Study Suggests Cryptocurrency Boom Driven by Manipulation, Not Demand

Chris Gaetano
Published Date:
Jun 13, 2018

A recent study from University of Texas in Austin suggests that at least half of the meteoric rise in cryptocurrency valuation last year could be reflective not of market demand but of a motivated campaign of price manipulation, according to the New York Times. Specifically the paper looked at the exchange Bitfinex, one of the largest and least regulated exchanges, as it is registered in the Caribbean with offices in Asia.

The researchers say that another cryptocurrency, tether, which was created by Bitfinex, was used as a tool to inflate prices for bitcoin and other cryptocurrencies. Tether is supposed to be tied to the U.S. dollar, ostensibly to facilitate transactions between cryptocurrency exchanges. This allows the performance of high-speed capital transfers without having to wait for a wire transfer. Tether was first issued in 2014 with a market cap of $25 million, although today there's around $2.5 billion worth of tether in the market. 

By examining the public blockchains of both bitcoin and tether, the researchers were able to establish that entities associated with the Bitfinex exchange used tether to purchase bitcoin when the latter's price was falling, reversing the drop and in fact driving an even further rise. It doesn't take a lot of tether to do this: the researchers said less than 1 percent of extreme exchange of tether for bitcoin has substantial aggregate price effects. It found that 50 percent of bitcoin price increases in 2017 can be traced to the hours immediately after tether flowed into a handful of other exchanges. The researchers noted that this generally only happened when prices were low; there were not considerable flows of tether when prices increased. Specifically, the researchers found that for a 1 percent drop in average lagged return, when the return on bitcoins are negative, 72 more bitcoins are obtained per hour. However, the relationship is insignificant when the lagged return is positive, suggesting that tether was used to protect bitcoin prices during downturns, versus benign market activity. The researchers also noted that this pattern stopped once Bitfinex ceased to issue new tether tokens. 

The researchers also noted that bitcoin purchases with tether occur more aggressively right below salient round-number price thresholds, where price support would be most effective, and that large tether issuances are linked to a month-end need for dollar reserves related to tether. The researchers reported that proxies for tether demand receive little support in the data, but they believe their results are consistent with a supply-driven manipulation hypothesis. 

"Overall, our findings provide substantial support for the view that price manipulation may be behind substantial distortive effects in cryptocurrencies. These findings suggest that external capital market surveillance and monitoring may be necessary to obtain a market that is truly free. More generally, our findings support the historical narrative that dubious activities are not just a by-product of price appreciation, but can substantially contribute to price distortions and capital misallocation," said the report. 

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