The logo of Tether, the company issuing digital tokens "tethered" to the value of real-world currencies.

Is a Shady Company Printing Fake Money for Free on the Blockchain?

The idea behind Tether is either brilliant, deviant, or likely some Bond-villain-esque mix of the two: mint a home-brewed cryptocurrency designed from the onset to maintain parity with the U.S. dollar, enabling fast, easy, and entirely unregulated access to the globe’s de facto reserve currency. Designed to be “tethered” to the real-world value of the dollar, Tether’s  USD₮ “tether” cryptocurrency tokens are issued on a blockchain (atop Bitcoin’s infrastructure via the “Omni Layer” protocol in Tether’s case) and are essentially digital IOU’s, each tether representing $1.

In contrast to actual dollars, however, these digital IOUs are much faster and easier to move, convert and trade across the globe than “real” U.S. dollars held by traditional financial institutions and are (so far) unhindered by legal regulation. Tether’s value relies on its growing adoption in some online communities, and in users’ trust in the British Virgin Islands-based company’s promise that each and every tether is indeed backed by an equivalent real-world dollar held in the company’s reserves.

Screengrab from Tether’s savvy homepage, which markets it for personal, mobile use. Via Tether.

Describing itself as “the modern movement of money” and “digital money for a digital age,” Tether ostensibly functions to make dollar payments easy and simple through its Tether.to service and app, which lets users to transact tethers, as well as buy or redeem them for the equivalent amount of real dollars. While the company’s website appears to market Tether as a legitimate payment service such as PayPal, ApplePay, or Square Cash, in practice Tether’s services seem to be most widely employed in the global cryptocurrency market.

By accident or design, Tether is in common use in the cryptocurrency world, making crypto traders’ lives easier by letting users transact in nominal U.S. dollar amounts if their particular legal jurisdiction or cryptocurrency exchange doesn’t support fiat currencies or dollar trading pairs. Additionally, in some countries—though not the United States, where regulations define all crypto trades as taxable stock sales— crypto traders can avoid capital gains taxes transacting in tethers, backed by the assurance that eventually they can cash out their USD₮ for real dollars, either through Tether’s app or on crypto exchanges offering the USD/USD₮ pair.

Despite advertising taglines cited earlier, Tether openly claims that their tether tokens “are not money, but are digital tokens formatted to work on blockchains” that “hold their value at 1:1 to the underlying assets” and are “backed 100% by actual assets in our reserve account.” In addition to a tether dollar, Tether also supports a tether version of the Euro (and plans as well to support the Japanese Yen), which Tether also purports to back fully in reserve.

Of course, despite its assurances that each tether unit is “backed 100% by its original currency” and that “Tether is always fully transparent,” the company maintains no current proof that it maintains full reserves for its tethers, worrying observers that the company could be at best dishonest or at worst explicitly fraudulent, essentially “printing” free money that its customers will then buy for real currency. Auditing firm Friedman LLP released a report in September 2017 which appears to suggest that Tether indeed maintains full balances of fiat currency in its reserves, however as of January 27, 2018, Coindesk reported that Friedman LLP had “dissolved” its relationship with Tether.

As shady as the collapse of Tether’s auditing process is, however, the dissolution is but one of many worrying signs for observers tracking the company. In late 2017 and early 2018, Tether has been producing a veritable flood of new money —er, “digital tokens formatted to work on blockchains.” While Friedman LLP’s memo reported that Tether had $442 million, since September Tether has begun to mint billions in new tether dollars. Tether’s USD₮ balance is currently more than $2.24 billion, a five-fold increase in tethers since the figures cited in September 2017.

The tether dollar’s market cap; note the sharp increase since fall ’17. Chart via coinmarketcap.com.

Tether still maintains that this vast influx of new ‘money’ is fully backed, but the amount and steep increase in tether issuance raises suspicions. Given that Tether is less than forthcoming with details in how it’s financed and where it maintains its purported billions of reserve currency, it seems highly unlikely that legitimate, organic Tether users or even—given Tether’s silence—large institutional investors could possibly fund such a precipitous growth of tethers. Twitter account Tether Printer  serves as an independent watchdog to track activity on Tether’s USD₮ blockchain, notifying the web when the company generates new batches of tokens. Of particular note are large batches minted in December and January; at times, Tether was issuing batches of $100 million in tethers every day.

Large issuance of tether dollars has been a weekly, sometimes daily occurrence in 2018. Via Twitter.

So, is Tether merely just printing what is essentially ‘free money’ not backed in reserve? Or, if the cash is legitimate, is the company relying on money laundering or other ill-gotten means of funding its tokens? Either or both possibilities is damning enough, and the story would be bad enough were it to merely end here, with an offshore company making its own potentially nonexistent or shady U.S. dollar doppelgängers sans any of the transparency it so ardently defends on its website. Ah, but the rabbithole goes even deeper, past potential fraud and into the murkily-regulated cryptocurrency world.

