Crypto bank runs that happened last year in 2022, resulting from the failure of multiple ecosystem giants, had a significant impact on the crypto industry. A research report from the Federal Reserve Bank of Chicago (FRBC) has identified several key factors and catalysts that accelerated last year’s crypto crisis. According to the report, withdrawals by crypto whales and large account holders on centralized exchanges created a liquidity crisis that eventually led to the bank run.
The FRBC report highlighted the failure of Terra, which led to a massive customer outflow from several crypto lenders with exposure to the Terra ecosystem. Celsius and Voyager Digital saw outflows of 20% and 14% of their customer funds, respectively, in the 11 days after the collapse. The report noted that Celsius had invested nearly a billion dollars in Terra’s failed algorithmic stablecoin.
The report also identified Three Arrows Capital’s (3AC) downfall in July 2022 as another major catalyst for the crypto crisis. Several lending platforms had lent billions in crypto assets to 3AC, resulting in a major crisis after its failure:
1. Genesis Capital provided 3AC with loans totaling around $2.4 billion.
2. BlockFi provided $1 billion to 3AC.
3. Voyager Digital provided $350 million and 15,250 Bitcoin, worth approximately $328 million in July 2022 to 3AC.
4. Celsius provided around $75 million to 3AC.
On the other hand, the collapse of crypto exchange FTX in November 2022 led the cryptocurrency exchange to a loss of almost 37% of its customer base as word of its financial instability spread. Following FTX’s failure, customers of Genesis and BlockFi withdrew respectively 21% and 12% of their investments.
The FRBC report observed that although most of these failed crypto platforms had a significant retail customer base, institutional client withdrawals led to a major crisis. The report noted that before June 9, 2022, several institutional clients had given Celsius a $1.9–$2 billion funding contribution.
Source: FRBC
Those with investments totaling over $500,000 — withdrew funds at the fastest rates and proportionately more quickly than other account holders. For example, owners of accounts with more than $1 million in investments made up 35% of all withdrawals at Celsius.
Source: FRBC
The research report observed that although large customer withdrawals accelerated the crisis, crypto lending firms offering high yields through risky investments were the real culprit. Unlike banks, these lending platforms offered no security or insurance against such failures, and as a result, customers panicked during the downturn in the market.
The crypto industry’s lack of insurance for depositors on crypto platforms induced fear among retail and institutional clients, leading to heavy withdrawals and a liquidity crunch. The bank runs in the crypto industry in 2022 had a lasting impact and raised concerns about the overall stability of the crypto market.
According to a report by Immunefi, a bug bounty and security services platform for the Web3 ecosystem, scams and frauds continue to be the most significant challenge facing the cryptocurrency industry, with over $3.9 billion worth of crypto stolen in 2022. With such incidents, investors and users are becoming more cautious about investing in the crypto market.
The bank runs and such scenarios highlight the need for better regulation and insurance policies to provide greater protection for investors and customers. The industry must focus on building trust and transparency to ensure its long-term sustainability and growth.
