Did Sam Bankman-Fried Destroy The Crypto Industry?

MuneCat: Did Sam Bankman-Fried accidentally KILL…Crypto?

Let’s find out.

Right now, SBF is wearing a GPS ankle tag at his parents’ Palo Alto residence as prosecutors build a historic case against him. Yes, he has literally moved back into his mum and dad’s house, and is effectively grounded. Like a true crypto bro.

He’s charged with eight federal counts of fraud and conspiracy for a massive scam that relied on illegally using customer funds from his crypto exchange to prop up their sister trading firm, Alameda Research. It’s a clear violation of US law that could put him in prison for life. 

But while we have to wait for his trial in October to find out SBF’s ultimate fate…the fate of crypto itself might be unfolding right in front of us. Could the very public collapse of SBF’s fraud kill momentum and mainstream acceptance for the crypto industry?

Just look at this. Exactly a year ago Crypto exchanges spent millions on flashy high-profile TV commercials that aired during the 2022 Superbowl: 

[Ad montage from last crypto piece]

And a year later, here’s a new ad from the crypto exchange Coinbase:

[Coinbase ad]

“Ignore the noise. Keep building.” Seems a little…I don’t know… defensive? … delusional?

The crypto industry would love for you to “ignore the noise” around SBF and believe that he’s just a bad apple… an Enron for crypto. But in reality, his fraud is emblematic of the shaky foundations of the entire industry.

So we’re going to break down exactly how SBF pulled off his scam. Then we’ll look at how the government can prevent the next big crypto fraud before it happens. And finally we’ll answer the question, did SBF kill crypto?

This is The Class Room from More Perfect Union. And today, we’re talking about Sam Bankman-Fried.

FTX Backstory

The drama started when crypto news site Coindesk got hold of a leaked balance sheet from Alameda Research, which revealed that most of the hedge fund’s “assets” were held in FTT tokens — essentially money SBF had printed himself, and freely ‘loaned’ to Alameda, on a sort of bottomless money pit basis.

Dumb & Dumber Clip: “Here you go, here you go…there you go.”

After the Coindesk expose, rival crypto exchange Binance’s CEO, CZ, tweeted that they were liquidating all FTT tokens on the exchange, after having lost confidence in their value. 

And if this was an underhanded attack by CZ to sink his rival via tweet, it worked. 

As he watched his crypto empire come crashing down, SBF attempted to subdue the panic, of course, via tweet.

CZ then attempted to play the “good crypto guy” by announcing that he was going to buy out FTX. Almost immediately after, he announced that he’d taken one look at FTX’s books and was pulling out of the deal.

A day later, SBF handed over the CEO position of FTX to John J Ray III, Enron’s bankruptcy lawyer. He took one look at FTX’s balance sheets and—. 

The Office Clip: “I … Declare…Bankruptcy.”

He has now begun his attempts to claw back any funds investors and depositors have lost. Oh, and he revealed that FTX’s auditor’s registered address is in… the metaverse.

In the meantime, SBF transitioned from money laundering to reputation laundering — taking on every interview offered to try and vaguely weave a narrative that he was simply too stupid to realize what was going on.

[Clip of Sam Bankman-Fried on New York Times Interview]: “I wasn’t running Alameda. I didn’t know exactly what was going on.”

Dumb & Dumber Clip 2: “What is this? Where’s all the money?” “That’s as good as money sir. Those are IOU’s.”

SBF was on Twitter Spaces claiming that the $8 billion hole in their balance sheet was the result of a ‘poorly labelled account’, while John J Ray III was in the background, rustling up an entirely different version of events.

So where is all that money?

Well let’s break down the charges: wire fraud, money laundering, and violating campaign finance laws.

Charge – Wire Fraud

The DOJ has charged SBF with knowingly committing wire fraud on both FTX’s customers and lenders. The tangled web of lies laced with billions of dollars has been described by John J Ray III as “unprecedented.”

SBF had what was essentially full control over operations at both the FTX exchange and their sister trading firm, Alameda Research, despite stating publicly that they were 2 “entirely separate entities.”

In the traditional banking system, FTX would be a commercial bank, making money via interest rates on loans and transaction fees, and Alameda Research, which was trading the crypto equivalent of securities, would be a trading desk — and these 2 lines of business would be kept entirely separate. But FTX blurred those lines.

