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For US crypto firms, FTX crash shows benefits to staying home

There has long been a rift between U.S.-based cryptocurrency companies such as Coinbase and those based outside the U.S., such as Binance and FTX, which operate under much less stringent rules.

The dispute has come into sharper focus with the collapse of FTX. Once crypto’s third-largest exchange, the Bahamas company suddenly went out of business in the wake of stunning allegations of deceptive accounting, in what a U.S. prosecutor called “fraud of epic proportions.”

The FTX scandal sent the entire crypto industry reeling. But U.S. crypto companies say what happened underscores the advantages of running a crypto company from a country with strict regulations, like the United States.

“It validates our approach to this business,” Diogo Monica, co-founder and president of Anchorage Digital, a San Francisco crypto custody software company that is a federally regulated bank, told The Examiner.

Working with U.S. regulators “transmits a lot of confidence to our clients that we are running a tight ship,” even though the process can be “extremely hard and costly,” he added.

In fact, it’s been extremely frustrating. U.S. crypto companies like Coinbase and Ripple have butted heads with regulators led by the SEC, which they argue has offered fuzzy guidance to the industry. The crypto industry has accused the SEC of resorting to “regulation by enforcement.”

The most notable clash happened in December 2020, when the SEC sued Ripple, accusing the San Francisco company of failing to register about $1.4 billion worth of XRP, the cryptocurrency the company uses on its platform, as securities. The outcome of the legal battle is expected to have major implications for the crypto industry.

Regulatory scrutiny has forced Coinbase to proceed with caution. In late 2021, the company canceled a plan to launch a new lending service after the SEC threatened to sue the company based on the regulator’s argument that the company was offering assets that should be regulated as securities but weren’t.

Last year, the company added a new public disclosure for clients, saying essentially that they could lose their assets if Coinbase goes bankrupt, following a new SEC rule requiring crypto companies to disclose such risk. The scrutiny caused Coinbase to lose market share.

Founded in 2012, Coinbase quickly emerged as the dominant crypto exchange. But then came Binance, an off-shore crypto company, which launched in 2017 and quickly overtook Coinbase. Where it is actually based has been a subject of controversy. A spokesman said the company “established two regional hubs, Paris and Dubai.”

Then in 2019, FTX, also based outside the U.S., joined the fray, rapidly rising to become crypto’s third-largest exchange.

Binance is not allowed to operate in the U.S., although a separate entity, Binance.US, operates with aid from Binance. The crypto giant has been criticized for being lax in keeping track of who uses the platform. It has been described as a “hub for hackers, fraudsters and drug traffickers.”

The company rejects the allegations.

“Binance uses strict anti-money laundering measures that allows for the identification and off-boarding of entities that are operating outside of our terms of use and seek to misuse crypto for potentially illicit means,” the company spokesman told The Examiner.

The FTX meltdown raised more questions about the way offshore crypto companies like FTX and Binance operate — and turned a spotlight on what appears to be a ruthless, cutthroat industry.

As the crisis began, CEO Changpeng ZhaoZhao said Binance had planned to buy FTX but backed out citing allegations that Sam Bankman-Fried’s company “mishandled customer funds.” Bankman-Fried hit back by accusing Binance and Zhao of orchestrating “an extremely effective months-long PR campaign against FTX.” They said it led to “an extreme, quick, targeted crash precipitated by the CEO of Binance and made Alameda (the trading firm owned by Bankman-Fried) insolvent.”

The scandal only sharpened the contrast between U.S. based crypto companies and those that operate in countries where regulations are known to be lax or even nonexistent.

Diogo Monica of Anchorage Digital said operating as an off-shore company can be a “perfectly legitimate way to go,” noting that there are “many very legitimate companies that are offshore, and that “the United States is not the whole world.” But the recent crypto crisis has highlighted the need for transparency for companies in locations where regulation is known to be weak.

“If you’re in that position, you must be on the other extreme of transparency because if there is no regulator looking at what’s happening inside of your company in your entity, then you must convince the world it is on you,” he said. “The burden is on you to convince the world that you are running a tight ship that you are solvent at all times.”

Binance stresses that it has “quickly evolved to ensure the highest standard of regulatory compliance as the space continues maturing and as we learn/adapt alongside other players and regulators,” the company spokesman said.

But investor Logan Allin, managing partner and founder of Fin Capital, said Coinbase will likely be viewed as “the de facto flight-to-quality in crypto exchanges” for retail and institutional investors because of its key advantages, including its “regulated status and transparent public reporting/audits.”

On the other hand, Binance “will continue to face questions, pressure, and enforcement actions” given its “amorphous entity structure” and questions about its compliance with accepted financial reporting regulations, he told The Examiner.

Coinbase still faces serious regulatory challenges. The SEC has maintained that most of the digital assets offered on crypto platforms, including Coinbase, should be regulated as securities. If the SEC’s view prevails, exchanges like Coinbase and the companies that created the digital assets being offered on crypto marketplaces would be required to register and disclose more detailed information about the firms and their products. It would be similar to the way publicly-traded corporations are required to make regular public disclosures. It’s an argument rejected by most crypto companies, including Coinbase.

But Armstrong has said recently that he thinks the decision to stay home will eventually pay off.

“It might be a bit more difficult because the U.S. doesn’t always act as quickly or nimbly as some kind of — like a special economic zone like Hong Kong or Singapore,” he said. “Sometimes, it felt like we’re actually at a disadvantage, and it’s caused us to move more slowly than foreign competitors. … But, I think it’s the right bet long term.”

SOURCE: SFExaminer