The epic collapse of FTX and founder Sam Bankman-Fried’s investment empire has left Washington officials scratching their heads: Why didn’t U.S. regulators stop this mess before it took down the crypto market?
There wasn’t much they could do, according to more than a half-dozen interviews with regulators, lawmakers, lawyers and other compliance experts. The Bahamas-based exchange’s offshore location and sprawling corporate structure made it a difficult target for the federal agencies tasked with protecting investors from fraud and manipulation.
“Blaming them?” said John Reed Stark, a crypto skeptic who once led the Securities and Exchange Commission’s internet enforcement office. “That’s like Oswald blaming the Secret Service because he killed Kennedy.”
The oversight gaps that allowed for the disastrous failure of FTX — which until just weeks ago was one of the world’s most respected crypto businesses before it was exposed as a house of cards — underscore the deep risks of trading on unregulated digital currency exchanges. It has prompted policymakers in Congress and at federal agencies to consider new laws and more aggressive penalties to head off a future meltdown. Crypto has flourished in a regulatory gray area, where even activities that resemble traditional financial products have escaped oversight.
A big question is whether regulators have sufficient authority or need more power. Two key financial market agencies — the SEC and the Commodity Futures Trading Commission — are facing scrutiny about why they didn’t do more to shield consumers.
Part of what we’re seeing is a sign that the financial regulatory system is not able to evolve as quickly as it needs to, to address emerging threats,” said Kate Judge, a professor at Columbia Law School.
FTX’s bankruptcy filings include hair-raising allegations of top executives — including Bankman-Fried, a former political mega-donor — treating FTX and its 130 affiliates like a slush fund. Behind its sleek veneer, FTX was actually a loosely organized network of investment firms, crypto businesses and holding companies with no centralized accounting system, little oversight of personnel and few internal controls to prevent Bankman-Fried and other employees from dipping into the company till.
“Never in my career have I seen such a complete failure of corporate controls and such a complete absence of trustworthy financial information as occurred here,” FTX’s new CEO John Ray III, who previously managed Enron’s restructuring, wrote in a bankruptcy filing on Thursday. “This situation is unprecedented.”
Because FTX’s Bahamas-based parent company never registered with the SEC or the Commodity Futures Trading Commission — and spent tens of millions of dollars on a Washington influence campaign to fend off any argument that it was required to do so — FTX’s internal operations were never scrutinized like Wall Street banks or traditional exchanges.
The SEC and the CFTC have the power to launch investigations into businesses that aren’t registered with them, but there needs to be an indication of potential fraud or manipulation impacting the securities and derivatives markets they regulate.
“You can never stop fraud,” CFTC Chair Rostin Behnam said in a Nov. 14 interview. “A regulated entity is certainly going to be in a much better position to avoid issues around illegal activity or using customer money for illegal reasons.”
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