Charge – Money Laundering

So how could Sam Bankman-Fried convince Blackrock, Forbes, Sequoia Capital and Katy-flipping-Perry that he was worth $22 to $26 billion dollars, and FTX was worth $8 billion – when he’d gambled away all of his customer’s funds on bad investments?

SBF’s personal wealth was made up of half-ownership of FTX, which had been consistently “bailing out” their sister hedge fund, Alameda, from day one. They used the volatile crypto market as a playground to toy with other people’s money, investing into multiple failed web3 projects and other tokens which also turned out to be worthless. And how did FTX consistently have the ‘funds’ to bail out Alameda’s gambling problem? Well, it was their neverending crypto money printer, hard-coded into Alameda’s account on the FTX exchange, by one of their employees.

Around 40% of Alameda’s balance sheet was made up of FTT tokens printed from the endless FTT token money tree.

FTX had printed far more FTT tokens than were actually in demand on the crypto market, and had assigned the value of all FTT tokens to be equal to the value of the tokens actually being traded by customers. And what’s more, SBF was ordering his close friend and CEO of Alameda, Caroline Ellison, who would often work in the same room as him, to artificially inflate the price of the FTT tokens on the market by passing them in between wallets to make it seem like there was demand where there was none.

This meant there was a bottomless pit of hugely overvalued FTT tokens being wired directly into Alameda Research’s reserves. They then used this grossly inflated valuation to secure further investments, including $95 million from a Canadian pension fund, and this paid for lavish penthouse properties in the Bahamas, and their logo plastered across a stadium, a Super Bowl ad with Larry David in it, and in the space of 9 months they spent $7 million on food and $15.4 million on luxury hotels and accommodation. Very altruistic.

[The Office Clip]: “This scary black bar is what you spend on things that  no one ever, ever needs. Is this powerpoint?”

Oh, and it gets worse. Alameda Research had been given a ‘back door’ to FTX’s exchange, allowing them to take limitless, interest-free ‘loans.’

And were those loans coming from an entirely separate pot to customer deposits? No. $10 billion of customer assets were wired to Alameda, gambled, and lost.

Ironically, crypto bro’s hate ‘centralization’ and fear traditional banks that “print money”… and “control the money supply” but that was exactly what was happening here. 

In fact, it was way worse because FTX was an entirely unregulated shadow banking system. 

They were exploiting the trust of millions of customers — many of them ordinary, working people struggling to pay rent after losing investments of thousands of dollars. 

Some people even lost their paychecks that had been paid in crypto, by companies who had recommended the use of FTX because at the time, the exchange was highly endorsed and seemed… trustworthy.

In the crypto world, if you own a particularly large percentage of the tokens you yourself have printed, it allows you to endlessly manipulate your token’s market cap, permitting you to appear as if you’re worth $22 billion on a Google Sheet you’ve sent to Forbes, who will then happily print that you’re worth that amount for all of your investors and customers to see.

The problem with owning a particularly large percentage of your own printed tokens is, you’ll never be able to sell a large portion of them for actual money without tanking the price of your token whilst doing so.

This is what CZ foresaw when he took the opportunity to sink his rival once and for all. Questions are being asked as to whether his exchange, Binance, also one of the largest exchanges with millions of customers holding their savings on account, is secretly in the exact same position, and on the verge of a similar collapse.

SBF’s backstory

But how the hell was one awkward-looking 29-year-old able to pull off the biggest financial fraud of our lifetimes?

SBF was a maths nerd who studied physics at MIT. After graduating, his skills with numbers landed him a job at the prestigious Jane Street Capital in New York, where he honed his skills making money on arbitrage through the stock exchange.

When crypto first bubbled in 2017, SBF noticed an arbitrage opportunity with the price of Bitcoin. In Japan it was at a 10% premium over the price in the US. Due to restrictions in moving money out of Japan which had been funneled through crypto exchanges, no one else had managed to take advantage of it but SBF, somehow, found a way. He quickly set up Alameda Research, hired people to help him, and made $20 million within a few weeks before the price gap disappeared.

Using the profits, SBF decided to set up his own exchange, FTX, in Hong Kong, attracted to the country because of its lax financial regulations — but he was unable to tap into the US market until he set up a more restricted version of it, FTX.us, headquartered in the Bahamas. He was attracted there by the Bahamian government’s desire to be the global leader in ‘progressive regulation’ on crypto businesses — and also, because 80% of their revenue was coming from a financial instrument which allows you to bet on the future prices of crypto, something illegal in the states due to its very risky nature. 

