FTX failure divides lawmakers on how tough to get with crypto regulation
John J. Ray III, CEO of FTX Group, testifies during the House Financial Services Committee hearing titled Investigating the Collapse of FTX Part I, on Dec. 13, 2022, at the U.S. Capitol in Washington, D.C. Ray took over the FTX after the resignation of Sam Bankman-Fried. Photo by Nathan Howard | Getty Images
Members of a U.S. House committee disagreed at a Tuesday hearing about whether more aggressive federal regulation would have protected customers from the collapse of cryptocurrency firm FTX and the alleged fraud of its founder, Sam Bankman-Fried.
Lawmakers at the four-hour House Financial Services Committee hearing appeared to view the unfolding scandal around Bankman-Fried, arrested Monday in the Bahamas, through the prisms of their existing positions on cryptocurrency, a relatively new technology whose regulations are still being written.
Meanwhile, the sole witness at the hearing, FTX CEO John Jay Ray III, who was hired last month to oversee FTX’s bankruptcy, called the crypto scheme “old-fashioned embezzlement.” Bankman-Fried had been scheduled to appear before Congress until his arrest.
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A federal prosecutor also alleged Tuesday afternoon that Bankman-Fried’s crimes include unspecified violations of campaign finance law in contributions to federal candidates from both political parties.
A handful of Democrats on the House panel argued that Bankman-Fried would not have been allowed to easily comingle customer funds and loan money to himself — as federal prosecutors have alleged — if FTX was subject to more aggressive oversight.
Some Republicans, though, said Bankman-Fried’s actions were nearly identical to other fraud schemes using other financial instruments — and should not be viewed as a problem inherent to crypto.
Bankman-Fried shifted customer money from FTX to Alameda Research, a hedge fund he almost entirely held, committee Chairwoman Maxine Waters, a California Democrat, said, allowing him “to effectively gamble with customer money without their knowledge or consent.”
“If FTX was registered as a securities exchange, several laws would have required the segregation of customer assets and prevented such clear conflicts of interest,” she said.
Another California Democrat, longtime crypto critic Brad Sherman, said the FTX example validated his view that cryptocurrency holds little purpose other than to help criminals avoid detection.
“My fear is that we’ll view Sam Bankman-Fried as just one big snake in a crypto Garden of Eden,” Sherman said. “The fact is, crypto is a garden of snakes.”
Incoming chairman says FTX unique
But others, including ranking Republican Patrick McHenry, a North Carolinian who is set to become the chairman of the committee when Republicans take over the U.S. House in January, said Bankman-Fried was a unique example.
McHenry compared Bankman-Fried’s conduct with famous fraud schemes related to railroads, real estate and Enron’s accounting scandal. Those crimes did not mean anything about the underlying industries, and Bankman-Fried’s shouldn’t be made to impugn crypto, he said.
“It appears to be the same old-school fraud, just using new technology,” McHenry said. “We have to separate out the bad actions of an individual from the good created by an industry and an innovation. I believe in the promise of digital assets and those around the world building on blockchain technologies.”
U.S. Rep. Tom Emmer, the No. 3 House Republican, also said Bankman-Fried — not crypto itself — was to blame for billions of dollars in customer losses.
“I encourage my colleagues to understand Sam Bankman-Fried’s con for what it is: a failure of centralization, a failure of business ethics and a crime,” the Minnesota Republican said. “It is not a failure of technology.”
Emmer, a co-chair of the bipartisan Congressional Blockchain Caucus, has been a leading advocate in the House for crypto firms. He led a letter in March that objected to the Securities and Exchange Commission’s approach to enforcing cryptocurrencies. He’s said recently the FTX failure was an example of flawed enforcement.
As chair of the National Republican Congressional Committee, Emmer raised $2.75 million from FTX employees, including co-CEO Ryan Salame, for GOP candidates in the 2022 election cycle. He also accepted $5,800 from Salame — the maximum allowed by law — for his own reelection race.
U.S. Rep. Ted Budd, another member of the Congressional Blockchain Caucus who signed the March letter and received more than $500,000 from Salame’s independent expenditure political action committee, sits on the Financial Services panel but was not present at Tuesday’s hearing.
Budd, a North Carolina Republican, won a U.S. Senate seat last month and will take that office in January.
Political contributions were part of Bankman-Fried’s scheme, prosecutors have said.
Shortly after the hearing, Damian Williams, the lead prosecutor for the federal Southern District of New York where Bankman-Fried is being prosecuted, expanded on the allegations in a news conference.
Williams outlined four general areas of misconduct alleged by authorities.
The FTX founder defrauded customers of the crypto exchange known as FTX.com, lenders to the hedge fund known as Alameda Research and investors in FTX and violated campaign finance laws, Williams said, calling it “one of the biggest financial frauds in American history.”
Bankman-Fried diverted to the hedge fund billions of dollars that belonged to FTX customers. He lied to FTX investors about the source of the money, Williams said.
After taking money from FTX customers and putting it into the hedge fund, he also broke campaign finance law by making “tens of millions” of dollars in payments from the hedge fund to political candidates of both parties, using “wealthy co-conspirators” as intermediaries, Williams said, without naming any of the political beneficiaries or the co-conspirators.
“All of this dirty money was used in service of Bankman-Fried’s desire to buy bipartisan influence and impact the direction of public policy in Washington,” he said.
Bankman-Fried was previously known to be a major funder of Democratic campaigns, contributing $27 million to a political action committee that supported Democrats in 2022.
Sherman at the hearing urged his colleagues to reject Bankman-Fried’s desired influence and not pass a bill that he said would create unserious “baby regulations” on crypto.
“Don’t trash Sam Bankman-Fried and then pass his bill,” Sherman said. “I fear that could happen because Sam was not the only crypto bro with PACs and lobbyists, and there is no PAC or lobbyist here to work for efficient tax enforcement or sanctions enforcement.”
Sherman didn’t specify a particular bill, but Bankman-Fried was a vocal supporter of a measure that would give the Commodity Futures Trading Commission more authority to regulate cryptocurrencies and other digital commodities.
Members of the panel lamented that they were unable to question Bankman-Fried under oath, with some speculating that prosecutors could have added a lying-to-Congress charge to his indictment.
Ray, an experienced bankruptcy lawyer who was also installed as the CEO of Enron in 2001 to oversee that company’s bankruptcy sparked by a fraud scandal, did not commit to a position about the proper role of federal regulation in crypto.
Ray did say FTX’s poor record keeping and lack of internal controls were among the worst he had ever seen.
“I’ve just never seen an utter lack of record keeping, absolutely no internal controls whatsoever,” he told New York Democrat Nydia Velázquez, and called it “old-fashioned embezzlement” in an exchange with another member.
He also said it was not a “sophisticated” plan.
“This just taking money from customers and using it for your own purpose,” he said. “Not sophisticated — sophisticated … perhaps in the way they were able to sort of hide it from people, frankly, right in front of their eyes — but this isn’t this sophisticated whatsoever. This is just plain old embezzlement.”
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