The Breakdown - Binance: Too Big to Jail

Episode Date: August 3, 2023

Semafor is reporting that the DoJ is exploring options other than a full criminal complaint against CZ and Binance for fear that it would cause a bank run that could harm consumers. Is Binance now too big to [j]ail? Today's Episode Sponsored By: In Wolf's Clothing -- The first startup accelerator exclusively for Bitcoin and Lightning startups -- Applications for Cohort 3 open NOW -- https://wolfnyc.com/apply ** Enjoying this content? SUBSCRIBE to the Podcast: https://pod.link/1438693620 Watch on YouTube: https://www.youtube.com/nathanielwhittemorecrypto Subscribeto the newsletter: https://breakdown.beehiiv.com/ Join the discussion: https://discord.gg/VrKRrfKCz8 Follow on Twitter: NLW: https://twitter.com/nlw Breakdown: https://twitter.com/BreakdownNLW

And then, of course, there's the question of this idea of Binance being too big to fail. FTX, as we've now seen, didn't really have any big flow-through effects on other types of financial institutions. But Binance is almost an order of magnitude larger. At this scale, it's not, did I blow up hedge funds to consider? It's more like, did we just blow up a significant portion of a bunch of sovereign wealth funds accidentally. Welcome back to The Breakdown with me, NLW. It's a daily podcast on macro, Bitcoin, and the big picture power shifts remaking our world. What's going on, guys? It is Thursday, August 3rd, and today we are talking about whether

Binance is too big to jail. Before we get into that, however, if you are enjoying the breakdown, please go subscribe to it, give it a rating, give it a review, or if you want to dive deeper into the conversation, come join us on the breakers discord. You can find a link of the show notes or go to bit.ly slash breakdown pod. Now, yesterday morning, CZ, the CEO of Binance, tweeted something that has become a common sight this year, which is the number four. The number four, of course, refers to one of his rules for this year, number four, in fact, where he said that he would be working hard to ignore the fud.

Four then has become synonymous with fear, uncertainty and doubt, to hear Binance tell it, people outside haters of the company, trying to bring them down, as they go about their merry way just continuing to serve the crypto markets. In response, Hasuka trades writes, Greatest Minds of Our Generation trying to figure out if this is a preemptive four or a four in response to the recent Wall Street Journal China piece. When a semaphore article came out later in the day, discussing the DOJ in their potential pursuit of a Binance case,

Hasika tweeted, it was a preemptive four. So what was going on yesterday? Well, one of the big questions of regulatory overhang coming off of last year is, of course, what's going to happen to Binance. and more specifically, is the U.S. Department of Justice going to pursue charges? Of course, we've seen the CFTC and the SEC file suit against Binance, but those are civil, not criminal. And frankly, there has been a never-ending stream of rumors and even reporting that the Justice Department has been undecided about, but certainly not far away from pursuing

criminal charges against Binance or even CZ himself specifically. This is a very regular topic of discussion. Yesterday, there was a Twitter space's discussion of a potential FTX2.0 restart plan, and during it, investor Travis Kling said, quote, what's the over-under on Binance even being here in a year? Well, we got some interesting developments on that front that appear to reflect the Justice Department having a sense of how big the stakes are.

According to reporting from Semaphore, the Justice Department is indeed considering bringing fraud charges against Binance. However, the article says that there are concerns within the DOJ that that action could spark a run on Binance, collapsing not only the exchange like it did for FTX, but with worries that there would be a larger panic throughout the crypto markets. Because of their concerns around the potential cost to consumers of some sort of big bank run, the DOJ is reportedly weighing its options.

These include fines and deferred or non-prosecution agreements, according to a number of anonymous sources. Semaphore characterized these outcomes as a compromise between, quote, holding Binance responsible for alleged criminal behavior while reducing consumer harm. Now, this, of course, is a new dimension to the story. As I said, these rumblings of indecision at the Justice Department are not new. Indeed, since December, Reuters have been drip-feeding reports that a faction within the DOJ have been pushing hard to move forward with an indictment.

