Founder's Column: The Significance of SBF’s Prison Sentence

In 2022, Sam Bankman-Fried, the founder of the cryptocurrency exchange FTX, was sentenced to 25 years in prison. His substantial wealth, amounting to approximately $11.2 billion, will be confiscated and used to compensate victims. The case was heard in the Southern District of New York Federal Court, where Judge Louis A. Kaplan explained the sentence, stating that Bankman-Fried poses a significant risk of engaging in further serious misconduct.

Upon receiving the 25-year prison term, one of the victims who had invested in FTX, Bruno Dixon, expressed his reaction on Telegram, saying, “25 years? Is this a joke?” Despite the initial perception that 25 years might be shorter than expected for causing losses of $8 billion, The New York Times reported that Bankman-Fried’s sentence is one of the longest imposed on white-collar criminals in recent times within the United States.

It’s worth noting the reference to the “recent longest sentence” mentioned by The New York Times. The United States has a reputation for imposing strict penalties on white-collar crimes, especially financial offenses. For instance, during the 2008 financial crisis, Bernard Madoff, who orchestrated a notorious Ponzi scheme, received a 150-year prison sentence. At the time, he was in his 70s and served 12 years before passing away at the age of 82.

Indeed, such an event did occur. One of the most prominent examples is the bankruptcy of Silicon Valley Bank (SVB) in June 2023. SVB, which ranked 16th among U.S. banks based on asset size at the end of last year, faced headwinds due to the Federal Reserve’s rapid interest rate hikes. The bank had invested a significant portion of its customers’ deposits in U.S. Treasury securities (AFS), but when interest rates surged, the bond prices plummeted, leaving SVB unable to return the principal to its depositors. (Note: Rising interest rates correspond to falling bond prices.)

As this situation began affecting several regional banks and the prospect of a chain of bankruptcies loomed, central banks stepped in. To mitigate the risk faced by depositors who stood to lose money due to bank insolvency, these central banks decided to guarantee full protection for all deposits. It was a solution aimed at preventing a severe economic downturn akin to the 2008 New York financial crisis. The measures were implemented following President Joe Biden’s declaration that “your deposits are safe,” effectively preventing the crisis from spreading throughout the entire financial system as if nothing had happened.

In contrast, FTX directly faced the aftermath of the Federal Reserve’s sharp interest rate hikes. FTX allowed customers to use their exchange accounts like bank accounts or lock assets in USDT stablecoin products that offered an exceptionally high annual interest rate. Essentially, FTX’s role was quite similar to that of a bank. However, when withdrawal requests surged due to the sharp decline in cryptocurrency prices following the Fed’s rate hikes, Sam Bankman-Fried, who had already incurred losses from risky trading using customer assets, found himself unable to cope and eventually declared bankruptcy.

As an entrepreneur, Sam Bankman-Fried’s moral culpability is certainly subject to criticism. However, what if the Federal Reserve hadn’t abruptly raised rates by 50 or 75 basis points? Perhaps FTX wouldn’t have faced a bank run. Maybe they would have continued operating the exchange without any issues, maintaining their reputation.

Despite being impacted by the Federal Reserve’s interest rate policy, SVB and FTX experienced vastly different outcomes. One bank invested its customers’ deposits in U.S. Treasury bonds, while the other ventured into cryptocurrencies. One weathered the storm as if nothing had happened, thanks to the emergence of a financial “Big Brother.” The other closed its doors, hired bankruptcy trustees to liquidate remaining assets for victim compensation, and its founder began a lengthy 25-year prison sentence.

Which system is more just: the one that conceals problems as if nothing happened, or the one that transparently exposes and rectifies the rotten parts? In which economic system can we thrive more freely? The current financial system, where central banks consolidate and manage risks across all banks, ensures that no bank fails, as the repercussions could spread to other banks, affecting businesses, individuals, and even other financial institutions. When a bank loses trust, avoiding a bank run becomes impossible. If the banking system collapses, even trust in central banks would plummet. Financial elites fear this scenario the most.

When problems arise in the banking system, the central bank’s approach is to distribute the pain across society. For instance, imagine that the bank where you hold deposits goes bankrupt, and the government steps in to guarantee the full amount of your deposit. While you may recover your deposit, the cost is borne by the rest of the population in the form of “hidden taxes.” When central banks create new money to protect depositors, the value of the existing circulating money is diluted. As this process repeats, your purchasing power gradually diminishes. Ultimately, within this system, except for a small elite managing the money supply, most people become poorer.

Hiding problems doesn’t make them disappear. Issues are merely postponed to the future, and what could have been resolved at a smaller scale becomes a much larger problem over time, eventually leading to an explosion. The consequences during such crises are significant. This is why the global economy experiences major crises approximately every 20 to 30 years.

Bitcoin does not have a central bank. Even if problems similar to FTX’s were to occur, there would be no “Big Brother” stepping in to create new Bitcoin and rescue victims. Painful as it may be, this allowed Bitcoin investors to witness firsthand the impact of the Federal Reserve’s rapid interest rate hikes on the real economy. The bankruptcy of FTX served as a transparent display of the Fed’s unreliable and arbitrary actions. Those who continue to trust the traditional financial system, believing that bank deposits are safe, may eventually find themselves poorer, absorbing the mistakes of others. When major crises like the Great Depression or the Lehman Brothers collapse occur, they risk losing everything.

Bitcoin provides an escape from the traps created by financial elites. Investing in Bitcoin isn’t the risky choice; not investing may be a riskier decision.

PS -

I am currently in Hong Kong attending the Web3 Festival 2024. The picture I am sharing was taken on Saturday night at Lan Kwai Fong, the famous street full of bars and fun places in Hong Kong. Despite the struggling stock market and economy, Hong Kong is full of energy!