The Road Ahead
Winning Back Trust In A Post-FTX Environment with Proof of Reserves
When the wreckage from the FTX crash was still splayed and smoking across the crypto highway, many exchanges scrambled to assure customers their books were both healthy and above-board. The behaviour — which was understandable, given the circumstances — felt dubious, as though the centralised exchange community were a group of high school buddies washing their hands clean of the one friend who got caught smoking outside class. The damage was already done, which only served to make the promises sound empty and forced.
Now that most of the wreckage has been cleared — though not the inquest, which, by the pace it is currently moving, will likely take some time — it feels right to revisit this topic again. At the time, the crux of every promise was to provide a proof of reserves; in essence, a snapshot of that particular exchange’s reserves. The motive (assumed, of course) behind this was to prove to customers that everything was okay, in a way that was instantly accessible and simple to understand.
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The issue, which many pointed out, is that a proof of reserves is a static form of proof; yes, it can show a safe, reasonable amount to have on reserve, but it provides no history. With the speed that financial transactions occur nowadays, a once-off glimpse into the health of an exchange is not enough. For there to be ongoing trust — or, in fact, any trust at all — from customers, an exchange must be able to provide a live document of their behaviour, so that customers can at least get a stronger idea of whether or not to invest with them.
An alternative to proof of reserves is the more detailed proof of solvency. Rather than just demonstrating to customers that a company has a certain amount of reserves on hand, a proof of solvency can provide a much more detailed account of a company’s financial health, by offering a range of financial metrics.
Again, though, it’s a static report, which given the entrenched volatility of the crypto market still seems a light promise. The counter-argument to this could be that traditional financial institutions are typically not required to present such proof, but any attempt to take this line of argument would be flawed. The world of crypto was born from a need to move away from traditional financial frameworks; critiquing it through the same lens is not only unhelpful, it’s counterproductive.
Some exchanges, such as Binance, have gone ahead and released a proof of reserves to the public, in an effort to start repairing the broken trust. The response has been mixed. Many in the community have questioned the relevance of the move, while others have highlighted the visible issues that such a move raises.
So what is the answer? Without knowing exactly what companies can offer customers as a means to not only build trust but maintain it, there needs to be a way that customers can easily access the rolling metrics of any central exchange, whenever they feel like it. Of course, it’s understandable that a measure like this could feel intrusive for an exchange, as though someone was constantly standing over their shoulder. But what other option is there? Total transparency, as squeamish as it may make anyone feel, should be at the forefront of any exchange’s daily/monthly, yearly mind. It’s a promise that needs to be kept.