Complicating the issue and raising the stakes even further is Tether’s relationship with crypto exchanges. A host of cryptocurrency exchange—often unregulated or under-regulated in comparison to bona fide banks or stock markets—offer traders the ability to trade in tethers, some sites even allowing for direct 1:1 exchange between tethers and real dollars as mentioned earlier. The fact that many crypto services accept tethers is not in and of itself damning; however, one relationship raising eyebrows is that between Tether and the world’s largest cryptocurrency exchange Bitfinex, which currently transacts more than $2.5 billion per day. In an article from November about Tether’s early warning flags, the New York Times reported that according to documents attained in the Paradise Papers leak, Bitfinex and Tether share corporate leadership and that “Appleby, an offshore law firm, helped Mr. Potter and Mr. Devasini, the Bitfinex operators, set up Tether in the British Virgin Islands in late 2014.” Additionally, the piece cites online critics of the two companies, suggesting that “Bitfinex appears to be creating Tether coins out of thin air and then using them to buy Bitcoin and push the price up.”

Tether touts a list of crypto changers and exchanges among purported “Industry Supporters” on its website. Via Tether.

Tech news site Quartz delved further into the “murky relationship” between Tether and Bitfinex, echoing the growing suspicions across the crypto community that Bitfinex, via Tether, is delivering the bulk of its billions of faux dollars into Bitfinex in order to inflate the value of the extremely volatile cryptocurrencies the exchange trades, such as Bitcoin which has been hemorrhaging value in 2018 and dragging other cryptos down as well. Directly—through increased Bitcoin value or customers buying tethers with real money—or indirectly—through the exchange’s activity and fees—Bitfinex/Tether stands to profit immensely from this alleged manipulation, all for only the virtually cost-free price of magicking millions more tether out of seemingly thin air. Or, according to the Quartz article, which also casts doubt on the legitimacy of the Friedman LLP memo:

Put another way, if an affiliate of the New York Stock Exchange was able to print money at will to buy stocks on the exchange, questions would be asked and assurances sought about the legitimacy of a rally, especially if prices rose as rapidly as bitcoin […] The financial information released by Tether to date, described as ‘part of ongoing efforts to further professionalize the transparency mechanisms’ of the firm, consists of a September report—not an official audit—conducted by a mid-sized accounting firm based on bank statements and screenshots of digital wallet contents provided by Tether. The names of banks holding the company’s funds were redacted.

In addition to drawing media coverage and wide speculation of  wrongdoing, the Tether and Bitfinex controversy may be drawing regulatory attention as well. On January 30th, Bloomberg reported that on December 6, 2017 the U.S. Commodity Futures Trading Commission had sent subpoenas to both Bitfinex and Tether, likely involving Tether concerns though the CFTC has not yet publicly commented on the issue.

While there’s no “smoking gun” yet to implicate Tether or Bitfinex in printing unbacked money and/or attempting to manipulate the price of Bitcoin or other cryptocurrencies, the truth remains uncertain and any proof—or strong public perception—of fraud looms as a potential doomsday event for Bitfinex, Tether, and the entire crypto market. While cryptocurrencies have experienced a steep correction in the new year which some have called the bursting of last year’s “Bitcoin bubble,” Bitfinex and Tether are both still operating and the market value of the USD₮ still tracks the dollar. If, however, Tether and/or Bitfinex were to be formally investigated or if proof emerged that Tether lacked sufficient reserve currency, it could spell disaster for the already ailing crypto market.

Were Tether to withdraw support or lose public trust, the value of the tokens could evaporate overnight, leaving traders stuck with worthless digital IOUs. At worst, $2 billion or more in traded value would disappear into thin air, and at best something akin to a run on the banks would ensue: crypto exchanges would overload from panic trading, already clogged blockchain transactions would spike and slow to a crawl, and the perceived value of cryptocurrencies could decimate in an event unrivaled by any save for the infamous 2014 crash of the Mt. Gox Bitcoin exchange, which beset Bitcoin’s value for years. Furthermore, any collapse of Tether, Bitfinex, or the broader crypto market would likely trigger massive negative publicity, lawsuits, and increased pressure to federally regulate the financial “Wild West” of the cryptocurrency world.

Despite the recent Bitcoin/crypto/blockchain bubble driven by hype and greed, blockchain technologies are potentially revolutionary ideas, and even the concept of a blockchain-based dollar or state currency could also be world-changing if implemented legally and ethically. However,  runaway projects such as Tether risk harming not only naive investors in the space, but also could set back legitimate uses of these technologies for years to come by crashing the blockchain/cryptocurrency market, much how runaway speculation devalued early Internet companies in the Dotcom Bubble. The cryptocurrency market has taken its fair share of economic casualties, —seen as a given in its world of wild unregulated activity and extreme volatility—but the fact that such an […allegedly] unrepentant scam as Tether exists should be taken as a dire warning of the crypto-bubble’s excesses and potential pitfalls yet to come.