The worst year for the cryptocurrency industry in 2022, the culprit turns out to be a run on the bank? Has the regulatory direction gone wrong?

A study has found that the recent industry disasters in the cryptocurrency lending platforms were mainly caused by large investors redeeming their investments. Platforms such as Celsius and BlockFi experienced massive withdrawals from large investors and institutions, leading to the bankruptcy of several platforms. The research points out that many cryptocurrency lending platforms currently lack adequate planning to address potential risks of large-scale withdrawals, emphasizing the urgency for platforms to develop detailed policies.

Study Shows: Large Investors Withdraw Funds Fastest and in Largest Volume

Bloomberg reported on the research by the Chicago Fed on the operation of cryptocurrencies in 2022. In early May, Celsius and Voyager were affected by the collapse of the TerraUSD stablecoin, leading to outflows of 20% and 14% of customer funds within 11 days, respectively.

Mid-May, the report focused on the bankruptcy of 3AC, a cryptocurrency hedge fund, which was seen as a primary cause of the contagious collapse in 2022. 3AC provided lending services to multiple crypto institutions but ultimately ended in investment failure, resulting in the chain collapse of Celsius and Voyager.

Despite subsequent relief from FTX credit lines, BlockFi still went bankrupt due to FTX's collapse. FTX experienced a massive outflow of over 4 trillion USD from users within five days, with almost all funds withdrawn in just two days.

The researchers made three key observations based on the data:

• These crypto lending platforms lack the long-term trust associated with traditional banks and have not been tested under market pressure, making them unable to withstand a run.
• Accounts with investments over $500,000 withdrew funds at the fastest rate and in higher proportions.
• Since crypto banking operations are conducted online, users can swiftly withdraw funds through apps or websites, causing runs on crypto banks to be faster than traditional banks.

The author notes:

Is the U.S. Regulatory Direction Misguided?

Bloomberg also published a lengthy analysis report on the runs and bankruptcies of various traditional banks and crypto banks like Celsius, Voyager, and FTX, discussing and proposing effective security measures to prevent economic disruption caused by panic runs and collapses of crypto banks, including:

• Applying banking laws to crypto banks, protecting them from runs through deposit insurance and regulation.
• Reducing or avoiding connections between the traditional financial system and crypto companies to shield the real economy from adverse effects of crypto banks.

The author, Matt Levine, suggests that U.S. regulators seem to lean towards option 2. He also references a paper by Gorton and Jeffery Zhang, which points out that the U.S.'s focus on cryptocurrency regulation mainly revolves around securities or commodity regulations, while the fundamental issue behind the massive collapses in 2022 was the liquidity problem in the crypto banking industry.

Gorton believes that regulating the crypto industry from a securities or banking perspective makes a significant difference. Securities regulation focuses on "full disclosure of information and risks to investors" for informed investment decisions, while banking regulation emphasizes "asset reserve status, liquidity, and capital ratios" of banks. Therefore, bank depositors may not need to worry too much about what their bank is doing.