House and Senate lawmakers are set to hold back-to-back hearings this week on the collapse of FTX and the role of Sam Bankman-Fried, the founder and former CEO of the bankrupt cryptocurrency firm.
Members of the House Financial Services Committee and Senate Banking Committee are set to launch their investigations into how FTX fell apart and how Bankman-Fried led a company once valued at $32 billion into ruin. While they’ll have plenty of pointed questions for Bankman-Fried, Congress is also fuming at federal regulators and pondering its own role in the crisis.
“The FTX collapse has the potential to be Madoffesque in scope and size of dollars that have been lost or misappropriated,” said Mark A. Kornfeld, an attorney specializing in financial and investment law at Buchanan Ingersoll & Rooney, in a Friday interview, referring to the $64.8 billion Ponzi scheme perpetrated by Bernard Madoff.
“You are going to see lots and lots of different lanes being tread,” he said.
Here are the five big questions surrounding the collapse of FTX.
How much did Bankman-Fried know before FTX went bankrupt?
FTX collapsed last month after a series of reports about the firm’s shoddy financial health triggered panic among its millions of users. Over a three-day span, FTX customers attempted to withdraw billions of dollars of their own funds held on the company’s platforms, but FTX lacked enough actual U.S. dollars to reimburse many users.
Bankman-Fried has admitted to losing track of how much money FTX owed its customers and other firms, along with overestimating how much money it had to back up client funds. He also acknowledged that FTX used customer money to fund bets placed by his investment firm, Alameda Research, despite FTX explicitly saying in its terms of services it would not do so.
How long Bankman-Fried knew about these issues before the chaotic week FTX imploded could be key to determining if the company could have been saved, whether Bankman-Fried was truly blindsided by its collapse and if the company’s senior executives should have been able to anticipate the bankruptcy.
“There are still significant unanswered questions about how client funds were misappropriated, how clients were blocked from withdrawing their own money, and how you orchestrated a cover up,” Sen. Sherrod Brown (D-Ohio), chairman of the Senate Banking Committee, wrote in a Wednesday letter asking Bankman-Fried to testify.
Will Bankman-Fried be convicted of crimes?
Bankman-Fried was arrested Monday night in the Bahamas on behalf of U.S. officials, who said they expect to unseal an indictment in the Southern District of New York as soon as Tuesday morning.
“Earlier this evening, Bahamian authorities arrested Samuel Bankman-Fried at the request of the U.S. Government, based on a sealed indictment filed by the SDNY. We expect to move to unseal the indictment in the morning and will have more to say at that time,” Damian Williams, U.S. attorney for the Southern District of New York, said in a Monday statement.
Bankman-Fried has admitted to and apologized for setting off the chain of events ending in the collapse of FTX, which locked roughly 1 million people out of money held on the platform. He and FTX executives have been accused of running a Ponzi scheme by critics — including lawmakers — who claim his frequent apologies are just a cover for a deliberate scheme.
But prosecutors may need to prove that Bankman-Fried’s missteps were part of a criminal plot, not just mistakes caused by catastrophic incompetence.
“Intent matters. What you plan to do and what you didn’t do matters,” Kornfeld said.
“If they can demonstrate that this was really just a series of misfortune that was never intended, and that maybe they just made commercially reasonable or prudent mistakes, can that have an effect? Sure,” he said.
Where were the regulators?
Some lawmakers have called the FTX collapse the inevitable result of nearly a decade of squabbling among federal financial regulators and Congress over who has the power — and who needs more of it — to adequately supervise major cryptocurrency companies.
Both the Securities and Exchange Commission (SEC) and Commodity Futures Trading Commission (CFTC) supervise and regulate financial markets and investment firms for the federal government.
The SEC has domain over the stock market, bonds, other securities and the businesses that sell them, while the CFTC is in charge of the market for more complicated financial products, such as futures contracts for commodities, credit swaps and other investment vehicles.
But neither the SEC nor CFTC has clear legal authority to supervise and inspect firms that trade, sell and hold cryptocurrencies, which straddle the lines between each regulator’s domain.
“The reason these things became a trading frenzy is, in part, because there was no regulatory oversight. So I think that the lack of regulation made it far more expeditious for the crypto market to exponentially explode in a very, very, very compressed period of time,” Kornfeld said.
Could the collapse of FTX have been prevented?
The SEC and CFTC’s limited ability to supervise cryptocurrency firms may have made it difficult for regulators to spot these issues ahead of time. FTX is also based in the Bahamas, which helped the company avoid stricter oversight from federal officials.
CFTC Chairman Rostin Benham told senators that his agency did not receive a tip or report about potential missteps at FTX and only had legal domain over LedgerX, a crypto futures trading affiliate of the company based and registered in the U.S.
“When we act it’s often after the fact because the information that allows us to bring an enforcement action to digital asset cash commodity markets … is coming to us from outsiders, from referrals, from tips,” Benham said at the hearing last week.
“This is in stark contrast to some of the surveillance tools and examination tools that we would have if we had a comprehensive regulatory framework over digital asset commodities.”
How will cryptocurrency rules change?
Congress has struggled to patch holes in federal financial rules that hinder regulators from going after cryptocurrency firms without clear evidence of wrongdoing. While the SEC and CFTC have cracked down on millions of dollars worth of schemes involving digital tokens, crypto exchanges, lenders and storage firms lack the same federal supervision as stock brokers and commodity traders.
Lawmakers, however, may face obstacles advancing a cryptocurrency overhaul through a divided Congress in 2023, even if they can actually find a middle ground. The Digital Commodities Consumer Protection Act, a bill championed by Bankman-Fried, won some bipartisan support but faces an uncertain future amid the collapse of FTX and was polarizing among other crypto advocates in Washington.
Whether a deal can break through may come down to whether Brown, the Senate Banking chairman and a fierce skeptic of cryptocurrencies, can find common ground with Rep. Patrick McHenry (R-N.C.), who is set to serve as chairman of the House Financial Services Committee next year.
McHenry, one of the first lawmakers tout the potential benefits of cryptocurrencies, has pledged to “develop a comprehensive regulatory framework for the digital asset ecosystem.”