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December 23, 2022

What if Binance collapses?

Rumoured problems at the world's biggest crypto exchange have raised doubts about its future as regulators circle.

By Afiq Fitri

The fallout from the dramatic collapse of FTX cryptocurrency exchange shows no signs of abating. While founder Sam Bankman-Fried prepares to face criminal charges in the United States, late on Wednesday it was revealed two of his trusted lieutenants have pleaded guilty to fraud charges relating to FTX’s demise.

Meanwhile its erstwhile competitor Binance, the world’s biggest crypto exchange, is facing growing scrutiny over its conduct, after reports emerged of billions worth of crypto leaving its coffers. Regulators are reportedly circling the platform, leaving many experts to speculate about its future.

Changpeng Zhao, or CZ as he is known in the cryptoverse, is co-founder and CEO of Binance. His company is in the crosshairs of regulators and faces an uncertain future. (Photo By Stephen McCarthy/Sportsfile for Web Summit via Getty Images)

Further moves by regulators against Binance would stunt innovation in the market, a crypto expert told Tech Monitor. Meanwhile, the hundreds of millions poured into a plethora of Web3 projects by Binance’s investment arm also means that the future of several start-ups would be uncertain. And if Binance were to ultimately face a similar fate to FTX, no one would be around to save it from collapse.

Why is Binance under scrutiny?

Binance is reportedly facing a probe from the United States Department of Justice, with Reuters revealing the DoJ is mulling charges related to money laundering and sanctions violations. Despite one-third of its users being based in the US, the crypto giant had failed to register with the Treasury Department or implement strict anti-money laundering policies as required by law, the report said.

Meanwhile, the Singapore Police Force has reportedly launched fraud investigations into Binance after the country’s Monetary Authority rescinded the company’s application to run an exchange in the country. The platform was banned from operating in the UK by the Financial Conduct Authority last year.

In response, Binance issued a riposte against regulators and the media, describing the Reuters article which broke the news of the DoJ investigation as false. But as speculation continues to mount over the future of Binance, the parallels between the period preceding the FTX collapse and Binance’s current situation are growing.

What would happen if Binance collapsed?

According to Jason Deane, a crypto analyst, the collapse of a crypto exchange usually follows several scenarios.

“It usually starts with users reporting withdrawal delays or similar issues,” Deane explains. “As these comments mount on crypto on Twitter, the exchange will normally issue a rebuttal and explain it’s a technical issue, or at least some issue not related to liquidity,” he says. “If the issues continue, there will be a ‘reassuring’ statement that includes the words ‘your funds are safe’ or ‘deploying capital’.”

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Late last month, the company’s chief executive, Changpeng Zhao, better known as CZ, tweeted that Binance had pumped $1bn worth of Binance’s BUSD cryptocurrency into the industry in the wake of the FTX scandal. But Deane says that this sort of action often “has the effect of spreading further fear among users who will accelerate their withdrawals until the exchange weaknesses are exposed or the withdrawal runs out of steam.”

Recent events involving a renowned auditing firm signal more trouble on the horizon. Mazars Group announced it was halting all work with crypto exchanges, having previously provided proof-of-funds services to clients in the industry including Binance. Providing proof-of-funds – evidence that exchanges have enough capital in their accounts to cover the investments of users – was supposed to increase transparency across the industry, but Deane is doubtful of its effectiveness.

“One thing that FTX – and other collapses – have shown us is that the term ‘auditing’ has been used very loosely,” he says. “I am therefore extremely sceptical about the value it provided anyway.

“The only way forward now is brutally clear audit trails with easily verifiable reserves, checked and double-checked by accredited third parties. As we’ve seen in corporate history, people have always found ways around these sorts of things,  but the trick is to make it as hard as possible. Right now, the requirements are laughable and, mostly, voluntary.”

The stakes could hardly be higher. After the collapse of FTX, Binance is the biggest crypto exchange by a wide margin. Data from Nansen suggests the platform has almost $57bn worth of crypto in its reserves, more than double the amount held in the next ten biggest exchanges put together.

If the world’s biggest crypto exchange were to go down, the fallout would eclipse the impact of the FTX crash. The industry, already viewed with widespread suspicion by regulators and analysts across the globe, would suffer a terminal blow to its credibility with knock-on effects on the entire Web3 project, according to Deane. At the time of writing, Binance Labs, the company’s investment arm, has reportedly pumped $325m into 67 different Web3 projects this year, more than double the amount invested last year.

And as governments mull stricter regulation on the crypto industry post-FTX, the collapse of Binance would accelerate this process even further, according to Deane.

“Binance is the world’s largest exchange by volume and, until now, has enjoyed the benefit of a reasonable amount of trust by users," he says. "A collapse by Binance would destroy any remaining trust in the crypto industry leading to a further sell-off and the end of many crypto projects, possibly including some significant ones.

“It would also lead to regulation which, in my view, is required, but a collapse on this scale could lead to an over-regulated framework that could stifle innovation.” The Bitcoin project, however, will survive and remain “entirely unaffected except in terms of price”.

The outsized role of Binance as the world’s biggest crypto exchange and how the fate of the industry rests on its survival has prompted some to describe the company as simply ‘too big to fail’. But Deane says no one is going to step forward to rescue Binance, if the exchange were to collapse.

“If it did, who exactly would rescue it? Who would want to be in an industry with confidence at a new all-time low?” he says. “This is an unregulated industry and the only entity who could – theoretically – save the exchange would be a central government coffer. This is extremely unlikely to happen.”

Tech Monitor has contacted Binance about the issues raised in this article, but had not received a response at the time of publication.

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