World Economic Forum Hopes to Explain DeFi for Regulators With White Paper

Decentralized finance (DeFi) is promising but poses novel risks to the financial sector and its own users, a new World Economic Forum white paper said.

The white paper, published early Tuesday, is meant to act as a toolkit to inform policymakers about the different aspects of the relatively young sub sector within the broader crypto ecosystem. 

The WEF does not intend to recommend specific policy actions for regulators, however. The document said it is more focused on describing what issues DeFi may address, as well as draw attention to certain areas on which regulators may need to catch up.

“DeFi will raise further questions about whether regulators have the proper tools to address evolving market activity, and how they can assert jurisdiction over a set of technologies and stakeholders that is intrinsically borderless and global,” the document said.

The WEF is the latest intergovernmental entity to address DeFi, after the Financial Action Task Force (FATF) – an international money laundering watchdog – published proposed regulatory guidance around DeFi earlier this year. Regulators are increasingly paying attention to the space, particularly amid the recent crypto bull market.

Jehudi Castro Sierra, a digital transformation adviser to the presidency of Colombia, said in a statement his country will be the first to use the toolkit to develop policies and regulations around DeFi in Latin America.

Possible policy approaches could include regulatory sandboxes or echoing rules established after the initial coin offering (ICO) boom of 2017, the document said. 

“What is clear is that DeFi represents a distinct and potentially significant development, both within the landscape of blockchain and of financial services more generally,” it said.

In a statement, WEF executive committee member Sheila Warren said this is “a critical time for DeFi,” noting the recent growth in the sector.

“This toolkit is a critical first step in helping policy-makers and regulators navigate this quickly evolving space. By outlining the potential risks, while highlighting the opportunities for innovation, we hope it will be a valuable resource in informing balanced approaches to policies and regulations,” said the deputy head of the WEF’s Centre for the Fourth Industrial Revolution Network and co-host of CoinDesk’s "Money Reimagined" podcast.

The white paper detailed five categories of risk for DeFi: financial, technical, operational, legal and emergent. 

They include the potential for DeFi hacks, market issues and flash crashes, among other concerns.

Acting Financial Crimes Enforcement Network (FinCEN) Director Michael Mosier said DeFi provides “a generational expansion of financial opportunity,” but that regulators and policymakers must “level-set.”

“This report helpfully provides us with a thoughtful, clear and comprehensive cartography of DeFi so that we can make the most of truly innovative opportunities for financial expansion and novel risk mitigation,” he said.