On the outside, SBF had every intention of appearing as if he were playing strictly by the rule book, and making plenty of money doing so. He even painted an image of himself as the JP Morgan of crypto, bailing out multiple failed exchanges. SBF saw himself as surfing atop the next ‘wave’ of crypto — and bailing out these exchanges was an attempt to make it look like FTX, and the crypto ecosystem as a whole, still had actual dollars in it, and was not falling apart like a clown car, built up of multiple hollow shells full of worthless magic beans.

[Simpsons Clip]: “Homie, You look good!” “all for you baby.”

As a result, FTX appeared to be a safe investment. He secured funding from some of the largest VC firms, all wanting to jump in on this crypto bubble in the most risk-averse way possible.

FTX hosted the Crypto Bahamas Conference, a massive tropical gala for the industry which high profile figures attended such as Tony Blair, Bill Clinton, Michael Lewis, Katy Perry, and Orlando Bloom. Sequoia Capital, BlackRock, Singapore’s Temasek and Ontario Teachers’ Pension Plan Board all jumped aboard. Multi-billion VC firms apparently see no red flags anymore when a company’s fundraising event is called a “meme round,” and intentionally raises a hilarious $420,690,000 from 69 investors.

But secretly, SBF was simultaneously using every opportunity he had to bend, and sometimes break, one rulebook, in order to change another rulebook in his own favour.

Charge: Violating Campaign Finance Laws

Much like he jumped on the early Bitcoin bubble in Japan, he saw a similar opportunity in the crypto marketplace as a whole. Exploit the uncertainty as quickly as you can, to make as much money as you can, before you get the book thrown at you. With bitcoin arbitrage, the uncertainty was the price, and with FTX, the uncertainty was regulation.

Crypto has been enjoying this regulatory grey area for a while but SBF was aware it wouldn’t last forever, so he needed to get his foot in as many doors as possible before his shell of a company imploded, and people found out what was really going on.

No one in crypto, or in regulatory bodies like the CFTC and the SEC, is sure if all, or none, or just some digital assets should be classed as commodities, or securities, or both… or neither.

Securities are tradable investments in things like a company or a fund. Stocks and bonds are securities. The SEC regulates securities heavily.

This means that if FTT tokens were considered securities, many of FTX’s lines of revenue could be severely constrained.

Commodities are valuable raw materials like gold, or corn. The CFTC doesn’t actually regulate commodities directly. On top of that, the CFTC has less funding than the SEC, and is generally seen as a weak regulator.

If FTT was considered a commodity, they would have been under much more lenient legislation. 

SBF desperately wanted this to happen so he cozied up to CFTC leadership, even getting CFTC commissioner Caroline Pham to pose for a photo with him. 

In addition to this, SBF became the third largest donor to the Democratic Party in 2022, giving them almost $40 million during the midterm elections. He also donated to Republican candidates via dark money, again in an attempt to launder his reputation, claiming he was donating to Republicans in a way which allowed him to fly under the radar of ‘liberal’ journalists.

One of FTX’s top executives, Ryan Salame, started up a PAC which spent $1.2 million attempting to push Republican John Boozman into the primary. Boozman also happens to be a representative of the agriculture committee that oversees the CFTC. SBF also donated $20,000 to Democrat Debbie Stabenow, who is also a representative on the same committee. They both subsequently introduced a bill supporting SBF’s cause to have digital assets be regulated as commodities. SBF’s plan was beginning to work.

He flew to Washington from his Bahamian penthouse regularly, revelling in the political attention he received, at one point lecturing congress about how the crypto banking system was nothing like the one that caused the 2008 crash. But now, we’ve learnt that it’s not that different at all. In fact, I already made a video with More Perfect Union last year about the similarities between crypto and the 2008 financial crisis you can watch right here.

In much the same way as the 2008 crash, FTX socialised risk and privatised profit. And, in much the same way, it was quite clear, with the political donations, and appearing as the good guy bailing out all the other failing crypto exchanges, that SBF wanted FTX to become ‘too big to fail.’

