• The latest GBBC Digital Finance (GDF) report, 'DeFi: Moving the Dialogue on Standards and Regulation Forward', focuses on opportunities for engagement between the digital asset industry and regulators
  • Yield App’s CFO/COO Justin Wright contributed to this report as part of his role as co-chair of the DeFi Working Group
  • The report considers the full spectrum of risks and opportunities in DeFi, and asks the key questions regarding finding appropriate solutions to DeFi regulation
  • You can access the full report via the link at the end of this post

GBBC Digital Finance (GDF) has published its latest report, 'DeFi: Moving the Dialogue on Standards and Regulation Forward', which focuses on opportunities for engagement between the digital asset industry and regulators to develop right-size, globally harmonized standards and regulation of the DeFi ecosystem. 

In his ongoing role as co-chair of the DeFi Working Group, Yield App’s CFO/COO Justin Wright contributed to this report as we continue to emphasize the importance of ‘having a voice’ in the evolving digital asset regulatory landscape.

In this latest report, GDF positions itself as a stewardship platform for shared engagement between regulators and the digital asset industry, with the aim to find solutions that work for all parties.

Lawrence Wintermeyer, Chair of GBBC Digital Finance, writes in the report: “The current global market downturn is an opportunity to consider how to establish further standards across the decentralized finance (DeFi) ecosystem. These standards will further embed trust and predictability into the market — a benefit to investors, regulators, service providers, and consumers of DeFi products and services. ”

In this blog post, we summarize the key findings of the report. You'll find a link to the full version at the end of the article. 

Challenges for global regulators and policy agencies

In the first section, the report identifies the challenges currently facing regulators when it comes to DeFi, as well as the opportunities that lie ahead for both the regulators and the industry itself.

Accountability

When executed by code and smart contracts rather than an institution, the lack of a central legal entity raises questions about accountability for DeFi activities. To begin with, GDF suggests that companies developing the code and DeFi applications should be held accountable, while the code should meet much-needed standards for security and stability. 

READ: How does Yield App conduct its due diligence?

However, the emerging question is how to distribute responsibility in structures typical of the industry, which have different governance mechanisms than traditional companies. GDF suggests that a balanced approach is needed that distinguishes between developers and those who benefit from DeFi services. 

Regulatory oversight

As in traditional finance, DeFi activities that would benefit from regulatory oversight must be defined. The difficulty here lies in the nature of the fully automated system, as financial activities are often carried out by smart contracts rather than by a legal entity. 

Key risks and issues identified by agencies

In addition to the challenges and opportunities, the report summarizes the risks and issues identified by global regulators and policy agencies. 

Consumer protection 

Traditional financial services are subject to the duty of care, i.e., the obligation to inform their customers about the risks associated with their products, especially the risk of losing some or all of their capital. In addition, some services must ensure that their customers are accredited investors. However, these consumer protection concerns are rarely met in today's DeFi ecosystem. 

Market integrity and stability 

In the aftermath of the 2008 Great Financial Crisis, policymakers and regulators are particularly sensitive to issues of market integrity and long-term stability. Highly leveraged strategies driven by fear of missing out have been linked to the recent turmoil in digital asset markets, which only intensified after the Terra/Luna collapse.

Read: Why did UST lose its peg and what can we learn from this?

Prevention of illicit activities 

As today’s DeFi applications are permissionless and do not require users to identify themselves, regulators raised concerns about their ability to prevent illicit activity. 

Expected regulation for digital assets

While the entire digital asset market is seeing greater regulatory scrutiny, the report indicates a growing industry-wide consensus that regulators will focus on individual components of the DeFi ecosystem in the short to medium term, such as know your customer (KYC)/anti-money laundering (AML) practices for on/off ramps and centralized stablecoins. 

Developing appropriate solutions

GDF sees a near-term window of opportunity for the DeFi industry to demonstrate that it can operate at a higher level of confidence and predictability. Going forward, GDF envisions a two-track approach to finding appropriate solutions to DeFi regulation. 

Track 1 – Short to medium term

In the absence of DeFi-specific regulation, the GDF proposes establishing governance and consumer protection standards and industry-led oversight through an open working group platform.

Track 2 – Medium to long term: A co-regulatory model

The GDF aims to engage both industry and regulators in a common co-regulatory platform to agree on a structured risk identification agenda. Activities such as setting up a legal framework, policies, standards, regulations, licensing, and enforcement would be part of RegDAO, which would potentially explore the implementation of a DAO consensus mechanism. 

READ: The Yield App Q2 2022 Report: Risk management pays off; mobile app launched

Key takeaways

The 'DeFi: Moving the Dialogue on Standards and Regulation Forward' report provides a comprehensive summary of the state and challenges for both regulators and the DeFi industry. Most importantly, it charts a constructive path to a much-needed regulatory framework by providing regulators with in-depth knowledge of the emerging DeFi industry, highlighting both its challenges and the potential for growth. 

You can download the full version here: DeFi: Moving the Dialogue on Standards and Regulation Forward.

Yield App operates under a European digital asset services license and will continue to comply with the highest global regulatory standards. 

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