The Implications of Bitfinex’s Insolvency
For those that were able to read the last article, I outlined in some fairly excruciating detail why I believe that Bitfinex is currently insolvent.
However, what was not covered were the implications of this news — particularly for the crypto sphere at large as well as those that are holding Tether at the moment.
There is No Excuse For Bitfinex Not Being Able to Fulfill Withdrawal Requests
According to Tether Limited, each and every single Tether token that they have issued is backed 1:1 with an actual fiat dollar.
Regardless of whether you believe that or not, this is something that we know that Tether and Bitfinex must at least hold as true.
And, if it is true, there seems to be no reason as to why they would not be able to liquidate down some Tether to pay the individuals that have posted to their Reddit stating that they have waited for their withdrawals for weeks to no avail (this was detailed in the article I wrote earlier today: https://medium.com/@proofofresearch/warning-bitfinex-is-no-longer-solvent-remove-your-money-now-in-depth-report-50b11325ea26)
According to the Tether rich list (an aggregate of the wallets with the most Tether in them), Bitfinex currently holds about 226 million in Tether.
So, if Tether is truly backed 1:1 as Bitfinex and Tether claim, why wouldn’t they be able to simply access the bank account where they hold the reserves for Tether and use that to pay out their users that are still waiting for their withdrawal wire requests?
So What Does Potential Bitfinex Insolvency Mean?
#1 — We would be able to say without a shadow of a doubt that Tether was never backed 1:1
The initial, obvious consequence would be that the peg for Tether would be broken.
Now, in lieu of the fact that there are other stablecoins, it is tempting to suggest that the market could simply switch to alternative stablecoin options (like TUSD, Paxos, Fedcoin, etc.)
However, this would more than likely still disrupt the crypto markets in a major way because USDT traded pairs have immense volume at this point:
Currently, Tether is ranked #2 in terms of the volume of all its markets.
The next closest competitor is Ethereum, which has $800 billion less in 24H circulating volume than Tether does.
Also, according to CMC data, Tether accounts for 20% of the total traded market volume at the time of writing.
So, it’s safe to say that the peg getting knocked off of Tether would cause some level of chaos in the cryptosphere.
Additional Implications Pending Bitfinex’s Insolvency
1.) Until the point of insolvency, premiums on the Tether-traded exchanges will only continue to grow as Finex’s issues grow. And Finex’s issues are growing at a rapid pace.
2.) Crypto Capital Corp. (their alleged new bank) will ultimately fail to meet their obligations for CEX.IO, QuadrigaCX, and Bitfinex (whom all allegedly receive services from Crypto Capital Corp., per CCC’s website.
3.) Crypto Capital Corp.’s insolvency would more than likely mean the collapse of Tether, Bitfinex, Kraken, Binance, Poloniex, ShapeShifter (Erik Voorhees’ toy), Huobi, OKex, and several other entities in the crypto space. If not their collapse, then their imminent demise. On a financial level, it is hard to imagine how these exchanges would survive a “bank run”, because that’s exactly what would happen if the Tether premiums continue to rise at such a dangerous rate.
Why Would Tether’s Collapse Impact the Solvency of Other Exchanges?
This is the most often asked question by Tether critics and one that deserves an answer.
We will try to provide such below with a hypothetical scenario.
What’s the price of Bitcoin right now? Like $6,450 right? Give or take a few dollars. Let’s just agree on that.
Let’s suppose you’re on Binance and you have a Bitcoin worth of alts and you cash that into Tether (USDT) like people often do.
You now have 6,450 tether tokens.
However, let’s say Tether were to slide down to a value of $0.90 USD because of a lack of consumer confidence.
Your spending power has been chopped by 1/10th. So, comparatively, instead of being able to afford 1 BTC (assuming the price of Bitcoin stays the same), you can only afford .90 BTC.
This would be reflected in the price of Bitcoin on that exchange. So, instead of it trading for $6,450, it would instead trade for $7,055 (+10% premium).
More than likely, every other alt would sell for a 10% premium (if its a USDT/Tether-only exchange) as well.
In essence, you lost 10% and you’d more than likely be worrying that you’ll lose more. So, you trade for Bitcoin immediately and take the 10% loss. Then, you more than likely would attempt to withdraw whatever crypto you pick up.
The only issue with this plan is that everyone will be rushing to withdraw. So, you’d have to pray to God that your exchange has truly been keeping your funds in an absolute reserve dedicated especially for you without touching any of the money.
Even exchanges operating a 95% fractional reserve would end up taking losses in the millions.
Relevance of the A.G. Report
This is why the A.G. report was an important read because it exposed the fact that most exchange operators are trading on their own platforms. This means that, they too would be under the gun to start getting rid of as much Tether as possible.
Understanding the Distribution of Tether
Think about it logically here — Bitfinex/Tether isn’t out here selling Tethers to anyone.
How did you ever get your hands on USDT to begin with?
Through your exchange.
And in order for you to have done that, your exchange must be sitting on a stockpile of Tether in order to create the USDT market and effectively ‘cash you out’.
So, if you ever moved Bitcoin/ETH/XRP/EOS/whatever to an exchange and eventually got your hands on USDT, you essentially bought USDT from your exchange.
This means that your exchange bought your Bitcoins, Ethereum, Ripple, etc., from you.
We know that what is stated above must be true, because the exchange needs to be able to allow you to withdraw your funds and you didn’t come to the exchange with Tether to begin with. They had the Tether.
So, they could never sell off more than 50% of whatever Tether they had initially on the exchange, or they simply would not be able to cash everyone out of Tether.
Continuation of the Hypothetical Example
Let’s say we (the author of this article) have our own exchange running.
The price of Bitcoin = $7,000. We happen to have 10,000 Tethers on our exchange. You decide to trade that Bitcoin in for 7k tether.
Now weonly have 3k Tether left. So, if we want to allow you to withdraw that Tether, then we need to come up with those extra 4k Tethers.
Now, mathematically, yes — we could simply just give you the 7k Tether we ‘allotted’ to you and be left with 3k Tether tokens and a Bitcoin. But, if the price of the Bitcoin that we are holding declines to a price that’s lower than what we cashed out out of the Bitcoin for, then we as an exchange have lost money. Therefore, it is essential that we at least maintain the quantity of ‘reserve’ Tether tokens if we are to remain solvent as an exchange.
How to Keep the Reserve in a ‘Healthy’ Condition
One method would be by just liquidating down the Bitcoin you gave us. In fact, we’d be forced to if we’re responsible exchange owners.
However, if Tether starts getting knocked off its peg and people are able to sell Bitcoin/Ethereum/Ripple/whatever for a 10–20% premium on Tether, and then they try to take that Tether out from the exchange to swap it elsewhere/arbitrage, then we would be screwed because the sudden rapid inflation would exceed capacity to cash everyone out.
Or, we’d be forced to rapidly buy back cryptocurrencies in order to satiate customer demand to withdraw their funds since we were responsible exchange owners and liquidated down the crypto we initially bought from customers with Tether (as the exchange counterparty and Tether market maker).
This would force us to lose millions, if not tens of millions or perhaps hundreds of millions.
And that’s assuming we held a 1:1 reserve and were doing our very best to manage customer funds 100% responsibly.