HomeCryptoRating agencies, not regulators, can rebuild trust in cryptocurrencies after FTX
Rating agencies, not regulators, can rebuild trust in cryptocurrencies after FTX
December 23, 2022
The last year has been an eventful one for the crypto space. The collapse of the Terra ecosystem and its algorithmic stablecoin TerraUSD (UST) saw $50 billion wiped off the market in a flash. And more recently, FTX, an exchange that many thought was “too big to fail,” collapsed. There has been no shortage of drama in the space, which has seen named companies and projects disappear along with investor funds.
Given this year’s events, it’s inevitable that serious government attention is coming for the space, in all major jurisdictions — and on a time scale ranging from a few months to a few years at most, not decades. This was pretty clear to most industry watchers even before the recent FTX debacle, and now it’s become blatantly obvious.
There’s a lot of debate in the space as to whether this is a good thing. The purpose of financial regulation is to protect end users from being ripped off and misled by financial operators of various kinds and to promote the overall health of the economy. And it is clear that current financial regulations vary widely in their effectiveness in these areas. Furthermore, it is not clear what kind of regulation could be put in place that would truly benefit the industry and its customers.
Perhaps instead of regulation, we should focus our efforts elsewhere to ensure that cryptocurrencies put the house in order. Outlined below are three key benefits of crypto rating agencies — community-led bodies that rate projects — and how they might solve problems with cryptocurrencies.
Rating agencies can move at the pace of cryptocurrencies
The crypto space is ever-changing and fast-paced. Nearly 2,000 new cryptocurrencies were created between November 2021 and November 2022, an increase of nearly 25% in the total number of currencies. New tokens and projects appear constantly.
While some of the projects that appear are innovative and push the boundaries of technology, there can be many dangers for participants to navigate. The cypherpunk ethos behind early cryptographic innovations holds that space is anonymous. However, when you mix this anonymity with a large number of relatively naïve consumers, it creates a beautiful environment for fraud, scams, and pyramid schemes.
Related: What Paul Krugman gets wrong about cryptocurrencies
This could be a problem for regulators, as implementing the policy takes a long time. For example, it took more than two years to draft and approve the framework of the cryptocurrency markets of the European Union. By the time it takes to review and implement protective measures, the space will already have transitioned to new dangers.
Crypto rating agencies would be the antithesis of this. They would be at the forefront of the industry. They could provide consumers with a relatively unbiased and open-minded analysis of the algorithms, structures, communities, risks and benefits underpinning various products, at a rapid rate commensurate with the development of these new products.
Terra was a great example of how this would work. Some in space knew that Earth had an unhealthy tokenomics, which ultimately led to its downfall. Those without experience in quantitative finance and tokenomics would not have the same understanding. Furthermore, the Regulators weren’t even aware of Terra until it collapsed; therefore, they could not protect investors from it. By having knowledgeable and recognized bodies scrutinizing cryptocurrencies and businesses in the space, investors can quickly be apprised of the issues behind projects and make informed decisions about whether to take the risk.
Bad actors can be stopped before they cause any problems
While regulations are put in place to deter bad actors and keep people safe, they don’t always work. And this isn’t just unique to cryptocurrencies. There will always be law-breaking projects in the space that investors need to avoid.
This is evidently clear when we look at FTX. The exchange has promised to hold customer funds in a fully secured reserve. However, when FTX’s sister company, Alameda Research, publicly disclosed its balance sheet, the two companies were shown to have used investor funds illegally. This caused FTX users to attempt to withdraw their money. However, since FTX did not fully refund its reservations, it was unable to refund users. This is a fraudulent activity and current regulations should have dissuaded FTX from doing this, but they have not.
The implementation of rating agencies could have avoided this catastrophe. Nine months before the fall of FTX, research was conducted on the platform and related links between it and Alameda Research were discovered. However, this information was not widely disseminated and never reached the majority of FTX users. Had rating agencies been established, this information could have been made more publicly available, allowing users to deposit their funds in safer exchanges.
Rating agencies would act as a guard against illegal activities. They would be highly valuable and reliable sources of in-depth information on the quality of different blockchain networks, presented in varying levels of accessibility and detail. They would also serve to reduce the crass generalization of cryptocurrencies present in the media, as well as the wealth of disinformation available online. Rating agencies could provide investors with the necessary information they need to avoid bad players.
Rating agencies would be created by and for cryptocurrencies
The financial market is currently set up to favor institutions and the wealthy. There are laws in the United States that prohibit ordinary citizens who do not meet a wealth or income threshold from being “accredited investors”. This means that to access the stock market an ordinary person must go through a third party, such as a bank or brokerage firm, which typically charges fees for access. Retail investors have less freedom and access to the market and their profits are often passed on to other parties.
It is debatable why the market is set up this way. If the purpose is to protect people from being sucked into losing deals, why are these same people allowed to gamble their life savings in casinos or buy state-issued lottery tickets with clearly losing odds? It’s almost as if the government’s goal is to ban people with no money from any form of gambling where they would have the opportunity to exercise intuition and judgment and actually stand odds of winning.
Related: The Federal Reserve’s pursuit of a “reverse wealth effect” is undermining cryptocurrencies
Without careful consideration, this current setup could be replicated in cryptography. Traditional financial regulators can impose policies present in the existing financial market, such as the aforementioned income threshold to become an “accredited investor”. These arbitrary policies can be implemented under the guise of protecting people, but could instead simply lock retail investors out of the crypto space.
Cryptocurrency rating agencies, on the other hand, would be set up by crypto-natives with retail investors in mind. The goal of rating agencies is to provide the best possible advice to investors, and to do so requires a deep understanding of the space. Furthermore, rating agencies are not enforcers: they are simply guides. Participants would still have the freedoms they currently have, just with much better knowledge.
Regulators have turned to cryptocurrencies and it is clear that new policies are coming very soon. However, they will likely be outdated and ineffective upon arrival. If the crypto space is to improve, it needs to take action, implementing rating agencies that can ensure bad players are flagged and removed from the community.
Ben Goertzel is the CEO and founder of SingularityNET and president of the Artificial General Intelligence Society. He has worked as a research scientist at numerous organizations, most notably as chief scientist at Hanson Robotics, where he co-developed Sophia. He previously served as director of research at the Machine Intelligence Research Institute, as chief scientist and president of the AI software company Novamente LLC, and as president of the OpenCog Foundation. He is a graduate of Temple University with a PhD in mathematics.
This article is for general informational purposes only and is not intended to be and should not be relied upon as investment or legal advice. The views, thoughts and opinions expressed herein are those of the author alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.