According to Giorgi Khazaradze, CEO and co-founder of Aurox, a leading DeFi software development company, disaster is imminent for cryptocurrency firm Digital Currency Group, thanks to regulators and whales. Khazaradze notes that regulators are failing and venture capital firms are investing without proper due diligence. We have prepared Giorgi Khazaradze’s reviews and comments for our readers.
What causes DCG’s problem?
The cryptocurrency tide is rising and the Digital Currency Group (DCG) is getting weaker and weaker. But let’s be clear: The current crypto epidemic is not the failure of crypto as a technology or long-term investment. DCG’s problem is one of failures by regulators and watchdogs. Since the start of 2013, DCG’s Grayscale Bitcoin Trust (GBTC), the world’s largest Bitcoin BTC trust, has provided investors with the ability to earn high interest rates simply by buying, lending or depositing cryptocurrencies.
In many ways, the company has done a great service to the cryptocurrency industry. For example, it has made investing in crypto understandable and profitable for startups and individual investors. During the bull run of the crypto market, everything seemed fine with users getting satisfactory interest payments. But when the market cycle changed, the problem at the other end of the investment funnel became more apparent. Namely, the way DCG leverages user deposits. While not all questions have been answered, the general idea is that DCG entities lend user deposits to third parties like Three Arrows Capital and FTX and accept unregistered cryptocurrencies as collateral.
cryptocoin.comAs you follow from , the dominoes fell rapidly after that. Third parties terminated. The cryptocurrency used as collateral has become illiquid. And DCG had to make over a billion dollars in capital calls. DCG is now looking for a credit facility to pay off its debts. If it fails, Chapter 11 bankruptcy is looming. The venture capital firm has apparently fallen prey to one of the oldest investment traps: leverage. Basically, it acted like a hedge fund without looking like it. It also lent capital to companies without proper due diligence. Moreover, it accepted ‘hot’ cryptocurrencies as collateral. Now, users are left with an empty bag.
Cryptocurrency world needs regulation
In the non-crypto world, regulations have been made to avoid exactly this problem. While the legislation isn’t perfect, it mandates investing in all portfolios of financial documents, legal statements and disclosures, from stock purchases and initial public offerings to crowdfunding. For example, some investments are very technical and/or very risky. That’s why regulators have restricted them to registered investors only.
But there is no such application in crypto. Companies like Celsius and FTX have maintained basically zero accounting standards, using spreadsheets and WhatsApp to (mis)manage their corporate finances and mislead investors. Speaking of ‘security concerns’, Grayscale refused to even open his books. Crypto leaders tweeting “everything is fine” or “trust us” is not an accountability system. So, crypto has to go a long way.
First, custodians act like banks if they want to accept deposits, pay interest and make loans. Regulators need to regulate these companies like banks, including issuing licensing, setting capital requirements, mandating public financial audits, and everything else other financial institutions have to do.
Second, venture capital firms need to do proper due diligence on companies and cryptocurrencies. Institutions and individual investors alike are turning to VCs as guards. They see the flow of investment as a sign of legitimacy. VCs have too much money and influence to fail to spot basic scams.
What is the root cause of the challenges crypto faces today?
Fortunately, cryptocurrencies have emerged to eliminate these problems. Individuals did not trust the Wall Street banks or the government to do them justice. Investors wanted to control their own finances. They wanted to eliminate expensive middlemen. They wanted to make direct, inexpensive, peer-to-peer deposits and get loans. Therefore, for the future of crypto, users need to invest in DeFi products rather than centralized funds managed by others. These products give users control with which they can protect their funds locally. This not only eliminates bank liquidations, but also limits contagion threats in the industry.
Blockchain is an open, transparent and immutable technology. Rather than relying on spokespersons, investors can see with their own eyes a company’s liquidity, what assets it holds and how they are allocated. DeFi also removes human agents from the system. What’s more, if organizations want to overuse themselves, they can only do so under the strict rules of an automated smart contract. When a loan becomes due, the contract automatically liquidates the user. It also prevents an organization from taking over an entire industry.
Crypto critics will understand that the possible explosion of DCG is another failure of an unsustainable industry. However, they ignore the fact that the problems of the traditional financial industry, from poor due diligence to over-leveraged investments, are the root causes of the challenges facing cryptocurrency today, not crypto itself. It is possible that some may also complain that DeFi is ultimately uncontrollable. But its open, transparent design is therefore flexible enough to shake up the entire financial industry for the better. The tide seems to be slowing, at least for now. But smart investments in DeFi today will mean we’ll dive right back in when the next flood comes.
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