WEF Report Calls for Tailored DeFi Regulation to Mitigate Risks and Protect Consumers

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Veronika Rinecker

Editor

Veronika Rinecker

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Veronika Rinecker is based in Germany, studied international journalism and media management. She specializes in politics and regulation, energy, blockchain, and fintech. Since 2017, she has been…

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Last updated:

October 7, 2024 07:25 EDT

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The World Economic Forum (WEF) has called for stricter licensing measures and “clear sandbox objectives and support mechanisms” to address the challenges posed by the decentralized finance (DeFi) sector.

In its October report, titled ‘Digital Assets Regulation: Insights from Jurisdictional Approaches’, the WEF highlights the need for increased international cooperation and the adoption of “technology-enabled” solutions to effectively regulate the digital asset industry.

The report examines the regulatory landscapes of nine jurisdictions and offers recommendations for policymakers, regulators, and private-sector leaders.

The Need for Tailored DeFi Regulation

According to the WEF report, for DeFi, a sandbox-first approach, tailored licensing models, and prioritizing risk mitigation and transparency are crucial.

“Jurisdictions that show signs of progress in addressing the rapidly evolving DeFi ecosystem are those that address its complexity through a nimble, sandbox-first approach. Regulatory sandboxes provide a controlled environment in which developers can experiment with digital assets and decentralized protocols. This approach facilitates the development of guidelines and regulations that are both practical and forward-looking for industry players who aim to innovate in the space.”

The WEF report recognizes that DeFi applications vary widely in their use cases and associated risks. Some DeFi platforms may provide access to social media protocols, while others may facilitate decentralized identity management systems. These different applications require different regulatory approaches to ensure appropriate risk mitigation.

The report also suggests that regulators should develop clear and consistent communication about the risks involved in using specific DeFi applications and protocols. This includes informing users about the potential for loss when interacting with platforms that take custody of user funds or involve financial considerations. Additionally, regulators should emphasize the nascent nature of many DeFi players and the potential risks associated with investing in this emerging ecosystem.

“Consumer-First” Approach

The report emphasizes the importance of strengthening international collaboration on anti-money laundering (AML) and know your customer (KYC) policies.

In terms of privacy and security, the report emphasizes the need for “consumer-focused” policies, clear guidelines, and “technology-enabled” solutions to safeguard user data and prevent security breaches. By adopting these recommendations, policymakers and regulators can create a more secure, efficient, and innovative environment for the digital asset industry.

“Encouraging the use of privacy preserving technology applications that protect user identities as well as their financial information helps build comprehensive and resilient policy.”

The WEF report also calls for a more educated and informed user base in the digital asset space. Educational initiatives, such as workshops, online courses, and public outreach, can help achieve this goal. By partnering with academic institutions, regulators can ensure that retail consumers have access to crucial security information.

Additionally, the report recommends a centralized authority to oversee digital asset regulations: “While not a requirement for success, having one authoritative body means that security protocols and standards can be uniformly applied in digital asset platforms.”

Crypto Assets on the Upward Trend

With the growing popularity of crypto assets, 2024 marks a crucial turning point for global regulation. As of Oct. 7, cryptocurrencies had a total market value of $2.2 trillion, with stablecoins making up $172 billion of that amount.

A recent Bank for International Settlements (BIS) survey found that 94% of the 86 central banks surveyed are exploring digital assets and the creation of a central bank digital currency (CBDC). While central banks are moving at their own pace and considering different design features, there has been a significant increase in experiments and pilots with wholesale CBDCs.

The BIS survey also shows that stablecoins are rarely used for payments outside the cryptocurrency ecosystem. However, around two-thirds of the jurisdictions surveyed have, or are developing, regulatory frameworks for stablecoins and other crypto assets.