2021-08-21 21:30:00
Regulators are Coming for the DeFi Goose and Its Golden Eggs
egulation is becoming a very hot topic in the crypto industry as governments try to understand how they should respond to this still relatively new phenomenon. With United States-based crypto companies now fighting the infrastructure bill battle in the House after a defeat in the Senate, the industry could potentially look very different in a few years, after recently proposed rule changes have been implemented.
Various sub-sectors within crypto will likely be affected in different ways by incoming regulation, but one area that may be affected more than most is decentralized finance (DeFi). This is largely because, due to its arguably decentralized nature, it would potentially be very hard to carry out know-your-customer (KYC) and anti-money laundering (AML) checks on users if it becomes truly decentralized.
DeFi is currently dogged by vagueness, ambiguity and inconsistency in the application of existing rules, as well as proposed new laws. However, while most observers agree that DeFi will likely suffer from ongoing regulatory uncertainty in the short-to-medium term, they also say that regulators will ultimately choose to adopt guidelines that nurture – rather than nuke – the fledgling sector.
The aforementioned infrastructure bill provides a good example of the kind of minefield that current and incoming regulations present to the DeFi world.
The original draft of the bill included decentralized exchanges and peer-to-peer marketplaces in its definition of “broker,” thereby encompassing much of DeFi with its proposal to subject all “brokers” to the requirement to report large transactions to the Internal Revenue Service (IRS).
Coin Center executive director Jerry Brito celebrated an amendment that sought to remove both decentralized exchanges and peer-to-peer marketplaces from the scope of the bill. However, a subsequent proposed amendment proposed altering the language yet again, so that only proof-of-work mining appeared to be excluded by the new definition of “broker.”
This isolated example illustrates just how tricky it will be for DeFi players to navigate future regulations.
But there are plenty more examples of this kind of lack of clarity and certainty. It’s a common feature of pretty much all laws and regulations that will affect the DeFi sector, from the European Commission’s recent anti-money laundering proposals to the Financial Action Task Force (FATF)’s soon-to-be-revised guidelines.
There are two big sources of ambiguity: One is conceptual and linguistic, and the other relates to international consistency.
Anndy Lian, the Chairman of the crypto exchange BigONE and the Chief Digital Advisor to the Mongolian Productivity Organization, said,
“At the FATF recent Plenary meeting in June this year, a key takeaway was the concern around the apparent lack of consensus across different jurisdictions and between industry players regarding the best way to comply with the Travel Rule. And while the private sector has led the way in developing solutions to enable implementation of the Travel Rule, ‘a majority of jurisdictions have not yet implemented the FATF’s requirements.’”
For Lian, the real issue and challenge for the DeFi sector is the uneven compliance with the Travel Rule across jurisdictions, which “poses real headaches for both DeFi businesses and their customers.”
But in terms of incoming and future regulation, there’s also a big problem related to semantics and conceptual clarity. According to the MakerDAO (MKR) community member PaperImperium, technical terms aren’t used consistently by regulators and the crypto industry, making it unclear as to what exactly policymakers want.
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