FTX downfall draws Washington scrutiny, threatens crypto lobbying campaign

Regulators and lawmakers are beginning to dig into Tuesday's near-collapse of crypto exchange giant FTX, a seismic industry event that is poised to upend the Washington policy debate around how to police digital assets.

FTX on Tuesday morning announced it was selling itself to competing crypto exchange Binance after it struggled to meet customer withdrawals. In response, officials at the Commodity Futures Trading Commission, which regulates financial derivatives markets, said they were monitoring the Bermuda-based FTX's cash crunch to ensure it doesn't spill over to its U.S. operations.

The crisis also drew the attention of state regulators. Texas State Securities Board enforcement director Joseph Rotunda said FTX's capitalization and sale could be relevant in his investigation into whether the company violated securities laws by offering yield-bearing deposit accounts.

"My job is to protect the public, and I’m very interested in these issues and any negative impact on investors,” Rotunda said.

FTX's downfall threatened to recast the landscape for lawmakers, regulators and lobbyists who have been ramping up work on drafting rules for the crypto industry. FTX and founder Sam Bankman-Fried — who emerged as a political megadonor ahead of the midterms — have been at the center of the debate and now see their clout likely diminished in the halls of Congress. FTX was the biggest casualty of a crypto price crash that has weighed on the market for HOW MANY months.

“The recent events show the necessity of congressional action,” said Rep. Patrick McHenry (R-N.C.), who’s poised to chair the House Financial Services Committee if Republicans win a majority in the midterms. “I look forward to learning more from FTX and Binance in the coming days about these events and the steps they will take to protect customers during the transition.”

Bankman-Fried — a 30 year-old billionaire — was among the most prolific single political donors during the 2022 midterms before announcing he was putting his political efforts on hold last month.

He had also been aggressively lobbying Congress to support a bipartisan bill sponsored by Senate Agriculture Chair Debbie Stabenow (D-Mich.) and Sen. John Boozman (R-Ark.) that would give the CFTC oversight of crypto brokerages and trading platforms.

Bankman-Fried's?? efforts enraged proponents of decentralized trading and payment systems that mimic — but are not specifically controlled by – a centralized exchange or brokerage. Some crypto industry executives warned that the bill could wipe out decentralized finance startups while leaving centralized crypto platforms like FTX firmly entrenched.

“The entire conversation has to be immediately wrestled from FTX,” said Ryan Selkis, a crypto investor and founder and CEO of industry data provider Messari. “I don’t get surprised by things in this industry, but this is shocking.”

Withdrawals from FTX’s international platform were halted earlier Tuesday morning as the company dealt with the fallout of a PUBLISHED WHEN CoinDesk report indicating that Alameda Research — a crypto trading fund that’s also owned by Bankman-Fried — had propped up its balance sheet with billions of dollars in a highly illiquid digital token that had been issued by FTX.

Binance CEO and co-founder Changpeng “CZ” Zhao announced WHEN? that his platform — THE WORLD'S LARGEST CRYPTO EXCHANGE? — would dump its holdings in the token in light of the revelation.

As fears of more crypto market contagion accelerated, FTX sought rescue financing to fund its continued operations.

“FTX asked for our help. There is a significant liquidity crunch,” Zhao tweeted on Tuesday, later adding that the deal was pending. “This is a highly dynamic situation, and we are assessing the situation in real time. Binance has the discretion to pull out from the deal at any time.”

Bankman-Fried’s white flag marks a stunning reversal from how he’d positioned his businesses as recently as six months ago. FTX, along with Alameda, provided financing that propped up digital lending platforms after the collapse of two popular digital tokens triggered the downfall of several crypto brokerages.

Federal regulators have warned that crypto’s highly interconnected ecosystem — where financiers like FTX and Alameda hold tremendous sway over other digital startups — could be vulnerable to a market contagion if any single entity collapses. CFTC Commissioner Christy Goldsmith Romero last month said the market’s “opaque, complex, leveraged and unregulated products” resembled dangers from the 2008 financial crisis.

Consumer advocates had warned about similar risks in the context of FTX’s pending application with the CFTC to let retail investors use borrowed money to trade crypto around the clock.

“FTX should immediately withdraw its application,” Better Markets President and CEO Dennis Kelleher said in a statement. “If it fails to do so, the CFTC should immediately deny the application.”

With the Binance acquisition pending, and the long-term outlook of FTX and Alameda unclear, Tuesday’s announcement sparked a sell-off in digital assets that erased more than 10 percent of crypto’s $1 trillion market cap over a matter of hours.

Bankman-Fried sought to calm markets shortly after announcing Binance’s acquisition this morning.

“Our teams are working on clearing out the withdrawal backlog as is," he said in a series of tweets. "This will clear out liquidity crunches; all assets will be covered 1:1. This is one of the main reasons we’ve asked Binance to come in. It may take a bit to settle etc. -- we apologize for that."

He also said that withdrawals on FTX’s U.S. platform “are and have been live, is fully backed 1:1, and operating normally.”

Binance and FTX did not respond to requests for comment.