Another possibility is that Tether is what’s known as a wildcat bank, or an entity printing banknotes that are not backed by reserves, despite its claims. The behavior of both Tether and Bitcoin since September lends credence to this notion. Since September, Tether has issued $1.9 billion in new Tethers, mostly $100 million at a time, and transferred them to its associated BitFinex exchange. These new Tethers then entered more general circulation.
This influx in new “money” almost certainly figured in the massive increase in Bitcoin’s price between September and December, much as a previous Bitcoin bubble was fueled by a scheme in which the MtGox Bitcoin exchange bought Bitcoins with nonexistent U.S. dollars. The difference here is that Bitfinex/Tether created their money in public view.
To believe these were legitimately issued and properly backed Tethers, one would also have to believe there was significant activity by large (presumably institutional) investors who wished to speculate in the cryptocurrency space and chose not to go with Coinbase, a U.S.-regulated cryptocurrency exchange based in San Francisco. Instead, these hypothetical investors willingly took on the risk of purchasing cryptocurrencies on unregulated exchanges, in addition to the inherent counterparty risk in Tether. And one has to believe that they did this even though these unregulated exchanges have a history of getting hacked, with customers losing their investments, and are known to facilitate various forms of fraud, including spoofing and wash trading.
The Commodity Futures Trading Commission reportedly sent a subpoena to Tether and Bitfinex in December, seeking information. Even after that, $1 billion in new Tethers was issued. There is reason for U.S. regulators to be interested: Many Americans participate on the Tether-only Bitcoin exchanges. After it lost banking access last April, Bitfinex effectively converted every user’s assets to Tethers. This conversion affected the U.S. customers who were officially supported at that time.
If a criminal investigation isn’t underway, one should be opened—with a public notice to warn those who are unaware of the risks of engaging in cryptocurrencies. The arrest of participants in the Liberty Reserve scheme effectively wiped out the value of Liberty Reserve Dollars, affecting both criminals and legitimate customers. Simply announcing an investigation may be sufficient to disrupt the Tether ecology. Prosecutions certainly would.
Striking at criminality around Tether is likely to cause follow-on disruptions that would disrupt the unregulated cryptocurrency ecology. This could eliminate a probably fraudulent source that inflated the most recent bubble and stands to cripple other exchanges that don’t follow banking laws and regulations. The results stand to reduce options for criminal transactions and minimize cryptocurrency bubbles—in other words, society would benefit all around.
Nicholas Weaver is a senior staff researcher focusing on computer security at the International Computer Science Institute in Berkeley, California, and a lecturer in the Computer Science department at the University of California at Berkeley. All opinions are his own.
