With the total cryptocurrency market cap down a staggering 59% year to date (to $900 billion), we are in a crypto bear market. And the possible collapse of blockchain-based lending platform Celsius (CEL) could turn it into an ice age.
What does this crisis mean for Ethereum (ETH 0.47%) and the crypto industry as a whole?
What is Celsius?
Founded in 2017, Celsius is a crypto lending platform that allows users to earn passive income by depositing cryptocurrency in return for competitive interest rates. It was able to offer annual yields of over 18% for some of its more volatile coins. And -- surprisingly -- it even boasted potential returns exceeding 9% for mainstream assets like Ethereum and several stablecoins, a type of digital asset pegged to real-world currencies like the U.S. dollar.
High-yield stablecoin deposits were a game-changer because their low volatility should theoretically make holding them much less risky than unpegged cryptocurrencies. And Celsius funded these yields the same way a regular bank does -- by lending out the funds to borrowers at a higher interest rate than its deposit rate.
But the platform also took some high-risk strategies with its deposits that may soon cause the whole system to unravel.
Image source: Getty Images.
What does this have to do with Ethereum?
Right now, the Ethereum network is split into two blockchains: the commonly used main chain and the beacon chain -- a proof-of-stake (PoS) version of Ethereum where users can lock up their coins (a process called staking) in return for new coins. In search of ever-higher yields, Celsius invested its users' ether in the beacon chain via an asset called Lido Staked Ether, which was loosely pegged to ether because many investors expect the two blockchains to merge this year.
However, staked ether is slowly losing its peg to ether -- trading 6% lower than its counterpart at the time of writing. Such discounts should theoretically self-stabilize because they create an arbitrage opportunity for investors to profit when the two blockchains eventually merge. But the increasing spread may reflect fears that Ethereum's merge will be delayed or not happen at all.
With more than $400 million in staked ether deposits, Celsius is now stuck between a rock and a hard place as increasing market volatility encourages investors to withdraw funds. If the platform liquidates its staked ether deposits, it will lock in massive losses and probably be unable to repay investors in full. So it has decided to halt user withdrawals until it can stabilize its operations -- a move likely to spread uncertainty to the entire cryptocurrency industry.
Trust is eroding rapidly
With investor confidence in crypto reaching new lows, the stakes couldn't be higher for Ethereum to complete its merger as soon as possible (it is scheduled to occur in August). While the update may come too late to save Celsius and similar blockchain-based finance platforms exposed to staked ether, it could help Ethereum maintain its reputation as a trusted blockchain in an increasingly untrustworthy industry.
