FTX, Central Exchanges, and wallets

This past week has been an absolute maelstrom of emotions with the collapse of FTX hitting home. Thankfully to a much lesser extent than others, but nonetheless, the burden weighs on me as an individual and to everyone affected by it.

But I thought I’d try to unravel my thoughts on what this means with regards to product design through writing. I’ve never written a piece before, so please bear with me.

As many of you are starting hear by now, the collapse of FTX has sent shockwaves throughout the industry. Twitter is awash with the latest meme or the latest insider commentary. LinkedIn is quickly also becoming a source of reflection for people to vent, and reiterate the adage of “not your keys, not your crypto”. It’s becoming more or less the same experience of grief.

But I’m not here to add further commentary on it, because I’m not qualified to do so, and venting more than what’s out there really isn’t constructive to the situation. I want to understand why this happened, and why this isn’t the first time better through reflection.

FTX, central exchanges, and blockchains…

Whether you’re familiar with FTX or not, it was lauded as the traders platform.

Without delving too far into the platform and what it meant to people, the gist of it was that the platform represented a stepping stone towards a future where the future of finance was available en-masse. A sort of “bank” if you will. One that enabled the individual to embark on a financial journey that allowed them to grow their wealth, and partake in the future of cryptocurrencies. All the while, without requiring the individual to have particular technical prowess of the blockchain and its inner workings (more on that in a bit).

It was a stepping stone for many individual, but also a bank they were supposed to be able to trust.

In truth, FTX is but one of many central exchanges. They all serve this kind of “future bank” purpose in my view. Unfortunately, the concept of the central exchange (CEX), goes against the general belief systems of crypto and web3.

Remember I mentioned “not your keys, not your crypto” earlier? Well, that’s exactly the problem. Any of the assets stored on the CEX don’t technically belong to you (in the sense that crypto belief systems work). Which is why this FTX debacle, is yet another shining example of that adage.

So why do people still trust a CEX? From an individuals standpoint entering in the crypto space, a CEX makes a ton of sense. It provides a lot of things that the more experimental products like DeFi isn’t able to (yet):

1. A sense of trust — let’s face it, were investing our livelihood here. As individuals we want to have some semblance of trustworthiness to know that our funds are being taken care of when we deposit it somewhere (so much for that right?).
2. A limited set of functions & technology to learn—any new product/app we use has a learning curve, some more complicated than others. With a CEX, we’re working within a framework, and within that framework, functions generally act and behave the same. This makes learning and using the product easier, faster and safer.
3. Blockchain without the blockchain—so while CEX utilize the blockchain, the average user isn’t installing an extension in their browser, saving their seed phrase (or private key), and connecting to mysterious websites while signing for a transaction over the blockchain. Oh, I forgot, you can’t process a transaction over the blockchain unless you have the blockchains native token to pay for transaction fees. A CEX allows people into the space while abstracting all that technicality.
4. Blockchain without the blockchain (again) — further to that, imagine you’re an investor and you buy stocks, do you need to switch to different channels to purchase different stocks? Do you need to have USD to buy a US stock, and JPY to buy a Japanese stock? Generally that’s a no right? But with crypto assets, you typically are expected to access different blockchains to purchase the token (different blockchain what?). A CEX, again masks this complexity and facilitates the transaction with much less friction.

Here’s a meme (I hope it’s a meme)

The CEX as a concept is exemplary of how new users onboard into crypto and web3 in general. I want to buy cryptocurrency, I deposit money and buy. It’s very consistent with how brokerages and other purchasing experiences work.

It unfortunately is flawed in the sense that the money you deposit, doesn’t belong to you. That really sucks.

This is also why we see countless examples of people getting burned really bad. To add salt to the wound, because it isn’t regulated or insured in the sense government approved entities are, users that deposit have little to no protection when the platform goes belly-up. Even if users get money back, it’ll be after a long period of time and it might even be pennies on the dollar (after all the creditors/investors are paid first).

That said, investing is a risky endeavour. Using new technology is too. This is a learning experience for people that are affected, and those that are not.

But it doesn’t detract from the usefulness of a CEX in my view. It simplifies the onboarding of people into the crypto space much faster and easier. What we need to realize and understand with crystal clarity is that, this isn’t a bank. It isn’t your bank. It merely is a wallet through which you facilitate transactions. Remember, it’s a wallet that doesn’t belong to you really.

Thanks VentureBeat for this image

Wallets–like the one in your purse/back pocket?

Sort of? I mean conceptually they’re supposed to mean that, but how we use these things are completely opposite to what you might imagine. A wallet is used only for DeFi (decentralized finance). This is the wild west now, hold your hats and make sure your toilet is in order (more on that later).

