the merits of DeFi when $3 billion has already been lost to protocol hacks in 2022,” said Patrick Blumenthal, a former venture capitalist at OnDeck and host of the “Big Ideas” podcast . “Billions are lost annually from ‘trustless’ protocols being exploited.” There’s also the fact that once any system reaches a certain scale, centralization is inevitable for rule-setting and convenience. Earlier this year a trio of researchers wrote in Wired about the extent to which maximalist proponents of decentralization tend to miss the finer points of how, and why, decentralization can be beneficial in the first place. I interviewed one of them, associate political economist and social technologist at Microsoft Divya Siddarth, in May, just after the other major crypto collapse of 2022. “An institution is a semi-stable entity with shared norms and goals and processes, which means that you can't get away from building institutions even if you're trying not to,” she told me then. “Crypto has tons of institutions… Ethereum itself is an institution, and all these L2 chains are institutions, and the way they interact with each other is inherently institutional.” That idea sits uneasily with the world of crypto and especially Web3, which is born of the revolutionary promise, largely in the shadow of the 2008 financial crisis, that pseudonymous Bitcoin creator Satoshi Nakomoto’s cryptographic invention could “solve for” the problems of avarice and fraud in Byzantine and opaque institutions like Lehman Brothers or Bear Stearns. The nascent industry is now learning that try as it might to scrub it out, human nature has a way of stubbornly intervening in all public affairs, technological or otherwise. FTX collapsed not because of a bad contract or technical glitch, but because Bankman-Fried and his associates made the decision to base its reserves on a self-issued token that was worth nothing. When a rival crypto mogul revealed this, the crypto community collectively and accurately decided that FTX itself was worth nothing, and Bankman-Fried’s massive fortune disappeared overnight. This is less different from what happened to Bear Stearns than the crypto world would like to believe.
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