The financial markets were hit by another hack today, but it wasn’t on a mainstream company. Instead, it was a hack of the cryptocurrency company Tether, which offers to “tokenize” fiat currency into cryptocurrency. In this way, the company offers to allow clients to utilize blockchain technology to facilitate transactions on popular cryptocurrency platforms such as Bitfinex and Poloniex. Tether reported on November 21st that they had been hacked and $31M worth of its coins were stolen.
Blockchain is the underlying technology for the popular cryptocurrency Bitcoin. Since cryptocurrencies are not universally accepted for commerce in the United States or most major countries, exchanges have become a popular means of converting them into government backed currencies. However, with Tether, the idea was to create another means of exchanging fiat currency for cryptocurrency by making a proxy version of US dollars.
Tether promised to maintain an account where all fiat currencies deposited would back the cryptocurrency tokens it issued on a 1:1 basis. In theory, this would allow more rapid settlement of exchange transactions by circumventing traditional channels for transferring funds, backed by the promise that each token was fully backed by existing US dollars in the possession of Tether. However, cracks began to appear in this story recently, as speculation on social media implied that the company was fraudulently inflating its declared reserves so as to issue many more tokens than it had reserves to back. Moreover, it has been suggested by several online blockchain publications such as CoinDesk that Tether is owned by the same group behind Bitfinex, which is presently the largest cryptocurrency exchange in the world.
The allegations are that owners of Bitfinex are using unbacked tokens issued by Tether to artificially inflate Bitcoin prices, and then cashing in on those inflated prices either through trading fees or by actually selling Bitcoin on the exchange. Since no transparent regulation exists for cryptocurrencies or their exchanges at this time, it is impossible to prove whether or not this is true. However, there are a substantial number of reports that seem to suggest that it is far from unlikely that this is occurring. We’ll see what impact these developments will have going forward on moves to regulate cryptocurrencies and their exchanges.