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Sam Bankman-Fried's recent arrest at the behest of the Southern District of New York is a sign that the crypto bubble's effect on the "real" economy could be less destructive than the housing bubble in 2008 or the dot-com bubble several years earlier.
As well as criminal investigations (and sanctions, where appropriate), the priority should be to regulate and restore confidence, before it's too late. This should include, if not be led by, the Federal Reserve, which after all, is the guarantor of the fiat system. Inaction is not an option, since more and more Americans' savings—and even retirement accounts—are exposed to crypto.
When crypto sneezes, our whole economy catches a cold. Investment banks are scrambling to retrieve money after the FTX collapse. I believe we are in the early stages of what happened in the '90s dot-com bubble and the 2008 housing crash—a speculative bubble that has been ignored by regulators for too long. It's now being addressed by prosecutors, but prosecutors can only act after things blow up—not before.
Regulation is always a delicate balance. But if regulators had moved this early in the dot-com and housing bubbles of previous years, perhaps market crashes could have been softened, or even averted. The parallels are eerie. In 2021, the price of Bitcoin skyrocketed by more than 700 percent in only 12 months and then quickly lost three-quarters of its value.
The dot-com bubble was similar. Between 1995 and its peak in March 2000, the Nasdaq Composite stock market index jumped 400 percent, only to fall 78 percent from its high by October 2002.
Just as crypto is now, the '90s dot-com bubble was an investor's dream. And real value was created—this era gave birth to incredible companies that still exist today, like Amazon and Google. But for every valuable, sustainable company there were many more tech businesses formed out of thin air with no value proposition. That didn't stop them attracting huge investments often based on nothing more than a pitch deck and a domain name. This continued until the early 2000's—when the bubble burst.
Markets fell by 78 percent, causing many tech companies to file for bankruptcy and disappear. When the dust settled, more than $5 trillion was lost. It was only when the damage was done that regulators acted with more stringent IPO processes.
Regulators also acted too late during the housing crisis of 2008, which was fueled by cheap credit and lax lending standards. When that bubble burst, banks were left holding trillions of dollars of worthless investments. This likely caused the recession to be deeper than it would otherwise have been as the financial markets reset from what was a wide-reaching endemic problem. Many ordinary Americans lost their jobs, savings, and their homes in the process.
Regulators must learn the lessons of history, or they are doomed to repeat it. An almost completely unregulated crypto market, couched (perhaps deliberately) in language that legislators barely understand, is more dangerous than either of the bubbles that came before, given the ease of accessibility by the masses compared to the previous bubbles.
The economy was already vulnerable. Over a decade of effectively 0 percent interest rates was exacerbated by the pandemic. The result was increased lending, higher inflation and most importantly, lots of locked down, bored individuals with newfound disposable income thanks to COVID-19 assistance payments.
Many of them were seduced by rags-to-riches stories and the potential for leverage to create outsized returns. The possibility of outsized losses was not such a focus for crypto influencers who are effectively acting as unregulated financial advisors. Like the run up to 2000 and 2008, there was an entire generation of inexperienced investors that haven't been through an economic cycle. They have only seen charts go up and to the right. Unlike those instances, all they had to do this time around was download an app, link a bank account, click a button and they were in. Technology is an amplifier of both the good and the bad.
Arrests, where justified, are an important step in limiting the danger of the crypto bubble which is, even now, only partially popped. But the priority must be to protect the economy, the public, and to restore confidence before real damage is done.
Other governments are quickly realizing this and taking action. The U.K. just announced they are finalizing plans to regulate the crypto sector. This includes monitoring how companies operate and advertise their products to the public. This is in the interests of investors, but also of the (legitimate) crypto industry. The U.K. prime minister has already stated that "'effective regulation' would make Britain a global hub for cryptoasset technology."
As the largest economy in the world, the U.S. has a particular responsibility to take the lead. Just as the U.S. dollar is the "gold standard" of the traditional financial system and the Federal Reserve is its regulator, the U.S. and the Fed should be leading in the new crypto economy.
We acted too late in 2000. We acted too late in 2008. In 2023, we can break the pattern. If there had been any guardrails in place, we wouldn't have needed arrests now.
Joe Hipsky co-founder and chief strategy officer of iraLogix.
The views expressed in this article are the writer's own.