It also gave him the appearance of someone who was embracing regulation—

[Clip of Sam Bankman-Fried at CFTC hearing]: “Do I think it’s a win-win to have Federal oversight?”

Munecat: —telling the CFTC roundtable that the need to protect consumers in the crypto ecosystem was what inspired him to start FTX in the first place.

[Clip of Sam Bankman-Fried at CFTC hearing]: “Does it successfully balance protecting customers with protecting systemic risk? That’s actually why we started FTX in the first place, because some of the existing models in the digital asset ecosystem did not do a great job of this.”

Unfortunately for SBF, the book was thrown before he had secured all the connections and swayed enough of the potential votes in congress, and the DOJ charged SBF with conspiracy to commit commodities fraud and securities fraud.

Scooby Doo Clip: “I would have gotten away with it if it wasn’t for you meddling kids.”

And the question of whether digital assets are securities, commodities, or something else remains unanswered.

Thanks to SBF’s, in his words, “fuck ups”, his proposed CFTC bill could be dead… at least for now.

Although Stabenow is still arguing for the bill even after the collapse, declaring it would have prevented it from happening but that is a bit of a reach. 

There are still dozens of lawyers and lobbyists with vested interests in crypto trying to establish this new crypto rulebook in their own favour. 

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But while some in DC are pushing for new regulations, there’s actually a simpler solution.

We talked to David Dayen, executive director of The American Prospect to explain:

David Dayen: A familiar kind of, uh, way of thinking in Congress is that, you know, something went wrong and we have to do something, and this over here is something, so let’s do that. Uh, when the reality is that we already have laws in place to prosecute fraud, the, the, the problem isn’t a lack of laws. It’s a lack of will to prosecute. 

We can use the SEC, the Department of Justice, to, you know, root out the bad, the bad players in, in crypto. And if there are actually good players, then those, those firms can go on. But, uh, my strong suspicion is, is that if you, if you actually use those law enforcement tools and, and, and rooted out fraud, that you wouldn’t have much of a crypto system left.

Munecat Pickup: Hold on…is he saying that crypto could die?

David Dayen: I think crypto will always be there in the sense that baseball cards are still traded, right? Or, or fine art. As long as there are people who want to get rich, there’s probably going to be some crypto scammers out there.

 I think what we, what we’re not going to see anymore is this broad, wide take up of crypto that we saw over the last year. I think it’s gonna be this dark corner of, of the financial system, much like the over-the-counter penny stock market is.

Munecat Pickup: Well there you have it. SBF may not have completely killed crypto but he certainly helped destroy its reputation. It’s going to be hard to watch a new Matt Damon ad telling you that “Fortune Favors The Brave” without worrying about the risk associated with that… “bravery.”.

David Dayen: And if you’re, you know, someone that doesn’t have any kind of appetite for that kind of risk, you’re gonna stay far, far away from it.  And, uh, if, if there is indeed, uh, people using and preying upon the gullibility of investors, retail investors, they should know that that law enforcement can, has all the tools they need to come for them. 

Munecat: There isn’t much ‘real’ money entering the crypto ecosystem right now, with Bitcoin having just hit its lowest valuation in 2 years. So is there any reason to assume other exchanges are in any better shape than FTX was? There is certainly evidence that Binance has a lot to hide. Coinbase might be the one that implodes, if the SEC actually follows through on the rhetoric they’ve been throwing around recently.

There may well be another bubble however, if crypto can think of a new marketing ploy. Crypto may be trying to skate through to what they hope is a Republican controlled government in 2024. After all, presidential contender Donald Trump is now hawking NFT’s of…himself…and Senator Ted Cruz is trying to get Congress to let him use Crypto to pay for snacks in the Capitol Hill vending machines. Keep up the good work, Ted.

In the meantime, crypto bros are currently spending more money on lobbying politicians than the entire defense industry and that’s saying something. Our leaders need to keep their eye on the ball here and stay alert for bad faith legislation.

The solution isn’t creating new laws. The solution is our leaders having the courage to stand up to crypto and enforce the laws that we have already. 

But we want to hear what you think of all this. What are your thoughts on Sam Bankman-Fried? Have you ever been crypto-curious? Do you have that one friend who still has all of his money in dogecoin? What do you think our politicians should do about it? Sound off in our comments and tell us what other stories you want to see us cover. Thank you for watching this video. Don’t forget to like and subscribe to support more progressive content.