Case Study 1 — The FTX Collapse: Information Asymmetry in the Crypto World
In November 2022, FTX — the third-largest crypto exchange in the world, valued at $32 billion — collapsed in a matter of days. Its founder, Sam Bankman-Fried, was later convicted of fraud. The collapse wiped out billions in customer funds and sent shockwaves through the crypto industry.
What happened
FTX used customer deposits to fund risky bets at its affiliated trading firm, Alameda Research. The information asymmetry was extreme: customers believed their deposits were safely held; in reality, they had been lent to Alameda without disclosure. When Binance (a competitor) announced it would sell its FTX tokens, a classic bank-run dynamic ensued: customers rushed to withdraw, FTX couldn't meet redemptions, and the exchange collapsed.
The frameworks
This is Chapter 16 (information asymmetry) + Chapter 26 (bank run) applied to crypto. FTX performed bank-like functions (held customer deposits, offered lending) without bank-like regulation (no FDIC, no reserve requirements, no disclosure rules). When the information failure was revealed, the run was inevitable.
The lesson
Crypto exchanges that hold customer assets are performing banking functions. Without the regulatory infrastructure that makes banking safe (deposit insurance, reserve requirements, auditing, disclosure), they are vulnerable to exactly the same failures that motivated banking regulation in the first place. The FTX collapse is the strongest argument for crypto regulation — not to ban crypto, but to apply banking-style protections when crypto firms perform banking-style functions.
Discussion questions
- Apply the Diamond-Dybvig model to the FTX collapse. How is it similar to a traditional bank run?
- Should crypto exchanges be regulated like banks? What would that look like?
- "FTX was just fraud — it doesn't tell us anything about crypto in general." Evaluate.