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Would more regulation be good or bad for DeFi and crypto land?


The recent Coinbase IPO listing has become a watershed moment for cryptocurrencies and their move towards the mainstream. The broader acceptance has been further affirmed as crypto companies continue hiring a number of former U.S. government officials, most recently, a former top U.S. banking regulator has joined Binance, at the beginning of May.

While it could help crypto companies handle emerging U.S. regulatory frameworks, this trend also raises questions over whether cryptocurrency institutionalization will undermine the ideology of decentralized finance (DeFi).

Bitcoin especially has seen massive endorsements from well-known financial leaders this year, driving the huge institutional interest. Major companies like Tesla and Square have been heavily investing in Bitcoin, financial giants Visa, Mastercard and PayPal began implementing crypto within their services—all are helping to boost Bitcoin’s credibility.

While around 60% of crypto owners in the U.S. would use their bank to invest in cryptocurrencies, according to a recent survey, crypto institutionalization would come with a number of regulatory frameworks for digital assets and their trading. The regulations and the wider use of Bitcoin, in turn, bring uneasiness around losing the core idea of blockchain technology—decentralization and peer-to-peer interactivity.

However, Vytautas Zabulis, CEO of H-Finance — a regulatory-compliant digital asset trading solutions company — notes that while for some ‘true believers’ in the blockchain technology and DeFi movement regulatory compliance might seem uncalled for, regulation would remove speculative use of blockchain-based currency, legitimizing the technology for broader use, which would in turn continue to have room for DeFi innovation, with more credibility to support its growth.

That said, current regulatory frameworks would not work for digital asset classes and would require a unique approach for broad application. It looks almost as if each side needs to come halfway.

“It’s impossible for digital assets to go mainstream without clear regulation and sufficient safeguards,” explains Zabulis. “As Bitcoin becomes an institutional asset, market participants expect regulation to be in place to protect capital and have clearly set rules. As cryptocurrencies start being treated as a new asset class, at least some clear rules will need to be put in place to solidify international adoption.”

Zabulis notes that it is an extremely complex situation, since most people begin using crypto because they see it as a speculative asset, not because they are die-hard fans of the technology itself. This probably describes a large slice of the market, that can’t get past how much money they would have made if they got into Bitcoin early enough.

In turn, because the main use of digital assets at the moment is frequently speculative , regulation is key to, at least set minimum standards for market participants. Otherwise most coins are going to stay firmly in the Wild West, and will lack sufficient liquidity for good pricing.

Listen: Podcast: Stephen Ehrlich, CEO of Voyager Digital, on trading and investing in cryptocurrencies

Regulation of cryptocurrencies should not be overwhelming

This does not mean that regulation should be overwhelming and stifle the organic growth of the crypto industry. As an example of subtle regulatory adoption, the Markets in Crypto Assets (MiCA) directive in the European Union would set clear rules for crypto assets throughout the EEA without the need for further national legislation, establishing a common framework and avoiding anomalies resulting from personal interpretations.

In contrast, in the U.S. crypto companies are seen as money service businesses and fall under the Financial Crimes Enforcement Network (FinCEN), in addition to other regulatory requirements, and it is a matter of debate as to whether this is the right approach to digital assets regulation.

“It is a big step forward to make the assets more usable and stable,” adds Zabulis. “First of all, banks will be able to work with a compliant crypto sector—something that currently is more of an exception than a rule. But we need to be honest and acknowledge that a fully regulated crypto sector will lose its charm and I would not be surprised that a new type of ‘Bitcoin’ or technology will emerge; some are already looking into in-game asset regulation.”

Parts of the cryptocurrency industry may not need regulation

Use cases of NFT and DeFi illustrate that parts of the industry might not need regulation as they can function independently. These two use cases show that crypto assets could be used not only for speculation, but also for the purpose of legitimate technology development — to make finance more decentralized and increase financial inclusion, such as NFTs changing how we interact with art and intellectual property.

While the opinions on complacent crypto are diverging, the broader acceptance of digital assets is in full swing with major endorsements from financial leaders and visible moves towards regulatory compliance. The regulations both in the EU and the U.S. would help crypto companies to work within set frameworks, if digital assets continue to seek to go mainstream.

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This article does not constitute investment advice. Make sure you do your own research or consult a professional advisor.

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