FATF Publishes Crypto Guidance, Why The DeFi Sector Could Be At Risk

The Financial Action Task Force (FATF) has published an update on their virtual assets and virtual asset service provides guidance with a special focus on the DeFi sector. A market gaining more attention from regulators and government agencies around the world, the FATF proposal could usher a new crackdown on crypto and related companies.

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Created to promote policies against money laundering, terrorist financing, and other illegal activities, the FATF is the international body’s task to recommend its member’s actions to counter these operations. Their proposals, according to its official website, are “recognized” as the worldwide anti-money laundering (AML) standard.

Policy Director for the DeFi Fund Miller Whitehouse-Levine commented on the FATF recommendations. He claims the institution envisions a world where decentralized systems are “at best suppressed”. Per their design, decentralized finances protocols allow users to directly interact with a platform, product, or service.

This is why many regulators have expressed concern. As Whitehouse said, DeFi is a direct competitor to banks and custodial financial intermediaries. In fact, the sector eliminates the need for any of them and gives more power to the user.

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Banks and other intermediaries are the entities required to enforce the FATF and their own countries’ regulations. Whitehouse said:

From the guidance, it seems that the FATF is having trouble coping with the fact that DeFi eliminates those intermediaries.

DeFi And Crypto Attract Negative Attention From Regulators, What’s The Possible Fallout

In that sense, Whitehouse claims the international body wants to “curtail” the deployment of permissionless systems used by many DeFi protocols. In addition, the guides proposed the extension of the “regulatory perimeter of financial intermediation”.

The bigger issue seems to revolve around the definition of an entity as a “virtual asset service provider” (VASP). A key point in the past U.S. infrastructure bill fought by crypto lobbyists, which seeks to require crypto-based companies to provide more information to the government on their users, the FATC takes a similar road.

However, the international body goes one step further in an attempt to increase the requirements that DeFi developers would need to meet in order to launch a protocol or platform. Whitehouse said:

This “launch standard” may effectively obligate a developer to only launch a *permissioned* system because the developer would be obligated to comply with VASP intermediary obligations…

Undoubtedly, this is another demonstration of an institution trying to gain more control over the crypto industry and the sector with the capacity to replace banks and financial intermediaries, both key components in the modern financial system. Whitehouse claims that the FATC recommendations are far from a “tech neutral approach” and could go against the U.S. constitutions.

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In addition to the above, the guidance would point as VASPs DeFi to any entity with “some measure of control or sufficient influence over a protocol”. Without providing a clear definition of the referred concepts, as Whitehouse said, they are open to any interpretation and could endanger the sector as a whole and even target communities with “sufficient” influence over a protocol. Whitehouse said:

15/ Notwithstanding these concerns, the real-world implications of this guidance will likely be relatively limited. We’re a longg way from “on the ground” implementation of any of this.

— Miller (@millercwl) October 28, 2021

Fortunately, the FATF recommendations are often ignored by its member countries. Legal expert Jake Chervinsky said via Twitter. The U.S. seems to be especially inclined to disregard them which could ultimately be beneficial for the crypto industry.

Reminder: FATF gives guidance, it doesn't make law. Member countries often go their own way, the US especially.

In 2012, FATF advised new regulations for lawyers, accountants, & real estate agents. In 2016, FATF dinged the US for failing to implement them. Still hasn't happened.

— Jake Chervinsky (@jchervinsky) October 28, 2021