Decentralized Finance (DeFi) has taken the world by storm in recent years, promising a more accessible, transparent, and decentralized alternative to traditional financial systems. However, as the DeFi system has grown, so too have the risks and challenges associated with it. 

From bugs and exploits to regulatory and compliance issues, there are many factors that can undermine the promise of decentralized finance. In this post, we’ll explore how Haven1, a new Layer 1 blockchain incubated by Yield App, is tackling some of these challenges and providing a more secure and trustworthy platform for on-chain finance.

The explosive growth of DeFi

Over the past few years, DeFi has grown from a small niche category within crypto only capturing a few hundred million dollars to a massive and thriving industry securing close to $180 billion worth of crypto assets across 170+ blockchain networks at its peak in 2021. 

READ Part 1 in the Haven1 series: What is Haven1?

Nowadays, the variety of yield-generating crypto projects and other financial derivatives is astonishing and new primitives are brought to market at rapid speed (see our previous post on DeFi primitives). The sophistication of the DeFi ecosystem makes it a refreshing place for investors to allocate a part of their portfolio. However, this doesn’t come without risk. 

Critical risks involved with smart contracts

Like traditional software, smart contracts are vulnerable to functional bugs that may lead to incorrect outputs. Functional bugs in smart contracts often result in financial losses, but detecting them is a meticulous process that demands detailed analysis.

In fact, last year was the most lucrative period for blackhat hackers in crypto as $3.8 billion was stolen through exploits, according to Chainalysis, a well-established blockchain data firm. Some 82% of this figure was stolen from DeFi protocols, underlining the need for security in this space.  

Nowadays, various organizations are using a wide variety of tools to detect these bugs, but a recent study shows that 80% of the bugs investigated remained undetected by automated tooling. The authors analyzed 516 bugs across Code4Arena contests and real-world exploits during 2021-2022. 

In their analysis of around 50 real-world exploits and comparing the rewards given to ethical hackers against the damages caused by these exploits, the researchers found that the ratio of damage to bug bounties was 20:1, with damages amounting to $265 million and bounties totalling $14 million.

The findings from this paper emphasize the importance of implementing robust security measures in blockchain networks, such as Haven1, which aims to provide a more secure and trustworthy platform for institutions and retail users. To pursue security prioritization, Haven1 introduces network-level risk controls and traditional finance’s recourse mechanisms. This means that the exciting innovations and unique features of DeFi are preserved while ensuring the safety of users’ on-chain assets.

Provable identity framework

The network-level risk controls refer to measures put in place to mitigate risks to the security and integrity of a blockchain network on the base layer. They are essential to maintaining the trust and reliability of Haven1. 

One of the core risk controls is Haven1’s provable identity framework. This framework requires users to verify their identity in order to execute transactions on the blockchain. Each transaction is cross-checked by the validators against anonymized user data for compliance. If the user has not verified his or her identity, the transaction simply will not be processed. This method is one way of preventing illicit activities. 

The implementation of this framework has its benefits beyond preventing malicious actors from using the network for illicit activities. It can also provide added security for users by reducing the risk of fraud and protecting user data. 

If a user’s account is compromised, an issue can be submitted for investigation where the Haven1 security developers and the validator partners will review on-chain evidence. If it is found that there was wrong-doing or improper conduct, funds will be returned to the aggrieved and action will be taken against the wrongdoer. This dispute resolution mechanism will make it more difficult to steal funds or perpetrate other types of exploits.

Secure on-chain finance

These identity checks present an opportunity for regulated financial institutions and professional investors to participate in the DeFi ecosystem in a secure and compliant manner. The DeFi ecosystem can offer higher returns than traditional financial instruments due to the absence of intermediaries. As this new industry has matured, institutions have increasingly shown interest in capturing those returns. 

Lending protocol Aave was one of the first major DeFi projects to meet that demand with their institutional-focused arm called Aave Arc. It is a permissioned liquidity protocol focused on Bitcoin, Ethereum, and USDC lending markets and requires institutional users to undergo a strict due diligence process to ensure compliance with relevant regulations and the absence of counterparty risks. Aave is currently in the process of relaunching Aave Arc V. 

On Haven1 a similar permissioned approach is applied on all protocols deploying on-chain. This approach ensures that only protocols that have passed the rigorous review process are allowed on the network, reducing the risk of security breaches and other potential issues. This helps to maintain the network’s reputation and provides users with a greater level of confidence in the protocols available on the Haven1 network.

READ: The rise of institutional interest in DeFi

By implementing a provable identity framework, Haven1 enables institutions to access the benefits of blockchain technology while adhering to stringent regulatory requirements. Furthermore, it helps to deter bad actors and increase accountability within the network, making it a more secure and trustworthy platform for on-chain financial activities. 

Conclusion

In conclusion, Haven1’s implementation of a provable identity framework and network-level risk controls will result in a more secure and compliant platform for financial activities on the blockchain. This, in turn, presents an opportunity for institutions and professional investors to participate in the ecosystem while adhering to regulatory requirements. By embracing these measures, Haven1 will set a new standard for on-chain security, enable greater accountability, and reduce the risk of malicious activities. 

This piece is the second article in a six-part series on Haven1. The next piece in the series outlines Haven1’s mission and vision.

DISCLAIMER: The content of this article does not constitute financial advice and is for informational purposes only. The price of digital assets can go down as well as up, and you may lose all of your capital. Investors should consult a professional advisor before making any investment decisions.