In 2009, there was a young man named Satoshi Nakamoto...sorry, it may be too long ago. So, let's start with 2021.

In discussing the future of cryptocurrencies on the Tim Ferris Show with Ethereum co-founders hosted by Naval Ravikant, Vitalik Buterin highlights some things that could open Pandora's box“I think the bitcoin ecosystem does have its own time bombs, Tether is an example"。

What is Tether and why is it a ticking time bomb? What makes Vitalik Buterin think this is a "Bitcoin-only" problem?

Conversely, some are already labeling it a cryptocurrency Lehman Brothers, potentially sending cryptocurrency into an "ice age" and possibly preventing further adoption (in the best case scenario) , or it could collapse the entire cryptocurrency world (an obstacle or irreversible point, Nassim Nicholas Taleb has repeatedly warned).

In the case of Lehman Brothers, the paradox of centralization was that it ultimately prevented systemic collapse. In fact, central players like the Fed and the government rescued the financial system (first AIG, then TARP, which injected $700 billion of liquidity into the financial system).

In the world of encryption, if there is no killer weapon responsible for preventing systemic risks, everything will go wrong. Does this mean the end of everything?

I believe answering these questions is critical to ensure that we continue to see the development of the blockchain and crypto ecosystem and the real realization of our dream of Web 3.0. However, to achieve this goal, we need to be clear about the short-term threats that exist today.

Out of all the scam projects, rumours, and cults that go on in cryptocurrencies, Tether is one of the most dangerous because it's being sold as the "real commodity," possibly masquerading as the greatest Ponzi scheme of all time.

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A Quick Look at Tether's History

Bitcoin gained traction in 2010, and the idea of ​​enabling other tokens to build on top of the Bitcoin protocol began to emerge (in fact, this was the original idea for Ethereum in 2014).

This gave birth to the Mastercoin project, whose vision is to solve the two most important barriers to mass adoption of Bitcoin - insecurity and instability.

As a result, Mastercoin has been credited by some with "inventing the ICO" space. By 2015, Mastercoin will be renamed Omni.

The rebranded Omni protocol will serve as the basis for Tether, on top of which it is built (Tether is also an ERC20 token - built on top of the Ethereum blockchain protocol). Tether, meanwhile, was originally called "Realcoin" before being renamed Tether in 2014.

As its website explains, today "Tether tokens exist as digital tokens built on the Bitcoin (Omni and Liquid protocols), Ethereum, EOS, Tron, Algorand, SLP, and OMG blockchains."

Further explaining, “Tether platform tokens are 100% backed by Tether’s reserves. Tether tokens are convertible under Tether Limited’s terms of service. The conversion rate is 1 Tether USDT token (USDT) is equal to 1 US dollar.”

Tether has had a clear mission from the beginning, which is to facilitate the exchange of digital currencies by offering so-called stablecoins. A stablecoin itself is a digital currency pegged to an underlying asset. In Tether's case, that's the dollar.

So by pegging Tether to the U.S. dollar, anyone converting their cryptocurrency back to a stablecoin has the advantage of being able to trade between various digital assets. They can do this without the wild price swings that are inherent in the crypto world.

In short, stablecoins have become liquidity providers, especially for centralized exchanges. As providers of liquidity, these currencies are only as good as exchanges accepting them as liquidity reserves.

There are currently several stable coins, such as the top three Tether, USD Coin and Binance USD, whose market capitalization is close to 100 billion.

These stablecoins have become so popular that at this point there is no real conversion between Bitcoin and USD, but the convention between Bitcoin and USDT (short for Tether) has been widely adopted.

This implication is important because it means that there is no bitcoin liquidity in fiat currencies (meaning you can't actually convert all existing bitcoins back to dollars - at least not those that go through centralized exchanges). This again poses serious systemic risks, as in the short term, large-scale liquidity shortages can easily occur if large amounts of USDT are converted into USD.

