Key reasons why the Crypto Markets crashed recently

The cryptocurrency market was shaken yet again as the major cryptocurrencies saw a big correction with prices of Bitcoin, Ethereum, Cardano, BNB and others crashing as much as 30% within 24 hours of time. As per the data by CoinGecko, the market shrunk more than $600 billion in the past week. This is not surprising given the huge price volatility of these crypto-assets but the huge inflow of newbie investors in recent months are not accustomed to these price swings - leading to panic. While there are multiple factors at play, it all started after SpaceX founder Elon Musk halted sales of Tesla cars using Bitcoin as a payment method, owing to environmental worries.

1. Elon Musk’s influence

The markets were performing well even when he had announced that Tesla would stop accepting Bitcoin as a payment method for Tesla cars. The prices of Bitcoin and other assets took a hit initially and as markets started recovering, he shared another tweet of statistics regarding energy consumption and this pushed the prices even lower.

It is very important to understand that the argument of high energy consumption of Bitcoin is very traditional and highly misleading (will cover this part in detail in another post) but one should also note that the majority of crypto investors are not for fundamentals. Many of them cannot even define the basics of blockchain technology, smart contracts, decentralised finance etc. So why is cryptocurrency so popular among retail investors? As of now, it is essentially because they seek to earn quick money and their investment decisions are often influenced by the market hype. Given the negative market hype triggered by Elon’s series of tweets, many people quickly sold their holdings.

2. Binance’s Investigation by IRS

Binance is the largest centralised crypto exchange where people can buy, sell or trade various digital assets. On 13th May, Bloomberg reported that Binance is facing investigation by the US Department of Justice and Internal Revenue Service (IRS) for tax and money laundering. This added to the existing panic among investors leading to a downfall in prices. The spokesperson of Binance assured that they take legal obligations very seriously and will engage with regulators in a “collaborative fashion.” Even in this case, the title of the article was very misleading and the article only highlighted that Binance is cooperating with the US government to fight against illegal activities on their platform. As the article itself says:

“While the Justice Department and IRS probe potential criminal violations, the specifics of what the agencies are examining couldn’t be determined, and not all inquiries lead to allegations of wrongdoing.”

“Binance responded by saying it adheres to all anti-money laundering regulations in the jurisdictions in which it operates and works with partners like Chainalysis to improve its systems.”

3. Did China ban cryptocurrencies?

The most influential factor that led to the crash was Chinese regulators announcing a crackdown on cryptocurrencies. Reuters reported that China has barred financial institutions and payment companies from providing any services related to cryptocurrency transactions. The institutions must not provide saving, trust or pledging services of cryptocurrency, nor issue financial product related to cryptocurrency, the statement jointly issued by three industry bodies said. This created even more panic and the bears overwhelmed the bulls, and the markets crashed in panic.

But again, the Reuters’ headline which triggered major panic in the market was highly misleading. The People’s Bank of China simply reiterated its previously imposed restriction of 2017. In simple words, Chinese regulators directed banks and online payment firms, not to offer any crypto-related services, such as account openings, registration, trading, clearing, settlement and insurance - the goal of the notice, according to the statement, is to simply reiterate the previously announced bans on cryptocurrencies. It is very important to note that China HAS NOT banned individuals from holding cryptocurrencies. They did not ban Bitcoin mining either. With additional restrictions, China just made clear that institutions must not accept digital currencies or use them as a means of payment and settlement.

Just like many other countries, China doesn’t recognize cryptocurrencies as a legal tender and it had banned crypto-related services in 2013 and 2017. In 2013, China’s central bank barred financial institutions from handling bitcoin transactions, according to a notice from the China Securities Regulatory Commission and then again in 2017, the central bank in China declared initial coin offerings as illegal.

As stated earlier, the recent announcement was just a reiteration of these previously imposed bans. Misleading headlines from the mainstream media led to Fear, Uncertainty and Doubt (FUD) in the market, resulting in the crash.

4. RBI’s uncertainty over cryptocurrencies

According to Reuters’ sources, The Reserve Bank of India (RBI) is encouraging (informally) Indian banks to cut ties with crypto exchanges despite Supreme Court has ruled that banks can work with the crypto industry. “The regulator has been unofficially asking us that why are we dealing in such business when it is ultra speculative. A lot of money flows overseas via this trade which the RBI is not comfortable with,” said a senior bank executive.

The Reserve Bank of India (RBI) in 2018 had forbidden banks from dealing in all transactions related to cryptocurrencies. That was challenged by the crypto exchanges and in March 2020, India's Supreme court overturned the RBI ban and allowed lenders to extend banking facilities to them.

Private lender ICICI Bank has already asked payment service companies that it works with to stop all crypto-related payment transactions. Due to these reasons, leading cryptocurrency exchanges, including WazirX and CoinSwitch Kuber, have suspended rupee deposits for users on their platforms but they can still use peer-to-peer service.

Fear and Greed Index

All these factors triggered panic among investors and they rushed to sell their crypto assets resulting in a crash. Fear and Greed Index analyses the emotions and sentiments of investors from different sources and crunch them into one simple number. As we can see from the above picture, with a score of 11, the Fear and Greed Index was at an all-time low in a year which essentially reflects the fear among investors.