Regulation in Crypto: What Will Happen to DeFi?
CeFi vs. DeFi: Which is more resilient to regulation and what’s about to come
Hey DEFI TIMES community,
A lot happened the last week in terms of regulation. And the interesting thing is: Both DeFi and CeFi are affected.
For example, Binance and FTX had to remove leverage above 20x.
Centralized exchanges, like Binance and FTX, are certainly easy targets for regulators. Binance was even forced to introduce physical headquarters amid all regulatory uncertainty.
One thing is for sure: Crypto exchanges will become regulated banks. The Wild West times of crypto are a thing of the past.
Bad news for everyone who believes in the freedom of the individual.
But there’s still hope: DeFi!
DeFi seems to be more resilient to regulation than crypto banks are. DeFi protocols are not owned by anyone and nobody can stop them or force them to do anything.
However, we should expect regulators to try their best even when it comes to decentralized protocols.
So what’s about to come?
The game is on: CeFi vs. DeFi.
Which one is more resilient to regulation?
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Regulation in Crypto: What Will Happen to DeFi?
Binance to Become a Regulated Institution
Governments and regulators are paying close attention to the crypto space lately. More and more regulators have warned Binance about operating in their countries - including regulators in Japan, the U.K., Cayman Islands, Hong Kong, Thailand, Germany, and Lithuania. Of course, this has become a significant problem for Binance as it threatens its business.
That’s why CZ, Binance CEO, has decided to seek a better relationship with regulators around the world. One of his plans is to establish regional headquarters:
“We want to be licensed everywhere … From now on, we’re going to be a financial institution.”
CZ even thinks about stepping down as a CEO - while this is not an immediate plan, he is thinking about hiring a CEO with a strong compliance background.
“I feel CEOs should not stay for more than 10 years, ideally around 5 years. We live in a dynamic world. We need new thinking. Presidents only serve for 4 years. We are always hiring for CEOs. [...] I/we would very much like to hire a strong compliance background CEO to show our commitment to compliance as this is the top priority of the organization.”
Binance seems to be under severe regulatory pressure today. Another example is Malaysia, which recently instructed Binance to halt its operations in the country. It’s one of the first countries to go this step.
I believe that more and more countries will go this path - Binance needs to act and comply, otherwise it won’t end well!
That’s the problem with centralized crypto banks - they can be easily attacked!
And if they don’t comply… Well, they are gone!
FTX Limits Leverage
Another example is FTX, which has been ordered to limit its leverage functionalities to 20x. Previously, users could trade with up to 100x leverage.
This is a thing of the past!
Of course, FTX was also facing regulatory problems before deciding to take this step.
FTX co-founder and CEO, Sam Bankman-Fried, commented the following:
"At FTX, way less than a percent of volume comes from margin calls. This contrasts with a few platforms which are sometimes [more than] 5%, and some which removed data because it looked bad."
DeFi vs. CeFi: Which one is More Resilient to Regulation?
For sure, crypto banks are under pressure; but what does this mean for DeFi? Well, two things are almost certain:
1) Regulators will try to go after DeFi protocols
2) Only truly decentralized protocols will be able to withstand
There is a never-ending discussion about how decentralized DeFi is. Whenever there is a central party that has the power to influence something, it’s an easy target for regulators. Now, the question is: How decentralized are DeFi protocols today?
How Decentralized are DeFi Protocols Today?
To answer this question, let’s examine what “decentralized” even means when it comes to DeFi protocols.
A protocol is decentralized when many participants decide collectively on governance proposals. This means that no single actor can decide about the protocol’s future on their own. There has to be a continuous discussion among participants to reach a consensus.
It’s all about community!
Whenever one participant leaves, there are many others to take their place. A truly decentralized protocol is open and inclusive for anyone to join.
Whenever a regulator tries to put pressure on an influential participant inside the protocol’s ecosystem, it won’t do much. Chances are that the regulator fails because every proposal needs to through extensive governance processes.
Truly decentralized protocols cannot be regulated as nobody is in charge. The code is sitting on the blockchain – a whole new country with its own rules.
Things change when we talk about centralized interfaces for users to access the protocol.
Frontend vs. Backend
The backend is decentralized - the frontend is not. One recent example is Uniswap: After facing legal issues, the Uniswap team was forced to delist approximately 100 assets from its interface.
Remember the interface is just a way to access the protocol. It’s a way to communicate with the blockchain.
The delisting of 100 assets does not mean that they aren’t tradable on Uniswap anymore. Nothing changes on the blockchain itself – only the interface blocks users to trade them.
Think about that for a second. Regulators can’t influence what’s going on in the backend; however, they certainly can regulate the frontend.
Any DeFi interface is run by a company, which is registered somewhere. It’s an easy target for regulators.
That’s where the future is heading: We will see decentralized protocols being able to withstand regulation. These protocols will be the backend of tomorrow’s financial system.
However, the frontend will have to comply with regulations.
Just as Uniswap delisted approximately 100 assets, any other major DeFi interface has to bend its knee when governments go after them.
In the end, only the backend will be decentralized.
Isn’t that all that truly matters?
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DISCLAIMER: All information presented above is meant for informational purposes only and should not be treated as financial, legal, or tax advice. This article's content solely reflects the opinion of the writer, who is not a financial advisor.
Do your own research before you purchase cryptocurrencies. Any cryptocurrency can go down in value. Holding cryptocurrencies is risky.