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Tether: Tokens for Centralized Exchanges

What is driving the mass adoption of stablecoins, especially Tether?

When people can easily convert stablecoins into dollars, it gives traders no reason not to use them, and there are several reasons for this phenomenon. However, the incentives of centralized exchanges largely drive the adoption of stablecoins.

One of the benefits of stablecoins is the lower intermediary fees required for transactions.

The second reason why stablecoins have become the digital currency of choice for investors is that some centralized exchanges have only accepted them from the beginning. According to the paper "WHAT KEEPS STABLECOINS STABLE?", as early as 2019, cryptocurrency exchanges such as Binance and Poloniex began to accept stablecoins as a medium of exchange.

This means that the "liquidity" of these exchanges is moderated by stablecoins (this implication is important because it allows us to redefine what it means to be liquid on these exchanges, and how to easily add liquidity).

This brings us back to a core problem with Tether. Because its core assumption is that in the case of large-scale liquidation, Tether can still redeem RMB while maintaining the exchange rate with the US dollar. The key problem here is that this exchange rate regime will not be maintained.

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How does centralized exchange liquidity work?

Ironically, centralized exchanges were one of the first viable business models built on top of Bitcoin. It’s a paradox, as the saying goes, “not your private keys, not your tokens” which means you don’t need anyone to hold your private keys for you.

Still, "we keep your private keys" has been the main business model of exchanges like Coinbase. Over the past decade, the crypto community has learned a hard lesson as numerous centralized exchanges have gone bust, most notably Mt. Gox in 2014.

So, what makes this centralized exchange business model successful? Because it allows more and more people to participate, and these users don't have to worry about wallets, storage and more complex issues.

You sign up for a site like Coinbase, which has a clean user interface and gamified sections (the platform allows you to earn bitcoins by completing a few basic Under the sudden operation, so that you feel that you are already an expert.

By using the tagline “You don’t have to worry about your private keys,” centralized exchanges have significantly increased their user base, and with the rise in prices of most cryptocurrencies, it has become very profitable to operate a centralized exchange.

In the first quarter of 2021, the revenue of platforms like Coinbase increased nearly 10 times, from $179 million to $1.59 billion. The business model of the entire centralized exchange is based on transaction volume, because they mainly make money through transaction fees.

Thus, centralized exchanges have worked wonders in the crypto market by easily expanding their user base.

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Back to Tether

Why do stablecoins solve liquidity problems but create other serious systemic risks?

In a 2018 article titled "Why Stablecoins Make No Sense," Tether was called a "naive stablecoin" because it was not introduced as a standalone currency. Instead, it's more like a banknote or promise to pay, which tells you that if you want to exchange USDT (Tether) for USD, it will be easily supported.

But there's a catch here, because what makes a banknote valuable is how much you can trust the bearer. It is worth noting that the bearer of Tether is a private company called Bitfinex.

This is why 2021 is a pivotal year for decentralized exchanges (DEX). As Decrypto puts it, "allows exchanges to exchange tokens without relying on buyers and sellers to create liquidity."

Currently, DEXs are dealing with some fundamental problems (such as the so-called "carpet pull", which is one of the most difficult problems for a decentralized platform not governed by any central government).

In short, centralized exchanges use stablecoins to solve short-term liquidity (one of the biggest problems with cryptocurrencies), but they also create a series of problems, especially related to Tether. At its most basic, they just centralize the system by requiring that investors must trust the holders, killing the entire premise of a blockchain-based system.

It only gets worse when the bearer is a private company that lacks transparency.

Let's get started on Bitfinex.

Bitfinex Overview

Bitfinex is a very popular centralized exchange (because of Tether), making it among the top five centralized exchanges.

It is headquartered in Hong Kong-based iFinex Inc., while Tether is primarily issued by a company called Tether Limited, which is owned by the same owners as Bitfinex.

So what's the problem?

Let's look first at the red flags that are untrustworthy for holders.

