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Trust is one of the guiding principles of any business relationship. It is the proverbial glue that has spurred the interest in decentralized digital currency over the past decade. Most people lack the technical literacy to mine Bitcoin or navigate the complexities of blockchain transactions without a middleman, a cryptocurrency exchange. Hence the surge in the popularity of  FTXCrypto.comKraken, etc. One of the earliest entrances to the crypto exchange market, Coinbase, revealed in its first-quarter earnings report that it could hold on to user assets in the event of bankruptcy. Per Fortune:

Coinbase said in its earnings report Tuesday that it holds $256 billion in both fiat currencies and cryptocurrencies on behalf of its customers. Yet the exchange noted that in the event it ever declared bankruptcy, “the crypto assets we hold in custody on behalf of our customers could be subject to bankruptcy proceedings.” Coinbase users would become “general unsecured creditors,” meaning they have no right to claim any specific property from the exchange in proceedings. Their funds would become inaccessible.

https://fortune.com/2022/05/11/coinbase-bankruptcy-crypto-assets-safe-private-key-earnings-stock/

Only subverting the property rights of the investors utilizing the exchange, but it also sullies the image of one of the pioneers of this nascent investment market. In the absence of trust and reliability, there is no reason for patrons to continue doing business with Coinbase. With no guarantee that their investments are secure with the exchange, customers will seek alternative service providers. In effect, Coinbase’s own internal bankruptcy policy has created a Prisoner’s Dilemma. By implementing a policy that would not allow the user to claim their assets in the event of the firm’s financial demise, Coinbase is veering away from the interests of its customers. A foolish decision, but a defection. Patrons will reciprocate this defection by transferring their assets to either cold storage or other reputable crypto exchanges. The unfortunate consequence is that trust in the crypto community will be eroded. Cryptocurrency was founded on the principles of permissionless, immutable, and decentralized transactions and this culture will lose traction due to the infidelity of unscrupulous service providers. Especially considering the absence of trustworthy exchanges, the technical literacy required to participate in the crypto sphere is far too high for anyone without a programming or financial background. Effectively puts the whole claim of cryptocurrency being a path to financial inclusion into question. 

6 thoughts on “Prisoner’s Dilemmas: XVI – Coinbase’s Bankruptcy Policy

  1. Great post Peter!

    It reminds me (while not exactly germane to the subject) of how some firms offer “life-time” warranties on products and then subsequently file bankruptcy!

    Also, given your rather libertarian predilections I’m assuming you look favorably upon decentralized and privately owned cryptocurrencies. What are the dangers of the government-instituted digital alternative? Would they not be largely identical to those we face with fiat currency (I.e, inflation/depreciation, deflation, etc.)?

    Liked by 1 person

    1. Thank you. Regarding CBDCs, there are quite a few, while the Fed claims they aren’t interested in providing retail digital asset banking services now; there is always the risk of Disintermediation. In the absence of the buffer of private sector ( even though the Fed is technically private, I don’t quite see it as being so) it will be even easier to implement negative interest rates, taxes, and facilitate financial censorship ( Canadian truckers protest).

      I was working an an essay arguing against CBDC, then I realized that crypto is still subject to taxation, seizure, and surveillance under current law. So I am now pivoting to the BSA and third party doctrine.

      Liked by 1 person

    1. 1.) Bank Secrecy Act. 2.) not a law but a legal doctrine; third party doctrine. 3.) Notice 2014-21 relating to tax collection (although suppose that is more of Fifth amendment “takings” issues).

      I working to gain better comprehension of these laws and legal frameworks and how they apply to crypto.

      Liked by 1 person

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