Slow response giving DeFi hackers a free hand

Decentralized finance (DeFi) hacks cost crypto investors more than $2 billion in the first six months of the year alone. That’s more than in 2021 – so why aren’t regulators and politicians focusing more on them?

Those numbers may well get worse, according to crypto security firm CertiK. He predicts losses could more than triple 2021 figures by the end of this year.

And yet, even nascent attempts to build a US regulatory framework for cryptocurrency have largely ignored DeFi, as has Europe’s fully agreed-upon Crypto Asset Markets (MiCA) Bill.

There are several reasons for this, not the least of which is that the regulation of DeFi – where projects claim to be so decentralized that there is no central management at all, just smart contracts – is much more difficult than normal crypto and stablecoins.

But that’s also where the need is greatest, said Sen. Elizabeth Warren (D-Mass.), who focused her crypto-skepticism on decentralized finance during a December hearing by the Senate Committee on banks.

Read more: Sen Warren calls DeFi the ‘most dangerous’ part of crypto during Senate hearing

It’s “where regulation is effectively absent and – unsurprisingly – it’s where scammers, cheats and con artists mix among part-time investors and early crypto traders,” she said. declared.

great need

And yet the costs are devastating – both in the short term for the tens of thousands of people who have lost funds to various DeFi hacks, of course, but also in the longer term for people’s ability and will. to make payments on crypto projects. and blockchain platforms.

This has a specific impact on cross-chain payments which greatly increases the usefulness and value of these projects and platforms.

Indeed, most of these stolen funds come from so-called bridge projects that facilitate these payments, essentially allowing users to deposit usable cryptocurrency on one blockchain and borrow tokens issued by and on another blockchain, returning them to unlock their original assets.

These include the $620 million Ronin hack in March, a $320 million Wormhole hack in February, a $100 million Harmony hack on June 24, and the $190 million Nomad hack on August 1, among others.

See also: The $100 Million Hack and Crypto’s Cross-Chain Payments Problem

It’s hard to say what the impact will be on these bridging programs, but they rely on users trusting that their funds will be available when they want to withdraw them — much like stablecoins, which have had their own issues. And since bridges have a bad reputation, this cannot plausibly continue.

Then there are these algorithmic stablecoins, which are a growing corner of the DeFi market. However, the $48 billion run and collapse of the Terra/LUNA stablecoin ecosystem in May cast doubt on the viability of these projects, although many would say that’s a good thing.

Indeed, the crypto legislation that has come closest to a vote — and which lawmakers are still saying could pass in the current session — is a stablecoins bill that would effectively ban dollar-pegged stablecoins algorithmically.

Related: How Stablecoin’s $48 Billion Collapse Affected Crypto

Beyond that, while the crypto lenders that failed or failed in the wake of the TerraUSD stablecoin collapse were centralized projects, one of DeFi’s core offerings is lending/borrowing platforms, which carry many risks.

Small action on the horizon

The only fully formed proposal, the “Responsible Financial Innovation Act” makes sense. Cynthia Lummis (R-Wyo.) and Kirsten Gillibrand (DN.Y.), largely spend on DeFi.

First, it directs the Secretary of the Treasury, the Securities and Exchange Commission (SEC), and the Commodity Futures Trading Commission (CFTC) to work with industry players to “analyze the market position of decentralized fintech regarding digital assets” and report to Congress in one year.

Not with policy recommendations, mind you, just with facts and figures.

Additionally, it directs the Treasury Department’s Financial Crimes Enforcement Network (FinCEN) Innovation Lab to recommend changes to laws, policies, and regulations to “more effectively facilitate financial technology oversight,” to all digital assets, distributed ledger technology (the foundation of blockchain) and DeFi.

It’s no better in the European Union either, where the fully developed and (presumably) soon-to-be-passed MiCA law on MiCA has largely “left out” DeFi, Diego Ballon Ossio, senior partner at the global law firm Clifford Chance, wrote on July 1 blog about the legislation.

However, he added, there is “a review clause built into the regulations which will likely lead to specific regulatory regimes at a later date”.

Beyond that, “crypto assets issued by a DeFi protocol will still be considered crypto assets,” so exchanges and other crypto-asset service providers (CASPs) that list or trade them will need to comply. regulations for other digital assets. .

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