Finance Insiders have even speculated that DOJ sources were going public in an attempt to put pressure on the department. This, however, is the first time reporting has elaborated on any sort of reasoning behind the reluctance to indict. Previous to this report, it was generally assumed that there wasn't enough evidence to support a rock-solid case, but perhaps, given this article, the concern might be more more around investor harm and maybe even financial stability. Now, this hit with the force of a bomb on crypto Twitter.

Lomdart wrote, There's only two ways to interpret this and they are vastly different to each other, so your feed is going to be filled with some wild arguing over the next few hours. Nick Mancini, the director of research at Trade the Chain, wrote, two options. One, Binance is too big to fail in crypto and the U.S. government doesn't want the backlash. Number two, Binance is insanely screwed, insolvent, and the U.S. government is posturing to not look like the bad guy. Pick your poison.

Investor Christopher Inks writes, Yes, they want to, but are at least considering the strong negative impact doing so would have on the rest of us. The whole FTX thing hurts so many people in companies. Imagine doing part due with Binance. We've gone from too big to fail to too big to fully prosecute. Now, some saw this as positive. Alex Kruger wrote, Too big to jail? Call me crazy, but this seems bullish, if true. On the flip side, some saw it as undermining the principles of the industry as our a hole. Crypto Don Alt wrote, a crypto company too big to fail, the absolute state of this

clown market, decentralized space my ass, LMFAO. Now, some saw this as just appreciating how big in scale Binance actually is. Adam Cochran writes, the DOJ who slaps Megacorp's upside the head without remorse, who seizes companies and domains overnight, and F's over consumers all the time, is worried about the scale of damage Binance will cause with a balance sheet whole in a bank run. And indeed, some are taking this as evidence of there being a big gap. That is especially true among the crypto-critic set. Napjner writes, the DOJ is actively considering fraud charges against finance and directly against CZ. The only thing that gives them pause is the risk of a run. That means there is a gap in funds.

How big a gap? Not Tiger Global says, if you understand English, when the DOJ says they're concerned about a run, it means there is an asset's liability mismatch, i.e. not enough reserves. Cryptodomis writes, Let's just ignore the fact that it is not possible to have a run on any kind of institution that is fully reserved, am I right? DOJ is telling you Binance is not fully reserved, folks. Wake up! Now, again, this is a fog of war situation where you have to be careful about anyone who's spouting an opinion with 100% confidence. Just like I said the other day that at this point, news about Elon is basically a Rorschach test for how one feels about Elon.

It's not that far different from Binance and crypto as a whole. Things are, frankly, pretty murky. The best on-chain analysts in the space can't figure out if Binance is fully solvent or has a whole, and frankly, they've been trying hard for six months to answer that question. So one thing to ask yourself is what chance do you think that the DOJ has a better handle on the situation than the crypto-native firms and sleuths? Now, there are a couple interesting dimensions of the political aspect of this. If Binance did blow up, is the DOJ worried about being seen as the catalyst for that?

One way to interpret this leak, to the extent it is a leak, is effectively the U.S. government trying to cause some sort of small run on Binance, but not wanting to be viewed as the catalyst. Politically speaking, that enables them to point to Binance as the problem, rather than the U.S. government bringing charges. Now, another political dimension of this is what it represents, if anything, about how the Biden administration, again, outside of folks like Gary Gensler, are thinking about their standing as the anti-crypto administration. So far, it certainly seemed like the anti-crypto part of the administration has won out in the wake of FTCS, But is there a chance that this hesitancy reflects a desire not to be totally pinned to that sort of label with the election coming up just next year?

And then, of course, there's the question of this idea of Binance being too big to fail. FTX, as we've now seen, didn't really have any big flow-through effects on other types of financial institutions. But Binance is almost an order of magnitude larger. At this scale, it's not, did I blow up hedge funds to consider? It's more like, did we just blow up a significant portion of a bunch of sovereign wealth funds accidentally. There's nothing to indicate from the semaphore report that that's how the Justice Department is thinking about this, but when you're dealing with a company at Binance's scale and, frankly, opacity, it certainly has to be one of the considerations.

