Regulators pressed the panic button when Facebook announced its stablecoin project, Libra. Fast forward a few years and they’ve been working on crypto regulation for some time now.
At this point, some jurisdictions are moving ahead with virtual currency regulation. It generally covers centralized crypto with crypto companies like Coinbase, Circle, FTX, etc. For example, the European Union’s Crypto Asset Market (MiCA), whose work began in 2018, is expected to be fully implemented by the end of 2024.
MiCA covers cryptocurrencies, security tokens, especially stablecoins, but not decentralized finance (DeFi), which most accurately refers to networks using tokens that perform automated functions.
It is debatable that Bitcoin is a true DeFi app. (However, it is classified as a commodity in the US.) Nonetheless, regulatory advances are allowing regulators to start setting their sights on DeFi.
This was announced in August 2022 by the U.S. Department of the Treasury’s Office of Foreign Assets Control (OFAC). Licensed Tornado Cash, a cryptocurrency mixer that allegedly helped launder more than $7 billion worth of cryptocurrencies over a three-year period. The US Treasury has made an ominous move to block the “notorious” decentralized mixing service from future US activity.
The Treasury Department’s actions aren’t the only example of an executive branch setting its sights on DeFi. The White House has announced a comprehensive framework for the responsible development of digital assets.that Asked Treasury completes illicit financial risk assessments in two areas: DeFi and NFTs.
Treasury must complete DeFi and NFT risk assessments by February and July 2023, respectively, to identify gaps in legislation, regulation, and supervisory regimes.
U.S. Senator Warren and three Democratic senators have sent a letter to Treasury Secretary Janet Yellen about cryptocurrency compliance and the possibility of tracking transactions to private wallets. In the aftermath of the FTX meltdown, Senator Warren has introduced a bill requiring the Treasury Secretary to create a rule that completely prohibits financial institutions from self-custody trading with his wallet.
Capitol Hill is busy regulating cryptocurrencies, including stablecoin legislation. For example, the Responsible Financial Innovation Act (RFIA) seeks to address cryptocurrencies in general. There may not be the political will to pass a broad and comprehensive framework, as the EU did with his MICA, but there have been detailed discussions and debates.
In Congress, unfortunately, the issue becomes political and partisan. Meanwhile, executive branch agencies regulate through enforcement and subject matter experts drive policy.
Regulators Globally Turn to Cryptocurrencies as the Future of DeFi Comes Into View
Regulators are pushing crypto regulation around the world, with DeFi next. The Financial Services Regulatory Authority (FSRA) of Abu Dhabi Global Markets (ADGM) has released a discussion paper on DeFi, seeking comments on DeFi policies.
“We expect to see significant developments in the DeFi space in the future,” the agency wrote. “The medium-term trends identified by the FSRA are subject to turbulence and change in the environment. We expect to drive adoption as part of the service.”
Officials noted the need to develop an “appropriate regulatory framework” to mitigate potential DeFi risks.
“Therefore, we are seeking input on our high-level policy positions so that we can better understand the DeFi space and adjust our approach accordingly.”
Dubai’s Virtual Assets Regulatory Authority (VARA) and Singapore’s MAS also monitor the industry. This has enabled entities engaged in cryptocurrency activities to secure licenses and approvals from new regulators. Non-compliance comes with severe sanctions and fines. All UAW crypto and web3 projects must comply. However, the regulation does not apply to the UAE’s financial free zone.
Dubai’s plans for DeFi remained completely unclear until February 8, when reports flooded in that it banned the issuance of anonymity-enhancing cryptocurrencies like Monero (XMR). to its jurisdiction rather than to grassroots crypto projects.
Singapore’s regulations are designed to attract well-funded blockchain companies, institutional investors and high net worth investors due to its strict regulatory framework.
DeFi’s fate hangs in the balance
No FTX cheating has been performed on any blockchain. This happened in a place where fraud traditionally occurs: an environment lacking corporate control and governance. FTX is about classic scams like Enron and Lehman.
This is a far cry from new scams we have seen in the cryptocurrency industry recently, such as regulated hacks focused on decentralized technology. Civil and criminal laws are currently in place to protect consumers and investors from FTX around the world.
Regulators and law enforcement want a similar decentralized environment. As they become more familiar with blockchain technology, they turn their attention to decentralized products and services and look into dApps where users transact truly peer-to-peer and entirely on the blockchain.On-chain financial services, etc.
Regulation becomes increasingly complex when users trade entirely on the blockchain, rather than on-ramp and off-ramp in the widely adopted dollar markets such as Coinbase, Circle and FTX. However, compliance at the protocol layer is not easy. Many regulatory issues have yet to be resolved, such as AML/KYC and anti-money laundering.
From a regulatory perspective, crypto regulation is as strong as its weakest link. Singapore, the UK and London may have tighter regulation, but looser regulation elsewhere has resulted in arbitrage trading. and create opportunities for fraud. The same goes for Centralized Finance (CeFI) and his DeFi. There will be no arbitrage between the two as regulators will pursue DeFi regulation at least as robust as CeFI.
Kadan Stadelmann is a blockchain developer, operational security expert, and chief technology officer of the Komodo Platform. His experience ranges from working in operational security for the government sector, to launching technology startups, to application development and cryptography. Kadan started his journey into blockchain his technology in 2011 and in 2016 he joined the Komodo team.