‘First of its kind’ 79-page DeFi report signals shift in CFTC focus – DL News

Fresh off its blockbuster $4.3 billion settlement with crypto giant Binance, the Commodity Futures Trading Commission has shown it’s just getting started in seizing ground in regulating digital assets.

A panel of experts — including decentralised finance mavens like Terranet Ventures executive Carole House, and Ari Redbord, global head of policy at TRM Labs — produced a 79-page report on DeFi.

The CFTC-sponsored technical advisory committee voted on Monday in favour of submitting a report to the agency that calls for tighter cooperation between regulators and the DeFi industry.

The report aims to influence how the government will sweep DeFi into the regulatory perimeter.

“The report is the first of its kind from the CFTC,” said Redbord, vice chair of the committee and occasional contributor to DL News.

“No other financial regulator in the US has attempted to tackle the full suite of issues around the regulatory opportunities and challenges of DeFi,” he added, saying that while other government initiatives on DeFi have been published, none have had such depth and breadth.

Though they tend to deny reports of a turf war, the CFTC and its sister agency, the Securities and Exchange Commission, have jostled for authority over crypto markets.

The SEC has taken an often hostile stance on crypto exchanges, alleging violations of securities laws in a slew of high-profile lawsuits.

It has also tried to draw DeFi into its ambit with a controversial rule proposal.

The CFTC, on the other hand, has been seen as largely friendlier to the industry — thanks in part due to its willingness to work with crypto and DeFi advocates on the advisory committee.

But that’s a perception the regulator wants to shake.

What’s in the report?

Members specialised in digital assets in the government agency’s Technology Advisory Committee wrote an in-depth overview of the definition, workings and risks of DeFi, while pushing the government and the sector to work together towards a “responsible and compliant” ecosystem.

Some highlights from the TAC report:

• The report says DeFi presents the opportunity for greater transparency and efficiency in financial products.
• It also presents significant risks — fraud, mismanagement, and regulatory violations.
• A central concern for regulators is that DeFi systems lack clear lines of accountability.
• Understanding what DeFi projects fall within the regulatory perimeter — and where the perimeter needs expanding — should be a focus for policymakers.
• Promising use cases of DeFi include streamlined lending platforms, more efficient cross-border remittance networks, and encryption technologies.
• Explaining that decentralisation is a spectrum rather than a black-and-white issue.

The filing of the report shows that the CFTC is ready to get ahead of emerging technology.

Commissioner Christy Goldsmith Romero, who sponsors the committee, said in a statement that she has “played a steady drumbeat that we need to study emerging issues related to digital assets or we could risk harmful unintended consequences.”

The report lays out how the regulator will think about DeFi going forward.

And while little policy gets made in an election year, in the long term it could influence how successive administrations make laws to mitigate the risks of DeFi.

As Romero said, the report “is intended to help inform ongoing policy debates in the US Congress, state legislatures, and regulators including the CFTC.”

“This report can serve as a first step to facilitate a dialogue between policymakers and industry, particularly because DeFi remains at the centre of illicit finance risks, cyber hacks, and theft,” Romero said.

Legal battles

Crypto’s most high-profile players — including Coinbase and Kraken — are embroiled in lawsuits with the SEC for allegedly handling unregistered securities.

The CFTC also brought 134 enforcement cases against digital assets businesses in 2023, mostly targeting alleged fraud.

It is against this backdrop that the subcommittee voted to submit the new report to the CFTC.

The committee advises authorities on how technological innovation can impact US markets.

Its members include representatives from tech giants such as Amazon and IBM, as well as crypto natives like Circle and Fireblocks.

Countries around the world spent 2023 building new regulations for crypto assets, Redbord told the committee on Monday, echoing a TRM Labs report released earlier in the day.

“The focus has, almost exclusively, been in the context of centralised exchanges,” Redbord said. Authorities are seeking the same system of “information flows from banks to their regulators today.”

Now, securing privacy for DeFi users while mitigating market risks and criminal activity will be a challenge for regulators and policymakers, he said.

Friendlier agency?

The crypto industry has tended to perceive the CFTC as a friendlier regulator than the SEC.

It’s a much smaller agency, and has complained for years of being underfunded — its 2023 budget was $681.3 million, compared with the SEC’s $3 billion. It may be seen as relatively toothless.

Crypto advocates — including FTX founder Sam Bankman-Fried before his fall from grace — have lobbied lawmakers to create legislation that would hand more oversight of crypto to the CFTC.

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A bill that passed out of committee last year would anoint the CFTC as the industry’s primary regulator, and grants it full authority over spot markets.

The CFTC has pushed back on the soft regulator characterisation.

In December, Commissioner Kristin Johnson said that while CFTC enforcement has mostly focused on fraud, the agency is also sharpening its teeth, going after major players for failing to register as derivatives exchanges.

The CFTC scored a big win with its $4.3 billion settlement — led by the US Treasury Department — with Binance exchange.

Under the settlement, Binance co-founder Changpeng Zhao pleaded guilty to violating the Bank Secrecy Act, stepped down as CEO, and faces a prison sentence of up to 10 years.

The CFTC also fined Zhao’s compliance officer Samuel Lin $1.5 million.

Inbar Preiss is DL News’ Brussels-based regulation correspondent. Joanna Wright is DL News’ London-based correspondent. Got a tip? Reach out to them via email: inbar@dlnews.com and joanna@dlnews.com.