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12 Major Reasons Why Crypto Exchanges May Close Down

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Security breaches, regulatory issues, operational costs, and lawsuits are some of the major reasons crypto exchanges may stop operations.

From February 7, 2014, to August 31, 2023, 431 cryptocurrency exchanges ceased operation due to hacks, scams, and undisclosed reasons. Some of them that went out of operation in 2023 include Bizlato, RippleFox, Tokencan, and 60 others.

Takeaways:

  • Any vulnerability in the security of an exchange can be exploited by hackers, which may lead to it shutting down.
  • A crypto exchange that can not cope or adjust to market fluctuations and volatility may close down
  • Operational costs must not be more revenue, when this happens, it may lead to financial trouble for exchanges.
  • The cryptocurrency landscape has become competitive and new entrant are making their charges more competitive, old platforms that failed to adjust may experience migration to a new platform that costs less to use.

This raises the question, “What could lead crypto exchanges to close down?”. This question becomes necessary, especially when one retrospects how a Japan-based crypto exchange Mt. Gox closed down on February 7, 2014, after it lost more than 800,000 bitcoins to hackers.

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The collapse of Mt. Gox was among the saddest stories in the history of the crypto community as investors lost their life savings overnight.

So, what are the reasons why crypto platforms may close down?

Regulatory Issues

Governments and regulators around the world are trying to understand, adapt to, and regulate crypto space, primarily to protect consumers and prevent illegal activities.

Depending on the stance a government takes, regulations can vary from being slightly restrictive to outright prohibitive.

Why it matters: Some countries view cryptocurrencies as a threat to their economic stability, currency control, or a potential means for money laundering and other illegal activities.

An exchange that operates within a prohibitive environment may face issues of ban, and exchanges operating in that jurisdiction might be forced to close.

Example: For instance, a popular crypto exchange based in Nigeria Patricia had to relocate its headquarters to the Republic of Estonia, following an order by Nigeria’s apex bank on February 5, 2021, to shut down accounts of people and individuals transacting cryptocurrencies.

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If Patricia had not effectively managed the situation, it could have led to the collapse of the crypto exchange. There are many cases like this around the World, especially in China.

Security Breaches

Cryptocurrency exchanges are lucrative targets for cybercriminals because they store vast amounts of digital assets

A successful breach can lead to a significant loss of user coins worth billions of dollars.

Unlike traditional banking systems, transactions on a blockchain are irreversible. Once stolen, the funds are usually gone forever.

Implication: Beyond the immediate financial loss, a security breach can devastate an exchange’s reputation. Users might lose trust and migrate to other platforms.

Example: Notable hacks, like the ones on Mt. Gox in 2014 and BitGrail in 2018, resulted in losses of hundreds of millions of dollars, leading to a significant crisis for the exchanges and their users. Both exchanges completely stopped operations due to the security breach.

Liquidity Problems

High liquidity ensures that traders can easily fill their buy or sell orders. An exchange with low liquidity can exhibit high volatility, with large price spreads between buy and sell orders.

When users feel they can’t quickly execute trades or if they experience significant a change between the expected price of a trade and the executed price, they might leave the exchange.

If liquidity dries up, it can become a vicious cycle, leading to even fewer traders and potentially resulting the exchange collapse.

Internal Conflicts

Differences in vision, strategy, or management style among key team members can lead to disputes. These conflicts might be about the platform’s direction, financial decisions, technical choices, or partnerships.

Impact on Exchanges: Severe internal disagreements can impede decision-making, stall progress, or lead to public relations disasters.

In extreme cases, these conflicts might lead to key members leaving, which can undermine user trust or operational capability, eventually forcing the exchange to shut down or restructure.

Technological Issues

When downtime, software bugs, and other technical glitches begin to prevent users from trading and preventing them from having access to their, it may lose customers.

Impact on Exchanges: Repeated technological issues can erode user trust. If traders miss opportunities or incur losses due to technical

problems, they may leave the platform, this may be one of the factors for crypto exchange to close down.

Competitive Landscape

The cryptocurrency world is highly competitive, with numerous exchanges vying for users. At the time of this publication, there are over 9,000 coins listed on coinmarketcap.

Newer exchanges might offer better features, lower fees, or more advanced security. If an older exchange fails to innovate or adapt, it might lose its user base.

