Is DeFi regulated? How the policy will affect the development of DeFi

Due to the continuous introduction of policies, the gradual transition from centralization to decentralization is promoted. Will supervision affect decentralization?

Decentralized finance (DeFi) is becoming one of the most important sectors in the blockchain industry. In the past two years alone, DeFi’s total value lock (TVL)-the total value of assets locked to various DeFi platforms-has steadily increased from US$21 billion at the beginning of the year to more than US$100 billion today.

DeFi macro represents a wide range of financial products and services, including the very popular decentralized exchange (DEX). Although DeFi’s lending products, insurance and even decentralized derivatives transactions have exploded, global supervision still seems to be out of reach.

Through DeFi, blockchain technology is redesigning the world’s financial system to build an ideally safe, transparent and accessible market. Financial innovation is intuitively profitable, but due to lack of supervision, very well-funded institutions are still reluctant to enter the field.

Some people believe that compliance is the only way out. Although supervision may lead to the centralization of certain aspects of DeFi, compliant projects will exist for a long time. There are also people who say that DeFi should be self-regulated, and the community must understand what is best for its future. In any case, there will always be unregulated platforms evading supervision, but whether large-scale self-regulation is really beneficial to the industry remains to be determined.

Although a large number of medium-sized funds have obtained great benefits from investing in digital assets, larger hedge funds are unwilling to take risks. This is partly due to strict scrutiny of participants with more prominent regulatory compliance, which may also explain why some of the largest institutions have not yet touched the asset class.

Eliminate non-compliant

The main problem with applying traditional regulatory frameworks to decentralized finance is that they have different design goals.

Traditional finance is conducive to stability, investor protection, enforcement compliance, and most importantly, centralization. DeFi runs on a system that encourages cooperation among distributed participants by eliminating economic incentives, and without any centralized intermediary, traditional frameworks cannot be transformed into decentralized assets.

In the past few years, the impact of regulation on the cryptocurrency industry has been obvious, providing individual investors with a sense of certainty, thereby increasing the amount of capital entering the digital asset market, while supporting innovation and curbing fraud and illegal behavior. This also applies to DeFi. Although not everyone is fully convinced, familiarity and education can be important drivers of adoption.

Robert Whitaker, a former law enforcement officer of the U.S. Department of Homeland Security’s Illegal Financing and Criminal Proceeds Division and Chief Operating Officer of Huobi Nevada, said:

“There will always be illegal websites running quietly. I hope that DeFi platforms that are regulated and believe that regulation is a strong and viable alternative to traditional banking or finance will survive-and in my opinion, they are doing well.”

Once the necessary infrastructure is built to meet the requirements of large institutions, investment in decentralized finance can even become more experimental to accelerate innovation. This year alone, several financial service giants have made great strides in the blockchain field.

It is said that JPMorgan Chase is developing a proprietary blockchain with its own token to facilitate instant transfers of its customers. In addition, after planning to transfer more than one-third of its qualified assets to a blockchain-based custody platform, HSBC announced this year that they will support the Central Bank Digital Currency (CBDC) through regulation. Morgan Stanley also recently announced that it will provide its clients with exposure to digital assets.

From the confirmation of Bank of New York Mellon’s support for digital asset custody to BlackRock’s disclosure of the invisible interactions of its research asset classes, the adoption rate is definitely on the rise. The question is: can regulation keep up?

Innovation supervision

Innovate with norms

Recently, the leading blockchain technology solutions company ConsenSys received more than $65 million in funding from global financial services leaders such as UBS, JPMorgan Chase and MasterCard, which can give them a better understanding of building on Web 3.0 The type of application. 

According to a report by PricewaterhouseCoopers, nearly 50% of traditional hedge fund managers are considering investing in cryptocurrencies. Although these companies may be the first to adopt this approach, this may not happen until the required regulatory infrastructure is built into the DeFi ecosystem.

Although the Global Reserve Bank has issued numerous warnings about the security, scalability, and money laundering risks of digital assets, most of them agree with its potential to fundamentally improve the financial system. However, the U.S. Securities and Exchange Commission (SEC) believes that DeFi is seriously lacking in investor protection and has requested additional authority to prevent DeFi products and platforms from slipping through regulatory loopholes.

Last year, international companies and national regulators began to have a better understanding of blockchain technology. In September 2020, the European Commission proposed a framework to improve consumer protection and establish clearer behavior for participants in the cryptocurrency industry, including the introduction of new licensing requirements.

In late March, the Financial Action Task Force (FATF), the global terrorist financing and money laundering regulator, announced that it would update its guidance on a risk-based approach to digital assets and companies that handle virtual assets. In July, the Japanese Financial Services Agency (FSA) emphasized the importance of decentralized financial regulatory rules.

As early as February, SEC Commissioner Hester Pierce stated that regulators need to provide the DeFi space with legal clarity and freedom of experimentation so that it can fully compete with centralized alternatives. However, the SEC has also reportedly taken actions against certain entities related to decentralized financial applications.

For example, the report shows that regulators have opened the world’s largest distributed exchange to investigate, and the main developers behind Uniswap Labs mainly focus on how investors use this platform and marketing. In addition, SEC Chairman Gary Gensler recently made some harsh comments on the DeFi industry, claiming that only a handful of DeFi tokens are not securities.

Although self-discipline may seem ideal to some people, intervention by the government and financial authorities is also inevitable. 

Two-way compromise

The main challenge for regulators will be to reduce investor risk. If legislation can do this in a certain way while ensuring that the DeFi platform complies with anti-money laundering agreements, then regulation can be adopted and brought about growth in the field in a risk-controllable manner.

Nevertheless, compulsory regulation of DeFi may not be the best approach. Traditional regulations apply to transactions between people, and applying these standards to manually written code, known as smart contracts, is a complicated and troublesome task. However, standards can be created through coding principles.

This will involve setting capital limits and creating risk control frameworks for private participants in the industry. However, since this goes against the main spirit of decentralized finance-decentralization, it requires an active and cooperative approach in the DeFi field, as well as the innovation-oriented attitude of regulators.

Posted by:CoinYuppie,Reprinted with attribution to:
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