DeFi Draws Closer to Institutional Market in EU

In the first few years of Decentralized Finance (DeFi), platforms like Uniswap and Pancakeswap fueled the explosion of a field that has been defined by a series of spectacular gold rushes followed by a painful hangover. But as the industry evolves, businesses and governments alike are looking to establish order in the DeFi wild west.

Read more: Fed’s Powell: Crypto Regulation Needed Before DeFi Melds With Banking

In 2020, the invention of yield farming and liquidity mining allowed young DeFi projects to raise funds quickly and created a lucrative but volatile market for the associated tokens. Seemingly overnight, DeFi became one of the most talked-about financial trends, with public interest mirroring that of the wider crypto space.

Proponents of the new model have pointed to DeFi millionaires and the seemingly unstoppable growth of decentralized exchanges as a sign that the space represents the future of finance. Critics, on the other hand, have warned that the bubble would eventually burst.

Learn more: CFTC Lawsuit Aims to Rein in DeFi

When the crypto market crashed in the spring of this year, the DeFi world seems to have had a moment of reckoning. But rather than taking out the industry, 2022 may actually mark the year DeFi goes mainstream.

Toward DeFi Credibility

The high-risk, unregulated environment that characterized the initial years of decentralized finance have led to an institutional aversion to platforms like Uniswap. However, a project launched earlier this year by the decentralized protocol Aave is looking to entice regulated banks and investors and add a layer of credibility that has been largely lacking in the DeFi space until now.

Read more: Aave DeFi Platform’s Creativity Is Its Strength

Aave Arc promises to help institutions participate in regulation-compliant decentralized finance by doing away with the rampant anonymity associated with traditional DeFi as well as creating a “permission liquidity pool” in which only whitelisted institutions that have been vetted for regulatory compliance can participate.

One of the project’s whitelisted financial institutions is Italian firm Anubi Digital, a crypto custodian for businesses, institutional investors and high net worth individuals.

This week, Anubi Digital launched its latest DeFi offering, DUO, a liquidity staking service that allows the firm’s clients to partake in Uniswap liquidity pools using either euros or crypto assets.

Besides the greater involvement of regulated financial institutions, another development that may lead to more mainstream acceptance of DeFi is the presence of regulatory oversight.

The Decentralized Autonomous Organizations (DAOs) that typically govern DeFi projects and platforms are made up of distributed networks of frequently anonymous token-holders with voting rights that often change hands. As a result, the absence of a central governing body can make accountability a challenge.

See more: SushiSwap Plans Reveal Top-Heavy Side of DeFi Governance

Aware of the difficulties this presents regulators, the European Commission (EC) recently put out a call to study “Embedded supervision of decentralized finance (DeFi)” protocols. The project will explore the prospect of automated data gathering directly from the Ethereum blockchain and test the technological capabilities for supervisory monitoring of real-time DeFi activity.

Related: Sardine Raises $51M for Fraud Prevention Solutions for FinTechs, DeFi

Such a mechanism for monitoring the Ethereum network is expected to have numerous advantages for the EU, most notably in the field of anti-money laundering (AML), where companies like Elliptic already offer crypto asset transaction monitoring services to help businesses identify risks and trace crypto transactions.

More on this: Lawsuits Show Crypto KYC Can Help Recover Losses

The EC’s interest in the technology and its specific reference to DeFi data could suggest that European policymakers have their eyes set on ensuring greater scrutiny of the space. It could also pave the way for a more streamlined approach to compliance unlike the current system which requires market participants to actively collect, verify and report data to authorities.

For all PYMNTS EMEA coverage, subscribe to the daily EMEA Newsletter.

New PYMNTS Study: How Consumers Use Digital Banks

A PYMNTS survey of 2,124 US consumers shows that while two-thirds of consumers have used FinTechs for some aspect of banking services, just 9.3% call them their primary bank.

We’re always on the lookout for opportunities to partner with innovators and disruptors.

Learn More