Remember I mentioned earlier in ‘Blockchain without the blockchain’ a series of steps that a person has to do? Well, that’s what you basically have to do with a “wallet”. To avoid you scrolling up and down here are the steps again for you to set yourself up with a wallet:

1. Determine the blockchain you want to transact on — Ethereum? Solana? EVM compatible? Harmony? Aptos? Sui? I’ll stop there, there’s way too many to list out.
2. Find a supported wallet for that blockchain — think something like Metamask for Ethereum, Phantom for Solana etc.
3. Download it for your browser — modern day browser have extensions you can download, and these wallets come in that format for purpose.
4. Set it up — here’s where the fun starts, you walk through their onboarding process and set up a password, as well as saving an extremely important piece of information; your private key/seed phrase. Without it, you’re stuck out of luck accessing your funds in the future should you set up the wallet again. They advise you to not save it as an image, and they tell you to write it down on a piece of paper or chisel it onto stone for posterity (eh, you never know when your toilet my burst and wreck your precious piece of paper right). Put it safely somewhere, a place where only you know where it is, but not so hidden that your loved ones can figure out in the event that your unable to access it yourself. So easy right?
5. Finalizing set up — still with me? You’ve got your wallet set up now, and your balance says 0.00. What do you do now? Buy some crypto! Now, I won’t go further into figuring that part out, but that’s where the set up ends practically for your wallet.

So, that’s the setup of your wallet. Does that sound harder or easier than a CEX for someone that might not be technically as savvy as you?

But wait there’s moaaarrr! So you decided on a blockchain to try stuff on, and you’re getting the hang of it now; lets say you started on Ethereum using Metamask. Now, you want to venture out now and try to explore Solana, what now? You find a Solana dApp (decentralized application) and you connect with Metamask right?

NOPE! You gotta go through all those steps again to find a supported wallet like I said in step 2, and go through the same process again for your Solana supported wallet! So now you have TWO seed phrases to take care in the event your toilet bursts and destroys your entire net worth because you can’t access your funds on the blockchain as it’s lost in the ether (I feel for anyone who’s had this experience, this example is purely fictional).

Repeat this process across all blockchains you want to participate in, and amplify the risk of your net worth being evaporated by exploding toilets that ruin your pieces of paper with the seed phrase on it 💩.

Ok, wow. I had a little too much fun painting that picture for you. My point is, a wallet in DeFi is the only way you transact. It is also your custody and sole responsibility that your funds/net worth is protected. Sounds reasonable right?

IYKYK

This is what DeFi is about, or rather crypto. It’s about self-custody and ownership of what belongs to you. Not placing your livelihood in the hands of greedy individuals that take your money to invest in flat-lining investments (couldn’t help myself, the wound is still fresh).

But the problem as you’ve seen is, it’s really really freaking difficult. I’ve been in the space for about 3 years now. I had the benefit of working as a designer, looking for solutions at a CEX early on and dove into the deep end every single day to learn this. The average person doesn’t have that patience or inclination. Some just want to invest.

And why should it be so difficult? Again (I like to refer to previous points I make a lot), as I touched on previously, when you buy stuff you don’t switch wallets to buy one thing and then another. At best you switch currencies, but it’s the same damn wallet essentially.

One shouldn’t have to use multiple wallet types to transact when trying to do something as simple as buying an asset/currency right? I haven’t even started to talk about operational security (opsec) for wallets either. That’s an entirely different bag, but long story short, these dApps sometimes hide malicious code that steal all your damn money if you approve the transaction. So what’s the solution? You have multiples of wallets to facilitate this (think more exploding toilet situations, while someone is trying to break into your house).

There is no conclusion

You’ve read this far, what’s the conclusion? Honestly, there isn’t one right now. We have 2 really great products that move the needle, but we have reams of problems that come with it.

A lot of the problems are being human. We want to feel a sense of trust in things/people we put in. In a CEX, we hope that the CEO isn’t loaning your funds to cover debts. In a dApp, we hope that the “smart contract” isn’t hiding malicious code that pulls a fast one on you to make you sign all your funds away in the transaction (this is as much human as it is technology).

The general idea is that CEX’s don’t exist, but without it, users everywhere need to learn how to navigate the complexity of DeFi across different blockchains. Sure, fundamentally blockchain interaction is fairly consistent, but it still doesn’t solve the exploding toilet problem (my first written piece and I’ve coined a term — nice).

Wallet’s in my view should be chain agnostic. Opsec, should be built into the wallet (let’s face it, there are always bad actors out there) and the person is responsible for adjusting the levels of security. Wallets also need to offer an offramp solution; give the user the opportunity to own a crypto-debit card that uses crypto and spend fiat or crypto where it’s accepted. It’s no good being a paper billionaire and not being able to spend it.

After all, why do we invest to begin with right?

These problems aren’t solvable overnight. Just as we argued about hamburger menu icons in the early 2000’s, we’ll figure out the best ways to do things, but also learn to adapt to certain others.

This onslaught has reminded us a lot of things. But it’s forced me to reflect deeper on the problems that challenge us believers of crypto and web3.

I hope you’ve enjoyed this. Thanks for your time.