Also Read:  Ripple Becomes 4th Largest FinTech Firm Globally

Impact on Exchanges: A declining user base means lower trading volumes, which can lead to reduced revenues and profitability. If not addressed, this can eventually force an exchange to close down.

Operational Costs

To remain in business, revenue must exceed operational costs for an exchange, even to other businesses to be sustainable.

With increasing competition and potentially shrinking margins, exchanges must manage their finances efficiently.

If operational costs consistently exceed revenue, the exchange might become financially unsustainable and may have to shut down.

Poor User Experience

Crypto traders want a platform that they can easily navigate,  buy, make deposits, and withdraw funds without unnecessary complications.

If users continue to experience poor user experience, frustration will set in users and may discourage them from using the platform.

Lawsuits

Legal actions can have multifaceted impacts on exchanges such as financial burden, operational distraction, and reputational damage.

Example: Bitfinex exchange and its affiliated stablecoin issuer, Tether, have been subjects of legal inquiries and lawsuits, particularly over concerns about the backing of the USDT stablecoin and potential market manipulations.

Apart from that, an attack on the crypto exchange in August 2016 led to a series of illegal transfers from Bitfinex users’ wallets, leading to a loss of 119,754 Bitcoins (worth $72 million at the time of the theft, and $3.2 billion at current rates).

The theft led to several lawsuits against Bitfinex in 2019, when the New York Office of the Attorney General charged the crypto exchange for allowing itself to be used as a conduit to mask some $850 million in losses in customer funds resulting from potential theft or mismanagement by payment processor Crypto Capital.

Market Conditions

Between November 10, 2021, to October 3, 2023, Bitcoin lost 60.18% of its value. November 10, 2021, was when Bitcoin attained All-Time High at $68,789.63/BTC, but at the time of publication, it’s trading at $27,339.06/BTC. That’s less than two years.

That’s to show you that the cryptocurrency market is known for its extreme volatility. Its prices can swing wildly within short periods, influenced by many factors such as regulatory news, technological advancements, macroeconomic factors, and speculative trading.

These market conditions can shift from bullish phases (often called “bull markets”) to bearish phases (“bear markets”).

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Why It Matters: The health and activity level of the cryptocurrency market directly correlate with the trading volumes on exchanges. During a bull market, there’s increased trading activity as new and existing investors buy and sell.

Conversely, during a bear market, trading volumes can drop significantly as participants either hold onto their assets or leave the market.

Impact on Exchanges: This unstable price could lead to revenue fluctuation, impact on growth and retention, and operational adjustments for crypto exchanges.

Crypto exchanges that do not have reserve liquidity could face closing down or running out of business abruptly.

Example: If El Salvador had been a crypto exchange, it may have possibly shut down because it incurred losses when the price of Bitcoin fell from nearly $40k down to below $20k.

A report by Bloomberg says as of April 2023 El Salvador was holding 2546 Bitcoins which were bought at $108.2Million, but as of October 3, 2023, 2546BTC is worth $69,538,643.40.

Fraud and Mismanagement

Any hint of fraud or mismanagement can deter users from an exchange.

Accusations or proofs of wrongdoing can lead to investigations, legal actions, or heavy fines.

Example: QuadrigaCX, a Canadian cryptocurrency exchange, faced a crisis after the death of his co-founder Gerald Cotton in 2018.

When Gerald Cotton died, it was believed that he was the only one who had passwords to the centralized wallet two years after when investigators discovered that Gerald actually used at least $250 million worth of bitcoins for his personal use.

To date, some customers of QuadrigaCX say Gerald was not dead, that he was on the run.

Another crypto exchange that is believed to have collapsed because of mismanagement is FTX. Its founder Sam Bankman-Fried still faces fraud litigation as we publish.

Banking Relationships

Banking relationships still boil down to regulations by a country’s apex bank. For instance, when Nigeria’s CBN issued a stern warning to banks to block accounts that fund crypto wallets, no Nigerian banks wanted to have any business with any crypto exchange or their customers.

Why It Matters: Exchanges often rely on banks to handle fiat deposits and withdrawals for their users. Whether a user wants to deposit USD to purchase Bitcoin or withdraw EUR after selling Ethereum, this fiat component usually passes through a traditional bank.

Any deterrent to this relationship will most possibly affect the smooth running of exchange and could push exchanges to bankruptcy.

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