Tech

French central bank looks at certification, incorporation as part of DeFi regulation

04/12/2023
Bitcoin Ethereum News

The Banque de France has contributed to the discussion of European crypto asset regulation with a close examination of decentralized finance (DeFi) and potential approaches to its regulation. This discussion is timely because of the growing use of tokenization in finance and the introduction of blockchain technology in many economic sectors, the authors said.  

The paper, written by members of the Fintech-Innovation Hub at the French central bank’s Autorité de contrôle prudentiel et de résolution, noted that the term DeFi hides a range of crypto asset services, technologies and associated risks, they said. Those risks cannot be adequately addressed with current regulation:

“The main idea developed in this paper is that the regulation of disintermediated finance cannot simply replicate the systems that currently govern traditional finance.”

The paper suggested that regulation through certification could strengthen blockchain infrastructure security, decentralized autonomous organizations (DAOs) might be supervised by making them incorporate and control over the intermediaries that allow access to DeFi services could enhance customer protection. As currently written, the European Union’s Markets in Crypto Assets regulation (MiCA) excludes fully decentralized services from its scope, and would have to redefine “crypto asset service providers” to make it possible to extend regulation to DeFi intermediaries.

Blockchain code could be subject to minimum standards, the paper argued. However, controlling the concentration of validation capacities in a DAO would be fraught with complexities and knock-on effects in a public blockchain, so the authors preferred a “resolution mechanism” that can be triggered after a cap has been reached. A private blockchain has the advantage of selecting trusted players, but would require a more specific regulatory framework.

Related: French central bank pilots blockchain-based CBDC for debt market

Furthermore, the code in smart contracts could be subject to certification through any of a variety of mechanisms to assure their functioning as intended, the paper said. Decentralized oracles could be regulated to avoid collusion.

Stablecoin regulation would be a necessary complement to DeFi regulation, as they “are now essential to the functioning of DeFi.” This is complicated in the MiCA framework, due for its final vote this month, as “the MiCA Regulation does not apply to services provided in a fully decentralised manner without any intermediary.” An additional rule would have to be introduced here too for the regulation of the use of stablecoins in DAOs.

At 45 pages, not including a consultation questionnaire, the paper’s argumentation is dense. Nonetheless, the English translation distinguishes itself with its clear language and thorough descriptions of DeFi technology and the issues it perceives with it.

Magazine: ZK-rollups are ‘the endgame’ for scaling blockchains: Polygon Miden founder