Regulators start fighting DeFi

In private video calls last week, some of the world’s fastest-growing emerging cryptocurrency companies educated global financial regulators in a corner of the market that has largely avoided oversight: the booming world of decentralized finance.

The event featured presentations from the Uniswap decentralized exchange and dYdX derivatives trading site, among other popular so-called DeFi programs, according to people familiar with the conference.

Representatives of the Commodity Futures Trading Commission and the Securities and Exchange Commission also attended the event, which was organized by the International Securities Commissions, people said.

The meeting, which has not been previously reported, shows how financial regulators have begun to pay more attention to DeFi, a collection of cryptocurrency projects that aims to cut the middleman and provide financial services such as loans and transactions. using automated software programs.

Lawyers and proponents of cryptocurrencies said DeFi’s rapid growth over the past year had shocked authorities, while raising unprecedented questions about the nature of financial regulation.

Bitcoin is the most prominent effort to bypass traditional financial systems, but the so-called DeFi sector extends far beyond cryptocurrencies to insurance, derivatives trading and even savings accounts.

In the United States, CFTC Commissioner Dan Berkovitz has suggested that many DeFi applications could be illegal and SEC President Gary Gensler pointed out the programs pose “a number of challenges” for investors and regulators.

“There are so many things going on so quickly that regulators just can’t answer, as a practical matter,” said Lewis Cohen, a partner at DLx Law, a cryptocurrency law firm.

Cohen likened the DeFi boom to a “giant DDoS attack against global financial regulation,” referring to a kind of cybersecurity attack in which hackers outperform their targets with large volumes of activity.

An Iosco representative declined to comment on the event, saying it had been organized to “support internal work.” The CFTC confirmed the agency’s attendance, but declined to comment on the discussions. Uniswap, dYdX and the SEC declined to comment.

DeFi applications go back against the first rules

While employees at DeFi projects said they would like clearer guidance from regulators, greater oversight could pose an existential threat to the growing sector, which has ambitions to create a completely new financial system.

Regulators have traditionally monitored the activity circulating through intermediaries such as banks and may decide that the decentralized nature of DeFi applications makes the sector irresponsible.

The founders of some of the most important projects, such as Uniswap, have begun to introduce governance systems that aim to spread the responsibility of applications among their users, rather than with a central authority.

Several projects have also distributed tokens that have increased in value over the past year, which raises concerns for regulators to classify them as securities and introduce greater oversight.

The total assets pledged as the warranty on DeFi applications has skyrocketed last year, it went from less than $ 2 billion to more than $ 50 billion, according to data collected by DeFi Pulse.

Proponents of cryptocurrencies have resisted the first attempts to regulate the underlying software programs, arguing that open source projects are protected speeches.

“If you’re trying to set restriction rules and prior permits on these activities, what you’re basically doing is creating a ban on certain types of speech,” said Peter Van Valkenburgh, research director at the Coin Center, a advocacy group.

A first flash point arose around the new guidelines developed by the Financial Action Task Force, an intergovernmental organization that develops rules to prevent money laundering globally.

A draft version of the most recent group guide appeared broadly broaden the definition of the group of “virtual asset service providers” to include decentralized software programs.

Cryptocurrency groups have protested the measures, which could force DeFi applications to begin implementing customer knowledge rules similar to those required of banks, and FATF said Friday it would delay the final guidelines until October.

U.S. regulators have not yet taken firm action

U.S. regulators have also noticed. Berkovitz, the CFTC commissioner, said in a recent post speech that automated derivative trading software programs appeared to violate the commodity exchange law, which requires futures contracts to be made through regulated agencies and prohibits the trading of swap contracts to people with less than $ 10 million in assets invested.

“I am totally open to having certain applications that can be done more efficiently without intermediaries,” Berkovitz said in an interview. “But intermediaries in many ways have an important role to play and we can hold them accountable.”

Berkovitz’s comments suggested that the CFTC could begin regulating DeFi applications if they began to replicate traditional derivatives markets. So far, however, the CFTC and the SEC have not taken any concrete action against DeFi.

“If it were an unregulated direct competitor in the futures market, it would be problematic,” Berkovitz said.

The founders of the DeFi project argued that users of their open source software programs benefited from rules-based transparent systems for executing transactions.

For the SEC to take action against DeFi, it would have to assert “securities jurisdiction” over programs and their related digital assets, said Michelle Bond, executive director of the Association for Digital Asset Markets, an agency of DeFi. the cryptocurrency industry.

“Just as a physician should not recommend heart surgery for a knee brush, the regulations of an asset class or platform should not be widely applied to dissimilar technologies or asset classes. Bond said.

Antonio Juliano, founder of dYdX, said the project had held several discussions with the CFTC and that its so-called perpetual contracts were not yet available for negotiation in the U.S., largely for regulatory reasons.

“A lot of things that had to be done manually before, you don’t have to do it anymore,” Juliano said. “This is great for investors.”