Last Tuesday, the European Commission published a report on DeFi policy considerations. The report explains DeFi’s functions, benefits, and vulnerabilities, clarifying its differences with traditional finance. The report follows with four policy proposals that target entities, protocols, and oracles.
First, the report proposes information disclosures from legal entities already falling under supervisory and regulatory mandates in traditional markets (i.e., centralized financial institutions). The report argues that the disclosure requirements would “allow policymakers to observe [entities’] entire DeFi activity and adjust their regulatory framework accordingly.”
Second, they propose voluntary compliance opportunities for both entities and protocols, as protocols do not fall under existing supervisory and regulatory mandates. The report suggests that compliance would benefit DeFi by obtaining “different forms of public support and guarantee such a stamp of public approval.”
Third, the report proposes a “public observatory of DeFi activity operated by a public authority.” The institution would “deploy public investigations and issue opinions and warnings publicly about specific DeFi protocols, practices and public address activities.” The proposal does not entail enforcement power.
Lastly, the report proposes supervision, regulation, and monitoring of oracles, which provide off-chain information to protocols. The proposal focuses on the risks associated with the inability to verify the information oracles produce. However, it clarifies that the technology “remains largely under-developed” and, therefore, the proposal is to “support a sustainable and efficient development of oracle services.”
Although the report provides public policy proposals, it does not suggest that the only means for addressing DeFi’s vulnerabilities is through regulation, stating, “the shift in information structure between traditional finance and DeFi entails different sources of risk and inefficiency thereby requiring heterogeneous forms of solutions.”
What does this mean?
We completely agree with the report’s foundational conclusion: there is no logic in attempting to apply the same regulations to CeFi and DeFi. It is encouraging to see a report that explains DeFi’s benefits to the modern economy and makes clear distinctions between it and centralized finance; critical distinctions often neglected by policymakers.
Also worth noting, the report recognizes private sector solutions already being implemented and acknowledges that not all risks and inefficiencies could be solved by policies and regulations. While not perfect, the proposals themselves demonstrate an honest effort toward understanding DeFi and considering novel ways through which governments can accomplish their objectives. This work is exactly what is needed right now, including in the US, and we hope other’s follow the European Commission’s example. Long may it continue.