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First red flag: the lie of a 1:1 peg to the dollar

Back in 2018, Bitfinex was accused of hiding $850 million in funds disguised as Tether reserves.

As the New York Attorney General put it, “Bitfinex and Tether recklessly and illegally concealed substantial financial losses in order to sustain their schemes and protect their bottom line,”

Attorney General James continued: "Tether's claim that its virtual currency has always been backed by the U.S. dollar is a lie. These companies are hiding the real risks to investors, and they are run by unlicensed, unregulated individuals and entities in the financial system. Trading in the Darkest Corners. The resolution makes it clear that those who trade virtual currencies in New York State believe they can get around our laws. Last week, we sued to shut down Coinseed’s fraudulent practices. This week, we will take action to end Bitfinex and Tether’s illegal activities in New York. These legal actions send a clear message that we will stand up to corporate greed, whether it comes from traditional banks, virtual currency exchanges, or any other type of financial institution.”

Therefore it can be concluded that:

Today's deal forces Bitfinex and Tether to stop all transactions with New York residents. In addition, to ensure compliance with this restriction, these companies must submit monthly reports to OAG.

This example has already raised major questions about Tether’s suitability as a stablecoin, and we are in an era where size is still limited to under $1 billion.

Today's agreement forces Bitfinex and Tether to cease all transactions with New York residents. In addition, to ensure compliance with the ban, these companies must submit monthly reports to OAG. This case has raised concerns about Tether as a stablecoin, all of which could have been avoided in our day and age as the size is still limited to under $1 billion. Back in 2018, a New York Times article also claimed that the price of Bitcoin was manipulated by Tether in 2017.

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Source: Tether

First launched in March 2021, Tether has grown into something of a behemoth.

As noted by the Financial Times, while Tether claims a 3.87% cash reserve, it also has a large commercial paper reserve, propelling its global dominance.

Therefore, the most worrisome part of this research report is the commercial paper backing, which represents Tether's most important backing.

According to Coindesk, commercial paper is a form of corporate debt that can be converted to cash at any time, or not, depending on the issuer and market conditions.

Coindesk further noted that Tether declined to name the debtor or collateral for the loan. "

Therefore, there are still many questions to be answered.

The third red flag: Tether money printing machine

In a Twitter post by Nassim Nicholas Taleb and Paul Santos, Paul Santos highlights two very important points:

• Bitcoin price action is dominated by Tether trading pair BTC/USDT, not BTC/USD, check the volume chart. Tether is BTC even if you have never traded Tether.

• Exchanges lack liquidity. They all shut down at the same time when a market crash needs to stop dollar outflows.

Taleb replied: "It effectively prints Tether if done correctly."

If this is correct, it means that like central banks, Tether is creating money to inject short-term liquidity in the economy (thus facilitating speculation), but behind it there is a private company that we know about Very little, if not for the recent breakdown they've provided.

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By expanding the user base of investors, centralized exchanges have become a major enabler of the crypto economy with the tagline "You don't have to worry about your private keys." Since most banks still consider cryptocurrencies to be highly risky, no or few traditional banks are willing to do business with these exchanges.

This has led to a solution to the short-term liquidity issues these centralized exchanges face: stablecoins.

The popularity of stablecoins, which are essentially encrypted versions of paper money in which cardholders maintain a stable peg between the digital currency and an underlying asset like the U.S. dollar, depends on the willingness of central exchanges to accept them they.

Stablecoins have proven to be very successful in 2021 because they allow investors to avoid paying higher intermediary fees. It allows people to convert them into other digital currencies at any time, but it also poses a huge systemic risk. All in all, the BTC/Tether peg could be a large part of Bitcoin's liquidity.

To summarize, if you want to convert Bitcoin back to USD, you have to go through USDT (Tether) first. If Tether is not backed by actual dollars, there is no liquidity at all.

To make matters worse, if there is a liquidity outflow, the entire crypto industry may be vulnerable. What happens if there is no central authority to save the system? This is worth thinking about.