There are about a million other interpretations as well that I could give you if I sat here thinking about them long enough, but ultimately they'd all be just speculation. The big new part of the story is just further confirmation that there is an internal debate at the DOJ about whether or not to bring charges, which is really just confirmation of the same thing that we heard all the way back in January. Without giving any sort of financial advice, if one were a risk manager, this might be a time that one would consider reinvesting in that oh-so-important part of the crypto asset industry, which is, of course, self-custody. Now, before we get into the other Binance story this week, let's talk briefly about today's

sponsor in Wolf's clothing. Wolf is the first startup accelerator dedicated entirely to Bitcoin and Lightning companies. And given that we were just talking about self-custody, you'll know just how important it is to have a thriving ecosystem of Bitcoin and Lightning companies. The program is an accelerator for startups and comes with mentorship, funding, the chance of more funding. They are currently accepting applications for just a couple more days for their third cohort this fall, and you can go to Wolfnoyc.com to learn more and apply. Thanks to Wolf for sponsoring the breakdown. Now, the other Binance story that was referenced right at the top of this show came from a Wall Street Journal article. The WSJ published a piece claiming that Binance maintains a massive presence in China,

despite their nominally being a ban on crypto trading. According to the reporting, Binance processed $90 billion in Chinese trading volume during May of this year. That would represent 20% of the overall volume for the exchange. Now remember, crypto transactions and trading were made illegal in mainland China in September 2021. However, since then, there have been persistent rumors that enforcement of the crackdown has been ineffective. The WSJP's piece. claims that Binance still has over 900,000 active users in China, and according to their sources, China's importance to Binance is still openly discussed within the company. The piece also claims that Binance maintains a working relationship with local law enforcement

to detect potential criminal activity. Circumvention of the local ban was allegedly done through numerous proxy websites that redirect to Binance. The process was documented in internal documents and established in 2017, when China blocked access to the main website. Now, broadly speaking, Kim Grauer, the director of research at Chain Al, says that China remains the fourth largest market for crypto despite the ban. She said China's cryptocurrency market remains strong, with healthy transaction volumes across both centralized and defy

services. And to give a sense of just how big China is for Binance, if these numbers are accurate, the second largest market for Binance is South Korea, which represents a 13% share of volume, obviously quite a bit lower than the 20% allegedly represented by China. Turkey comes in at a little under 10%, and then all other markets comprise less than 5% of volume individually. As part of their reporting, the Wall Street Journal made use of extensive data gathered from an internal platform monitoring dashboard at Binance that is colloquially known as mission control. According to internal data, about 100,000 Chinese users were classified as, quote, politically exposed people. That designation, which is used throughout the banking industry, identifies customers who are government officials and

their relatives and associates. Those types of individuals are identified for closer scrutiny due to their greater risk of involvement in bribery, corruption, money laundering. Now, the data, while not necessarily revelatory for people who are paying close attention, still does reinforce perhaps why Binance never seems to be all that concerned with U.S. or European acrimony. Noel Acheson points out, even if Binance totally pulls out of U.S. and Europe, it would still be the largest crypto platform in the world in terms of trading volume. Now, the one other bit of reporting around Binance this week came from the information on Tuesday. According to the report, Binance came close to closing Binance U.S. earlier this year in order to protect the wider company.

A person who said they were familiar with the matter told the information that Binance US's board of directors had voted on whether or not to liquidate the company, but ultimately couldn't come to a unanimous decision because Binance US CEO Brian Schroeder blocked the decision. ZZ went off on this one. He said the quality of research, validation, or even logical thinking in this news is appalling. If it is a board vote, one vote holding out of three won't stop anything. The two out of three win. It's just fud.

Four. Anyways, guys, that is the story from here, whether it's a story. for or something more, I will leave you to decide. But for now, the saga continues. I want to say thanks again one more time to my sponsor in Wolf's clothing. Wolf is the first startup accelerator for Bitcoin and Lightning, and they are just about to close applications for their third cohort. Go learn more at WolfNYC.com. And until next time, peace.