How smart regulation can improve the future of blockchain


With extreme positions on both sides, some would have us believe that decentralized technology and regulation are mutually exclusive. As pervasive as this narrative has become, a more evolved view is that decentralization and regulation are inevitable, so the best results will come from the collaboration of regulators and innovators. But what will this cooperation look like?

At the Stellar Development Foundation, we believe that regulators and innovators will (and should) influence each other, which means that both parties must be prepared to compromise. Let’s start with an honest reflection: there is no quality inherent in blockchain or cryptocurrency that deserves to be totally unregulated, but on the other hand, the technology also doesn’t deserve to be. prohibited or unfairly regulated simply because it is new or different.

The Financial Action Task Force

Distributed ledger technology is a paradigm shift. Traditional finance is vertical and intermediated, while decentralized finance (DeFi) is flat and peer-to-peer (P2P). The problem we now face is that financial regulations rely almost uniformly on the regulation of intermediaries – no middleman means no jurisdictional hook. It is this lack of clear competence that makes regulators nervous about a decentralized future. The Financial Action Task Force, or FATF, has explicitly acknowledged this fear in its recent draft guidelines on virtual assets and VASPs:

“In addition, the full maturity of these protocols that allow P2P transactions could foreshadow a future without financial intermediaries, potentially calling into question the effectiveness of the FATF recommendations. “

However, as we noted earlier, with respect to the draft FATF guidelines, fears of loss of market share or shrinking regulatory territory do not provide a basis for sound policy making.

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Related: The draft FATF guidelines target DeFi with compliance

Often, fears that follow a paradigm shift translate into regulatory crackdown. Risk reduction is a prime example. As regulators enact increasingly stringent anti-money laundering regulations, companies are responding by cutting service to less profitable customers. As a result, regulatory and commercial interests are served, but more and more people, especially the world’s poor and the businesses that serve them, find themselves excluded from the financial system. The FATF has recently recognized its role in perpetuating this pernicious problem. But, those who are forced out of the financial system by regulation are the very people that blockchain technology strengthens the most by reducing their dependence on intermediaries. At the Stellar Development Foundation, we see this firsthand through our work with partners like Leaf Global and Tala, which give working poor and migrants fleeing disasters or persecution in their home countries access to financial services. blockchain-based.

Different approaches

Despite these benefits, country-level responses to blockchain have been mixed. Where countries like India, Turkey and Nigeria have seen fear, others like Singapore, Switzerland, Bermuda, Ukraine – and now El Salvador – have recognized the opportunity, developing new frameworks. regulations integrating the decentralized nature of the blockchain. And they reap the rewards. These nations are becoming global blockchain technology hubs.

Innovators and entrepreneurs are drawn to their secure and stable regulatory environments. As calls for a regulatory crackdown on cryptocurrencies multiply in the United States and the European Union, the countries listed above are going further.

The United States and other advanced economies, particularly the West, are rapidly approaching an inflection point. The decision to be made is no longer whether to regulate, but how. Fortunately, policymakers don’t have to decide in a vacuum and would do well to learn from the two groups of countries mentioned above – those who are trying to prevent crypto and those who welcome it. Without exception, countries that have proactively adapted their regulators to technology have had more success than those that have tried to ban it. And yet, while it is not too late for the United States to follow successful examples, it must affirmatively choose to do so.

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The self-hosted wallet rule offered by the Financial Crimes Enforcement Network (FinCEN) provides a useful case study of this choice. From the outset, the FinCEN proposal was hostile to decentralization and individual empowerment. While it doesn’t expressly ban self-hosted wallets, many believe it would in practice. However, the blockchain community reacted strongly, delivering a record number of comments in a very short period of time. One of the themes that emerged from these comments was that FinCEN already had access to most of the information sought by the proposal due to the transparency inherent in public blockchains. To its credit, FinCEN appears to have listened and will seek to engage more with those who know the technology best.

While we’ll have to wait and see how the story ends, FinCEN now appears to be engaging in the collaborative approach with the industry envisioned – but not always put into practice – through the rulemaking process. Compromise is not easy, but it gives the best results.

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Related: Authorities seek to close gap on unhosted wallets

Take away food

The job of regulators is to protect markets, not to make sure they never change. Policymakers should accept that decentralization is a different new paradigm that deserves its own regulatory approach. Industry resistance so far is not so much to be regulated, but rather to be forced into the wrong regulatory framework. Despite this, regulators and innovators can find common ground, but only if both parties keep an open mind.

Likewise, the blockchain community needs to do a better job of explaining why and how the technology is different, educating policymakers about the real risks while also highlighting real examples of its benefits. In addition, we must adopt appropriate regulations.

After all, the legitimacy that would come from regulatory acceptance of the technology could very well be the last hurdle on the road to mass adoption.

The views, thoughts and opinions expressed here are those of the author alone and do not necessarily reflect or represent the views and opinions of UKTN.

Seth Hertlein is the head of policy and government relations at the Stellar Development Foundation, a nonprofit organization that supports the development and growth of Stellar, an open source network that connects the global financial infrastructure. Seth started his career as a securities regulator and most recently served as Executive Director and Deputy General Counsel for Public Policy and Regulatory Affairs at FS Investments, a leading alternative asset manager. . Seth holds an MBA in Finance from Wright State University and a JD from Ohio State University.