Rotten squid game offers another cautionary tale

Some participants in the crypto sector suffered from a major rug-pull at the back end of last year when a new currency made its debut, caught the zeitgeist, was hyped to the hilt and then disappeared into the ether. It’s something that the crypto sector is prone to suffering and highlighted the need for regulators to be taking a more active role in helping ensure a level playing field for projects and investors alike.

A coin called Squid Game, which is in no way affiliated with the popular South Korean Netflix series of the same name, made its debut at the end of October 2021, rose from a value of less than US$1 to a peak of US$2,861 before the rug was pulled and the perpetrators made their escape with lots of other people’s crypto. They are estimated to have made around US$3.36m from around 40,000 investors globally. In the space of four days.

For many people, the crypto sector runs on optimism. They are hopeful that they are creating a new way of sharing wealth around the globe and they believe that the system is faster, more equitable and more transparent than traditional approaches to finance.

And there are plenty of reasons to be positive about the crypto-based future. It genuinely offers an opportunity to enhance the efficiency of many industries. Financial services is the obvious one, but the blockchain has the potential to change the way that virtually every industry works. It could create a global provenance system for musicians so that they, or their estate, gets a percentage of every sale of their work in perpetuity. It has the potential to deliver a fully transparent food supply chain from farm to fork. It could take a lot of the stress out of the process of buying and selling a house.

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As I may have hinted before though, it is not a utopia. There are still plenty of unscrupulous people out there that find ways to take advantage of the optimism that surrounds the crypto space. And at the moment the amount of optimism is pretty high.

There’s a fascinating article about the Squid Game rug-pull in Wired magazine [LINK: https://www.wired.co.uk/article/squid-game-crypto-scam ], and one of the things that it highlights is that at this point, even some nominally sophisticated investors are ignoring all the warning signs and falling for scams. Why? Because for some people, even if their head tells them something looks to be too good to be true, their heart makes them worry that that they could end up missing out.

If the sector is going to live up to its potential then it needs to find a way to discourage, and potentially punish, people that try to take advantage of the optimistic. If it doesn’t then the scams will continue, the optimism will start to evaporate taking the investment money with it.

You could invent them, but they already exist

The logical thing to do would be to actively engage with the regulators. They have years of experience helping manage the financial markets and so their perspective could be invaluable. They might not spot all of the scams, but they could offer a seal of approval that could help enhance confidence among potential investors

The problem is that in many ways this goes against the very ethos of the crypto sector, which was set up to be free and flexible in a way that the current structure for the financial services struggles to accommodate.

There is also the point that bringing in the regulators runs the risk of them bringing in their intrenched relationships with the existing market players that the crypto sector is trying to disrupt. If the point of a regulator is to create a level playing field, it is important to ensure that they are not bringing with them any incumbent-bias that will supress not only the scams but also the innovation.

The hippies became the man

The problem is that if something isn’t done, then the reputation of the crypto sector will come under threat and the innovative aspects of what is happening will become starved of investment. So what’s the answer?

Perhaps a page from the history books will help. In the 1960, a counterculture sprang up in the US and many other parts of the world. These hippies preached peace and love and caught the prevailing mood of the world’s youth that were tired of years of war, both hot and cold.

Some hippies stayed absolutely true to their youthful idealism, but if truth be known, the majority realised that if they wanted to earn a living they would need to accommodate the real world. They took on roles in the establishment, and the establishment evolved as a result.

Three possible futures

This isn’t a perfect analogy for the current situation in the crypto sector, but the point is that there are three ways that the next few years can go.

Ignore each other

Firstly, regulators and the crypto sector can continue to take hard-line stances on each other. In this case, the world will miss out on the innovations that the sector has to offer. Scams will continue to be a feature of the sector and the rest of the world will miss out on the fascinating potential future that is on offer.

Have regulation imposed

Secondly, regulators could come in and impose a structure on the crypto sector. Crypto would probably survive this after a fashion, but the imposition of regulations would be likely to favour sector incumbents. Much of crypto’s vigour could also be lost because the structure would be likely to be built around what already exists in the financial services because that’s what regulators understand. A portion of the “free” crypto sector would continue to exist, but it would be an unregulated market where most investors would fear to tread.

It is also unlikely that the rules would be imposed evenly in every global jurisdiction, so we would continue to suffer from patchy growth of the crypto sector. One of the primary benefits of crypto is that it has the potential to bring more people into the global economy, bringing banking to the under-banked, for example. An uneven imposition of a regulatory framework or frameworks would severely reduce this benefit.

Work together

Alternatively, some regulators and some in the crypto sector could take a more accommodating stance to each other and start to work together. This would be the best-case scenario for protecting the innovation that the sector has to offer while at the same time creating an environment where scam projects would be simpler to spot. Admittedly there would be a price in terms of freedom and flexibility, but the benefits would include significantly more confidence among potential investors which would help crypto scale up more quickly.

The challenge at the moment is to work out which of these three options are likely to become reality. In a world where crypto is built on optimism, I like to hope that collaboration will win the day. We may not be so lucky though.