One Year After the Terra-Luna Reset: Trust Rebuilt, Centralized Exchanges Will Continue to Exist
One year after the reset of Terra and Luna, centralized exchanges will continue to exist as trust is rebuilt.
Translation: BlockingBitpushNews Mary Liu
This month marks the one-year anniversary of the Terra-Luna incident and the six-month anniversary of FTX’s collapse. These events represent the beginning and climax of a series of cryptocurrency projects detonating, severely shaking people’s confidence in cryptocurrencies and triggering the most terrifying survival crisis in the 15-year history of the cryptocurrency industry.
Although there has been a recovery this year, with Bitcoin up nearly 65% so far this year, these historical events are still worthy of continuous reflection on how the cryptocurrency industry can rebuild itself better.
First of all, we should acknowledge that these events are not a failure of blockchain technology, but rather the result of poor risk management and corporate governance, with some failed companies engaging in fraudulent behavior. The market continues to recognize the integrity and innovative potential of blockchain, with a large influx of funds flowing into decentralized exchanges after FTX’s collapse, as well as positive reactions to the transition to Ethereum’s Proof of Stake (PoS) and the Shapella upgrade.
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However, despite these developments, centralized digital asset exchanges (CEXs) will continue to remain relevant and exert huge influence as key entry points for the asset class, especially as their maturity and institutional adoption rates increase. After all, they are still the dominant platforms in digital asset trading.
According to DefiLlama data, as of mid-May 2023, the total trading volume of CEXs accounts for nearly 90% of all centralized and decentralized exchange trading. Despite the blow to investor confidence last year, the future of CEXs remains bright.
However, what the industry does need to address are the many weaknesses brought about by interdependence and the early spirit of “quick action and breaking conventions.” To overcome this crisis of trust, CEXs need to address the need for better investor protection, risk control, and prudent governance structures.
CEXs will continue to exist
Managing a digital asset portfolio is operationally complex, and investors need a comprehensive set of capabilities such as custody, trading, investment products, consultation, and efficient fiat currency inflow and outflow channels. In this regard, many CEXs integrate these solutions into one platform, greatly reducing the technical complexity of owning and managing different blockchain-native tokens. The value proposition is clear when considering alternative solutions: investors manage multiple wallets and directly participate in multiple liquidity pools across different blockchains. Although some investors are capable of doing so, the high learning curve indicates that CEXs will still be the preferred platform for many.
Investors who actively manage their investment portfolios may also want to rebalance their asset allocation between traditional and digital assets on a regular basis. Therefore, the fiat currency deposit and withdrawal infrastructure layer in CEX is very important, especially during market volatility.
Security and safety are other advantages that CEX can provide. Although the slogan “not your private key, not your token” has been circulating in the industry, according to data from Chainalysis, 18% of all stolen cryptocurrencies in 2022 came from CEX, and the remaining 82% came from decentralized applications. Although CEXs still have a long way to go in better protecting customers from network disruptions, they are relatively more secure. As the industry works to regain trust and enhance its network security systems, the security gap between CEXs and decentralized applications is expected to continue to widen.
Finally, one often underestimated benefit of CEXs, especially those serving high net worth and institutional clients, is that “there’s a customer service phone number” that makes you feel more at ease if something goes wrong. This is especially true for investors who manage assets on behalf of clients, such as family offices and hedge funds. Horror stories about millions of dollars worth of Bitcoin being locked in wallets and unable to be retrieved are all too common, and investors will find value in working with centralized exchanges (CEXes) that provide dedicated hotlines or account managers.
Rebuilding Trust Through Asset Segregation
While CEXs may continue to exist, one area these platforms must improve on is the separation of customer and company assets. Now, more scrutiny surrounds this than ever before. Policymakers such as U.S. Treasury Secretary Janet Yellen believe that asset segregation is a critical area that needs to be addressed in future regulatory frameworks, largely to prevent cases like FTX’s commingling of client funds from happening again, which resulted in significant losses for many retail investors when the exchange went bankrupt.
Prior to the collapse of FTX, the Monetary Authority of Singapore (MAS) issued a consultation paper in October 2022 proposing new regulations that require cryptocurrency platforms to separate their assets from their clients’ assets, and sought industry feedback on whether cryptocurrency platforms should appoint independent custodians to protect client funds.
Therefore, CEX should reconsider the notion of “one-stop service.” While having a seamless front-end user interface between custody and trading makes sense, investors’ assets should be separately held by external and qualified custodians, such as banks or registered broker-dealers. CEX should seek and publish independent proof from auditors to verify that assets are indeed segregated and that robust risk and governance requirements are in place.
Instilling Trust in Trustless Systems
When Satoshi Nakamoto published the groundbreaking Bitcoin white paper in 2008, they envisioned a monetary system that no longer relied on blind trust. Yet, the entry point into digital assets for most investors today—the exchange—still operates in a way that is almost opaque.
The events of 2022 have shown that to move the industry forward, investor protections, transparency, robust governance structures, and delivering value to customers must be at the forefront of how exchanges are established and operated. CEXs that embrace these values will find themselves with a competitive advantage, as investors increasingly rely on trusted centralized platforms to manage their digital asset portfolios.
As we continue to rebuild, the industry may return to its origins: an ecosystem of finance born from a vision of fairness, transparency, and efficiency.
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