Goldman: Regulators Should Protect Crypto Investors at the Point of Trust, Not the Blockchain

Recent crises in the crypto market repeat a story as old as time, with a new asset attracting unsophisticated investors looking to make millions, the report said.

AccessTimeIconDec 12, 2022 at 12:49 p.m. UTC
Updated Dec 12, 2022 at 3:59 p.m. UTC
10 Years of Decentralizing the Future
May 29-31, 2024 - Austin, TexasThe biggest and most established global event for everything crypto, blockchain and Web3.Register Now

The demise of FTX is a story as old as financial markets and does not reflect a failure of blockchain technology, but the lack of regulation around the “point of trust” – where money is exchanged on the promise of a future return, Goldman Sachs (GS) said in a research report Friday.

Recent crises in the crypto market follow a well-trodden path, the report said: “A highly volatile and relatively new asset creates the potential for instant riches, drawing in many unsophisticated investors looking for the opportunity to make millions.”

New financial instruments are lightly regulated because they are not covered by existing rules and regulators have yet to identify the potential for harm, the note said. That’s the reason the crypto bubble of recent years involved more widespread fraud than the dot-com boom at the turn of the century, which happened in the well-regulated equity market.

“Regulation is needed at the point of trust, where money is exchanged on the promise of some future return, because it is the time component that creates the opportunity for fraud,” analysts Jeff Currie and Daniel Sharp wrote.

To access the market, investors must go through a gatekeeper, such as a crypto exchange like FTX, and speculative investors are willing to give money to these institutions in the hopes of getting rich quickly.

Despite the crises of 2022, Goldman says cryptocurrencies are likely to flourish, and the key to their success depends on rulemakers correctly identifying what to regulate.

In crypto, it’s “the point of trust, not the trustless blockchains themselves,” Goldman said. Once the financial features of digital assets are sorted out, regulators should not interfere with the blockchains themselves, the bank added.

When a token is used as a financial instrument, as when Terra’s UST stablecoin was lent out on Anchor for a 20% yield, it should be regulated like other securities, the report said, and until regulators can classify which tokens fall into this category, the “opportunity for fraud in crypto will persist.”

Goldman notes that decentralized financial (DeFi) lending systems, in which financial applications are carried out on a blockchain, don’t pose the same counterparty risk as traditional banks. In DeFi lending, collateral is visible to all members of the pool and is automatically liquidated if the value approaches the value of the loan. Collateral can be retrieved without the need for court proceedings or at a discount to the loan, by using smart contracts.

“This resolves the question of trust, the very thing regulation to safeguard investors would be intended for,” the bank said.

Disclosure

Please note that our privacy policy, terms of use, cookies, and do not sell my personal information has been updated.

CoinDesk is an award-winning media outlet that covers the cryptocurrency industry. Its journalists abide by a strict set of editorial policies. In November 2023, CoinDesk was acquired by the Bullish group, owner of Bullish, a regulated, digital assets exchange. The Bullish group is majority-owned by Block.one; both companies have interests in a variety of blockchain and digital asset businesses and significant holdings of digital assets, including bitcoin. CoinDesk operates as an independent subsidiary with an editorial committee to protect journalistic independence. CoinDesk employees, including journalists, may receive options in the Bullish group as part of their compensation.

Author placeholder image

Will Canny is CoinDesk's finance reporter.


Learn more about Consensus 2024, CoinDesk's longest-running and most influential event that brings together all sides of crypto, blockchain and Web3. Head to consensus.coindesk.com to register and buy your pass now.