The Financialization of Crypto : Lessons from FTX and the Crypto Winter of 2022-2023

Cryptocurrencies, blockchain and decentralized finance were designed to address weaknesses in traditional finance, such as the systemic risk and government profligacy at the heart of many financial crises. Yet, failures of prominent crypto firms highlight the flaws in this argument. Crypto is neither special nor immune and has come to feature all the classic problems of traditional finance. As the crypto ecosystem has evolved, the market failures and externalities of traditional finance have emerged — a process we term the “financialization” of crypto. These include conflict of interests, information asymmetries, centralization and interconnections, large numbers of poorly informed, over-enthusiastic market participants, plus agency, operational and financial risks. We argue that the regulation of crypto needs to learn from the centuries of experience of traditional finance: in order to function properly, crypto requires appropriate regulation and supervision to address market failures and externalities, and to support transparency and efficiency. While it appears the “Crypto Winter” of 2022-2023 has prompted the world’s financial regulators to act, policymakers need to overcome the difficulties posed by decentralization as the underlying paradigm of the crypto industry, which results in a multi-jurisdictional environment of crypto markets, participants, infrastructure and intermediaries. We argue that regulatory systems can (and must) now be instituted to ensure the proper functioning of crypto and its interconnections with traditional finance