Is Compliance the Next Wave for DeFi?

What is compliant DeFi

Compliance in the DeFi sector means that the participants adhere to the same rules as traditional financial services. The laws that are set out for capital markets and the entire financial sector differ across states and governments, but they are classified into Know Your Customer (KYC), Anti Money Laundering (AML), and Countering the Financing of Terrorism (CFT).

Potential Solutions

DeFi’s challenge is not unprecedented, traditional finance met these not too long ago; since financial operations, including payments and settlements, retail investment, etc., regulators have been trying to curb illegal operations, i.e., money laundering. Some of these solutions require creative engineering so they can fit decentralized models without exposing users’ personal information.

  1. Whitelisted addresses. A list of items/IP addresses that once they receive an initial validation are granted access to a certain system or protocol. In the case of DeFi, we could have one or two trusted anchors that could validate an address and conduct Know Your Customer diligence on the user. Once the user has been validated, all other projects within the same trust channel — i.e., a group of virtual asset service providers, or VASPs, that have agreed to follow the same set of rules and to collaborate within a well-delineated platform — can give that user access to products and services without having to redo the entire KYC process.
    The advantage here is twofold: The user only shows private documents to one or two entities, thus reducing the surface area of attack for any potential data hacks, and the VASPs can have access to a larger user pool without having to increase compliance costs. A system like this could also enable individuals and entities who are excluded from traditional banking, savings and trading ecosystems due to geopolitical reasons to invest in yield-bearing products, alternatives to lending and high-interest accounts. DeFi is an alternative for these citizens and business owners to save, earn and transact.
  2. AML- and GDPR-compliant systems. Institutional capital markets are strictly regulated and supervised by local and international regulatory bodies; the goal is to prevent money laundering and the financing of terrorist operations. With an attestation framework, projects can verify and comply with existing AML regulatory requirements and attract institutional capital while protecting users’ privacy by not requiring them to create copies of their personally identifiable information.
  3. Audited codebases and third-party certifications. There are plenty of blockchain projects out there that are not built under minimum acceptable standards, and it’s difficult for every user to go through the codebase and verify that the code is doing what it is meant to do. By having third-party validators go through the code — attesting to its integrity, functionality and reliability — the bar would be raised, making these projects more competitive and safer for investors.
  1. Veriscope GDPR/AML Compliant Discovery Mechanism. A key focus for Shyft Network has been the creation of Veriscope, an identity and data exchange network that helps VASPs (Virtual Asset Service Providers) like crypto exchanges, adequately comply with the FATF Travel Rule for virtual assets and service providers. Veriscope is a decentralized solution that will enable VASPs and other projects sanctioned by regulatory authorities, the opportunity to comply with regulations while protecting user data and continuing to remain decentralized.
  2. Whitelisted Addresses and Proof of Identity. Shyft Network enables both decentralised and centralised entities to continue operating seamlessly meaning they will be lending, staking, and providing liquidity without fear of falling victim to bad actors. DeFi participants will be required to provide proof of their identity that will be used to whitelist their addresses. Whitelisted addresses will be able to interact with both the decentralised finance providers and mainstream institutions freely as they bear a higher level of trust.
  3. Risk Assessment Mechanism for all DeFi Projects. Shyft Network will also continually monitor all wallet addresses interacting with DeFi smart contracts and regularly query them for risk assessment purposes. The result of these queries will be used to generate reports and score addresses on a set risk evaluation scale to establish the trust levels of various participants. The Shyft Network will make this information readily available for DeFi platforms interested in making assessment of various participants. Most importantly, addresses found to be in violation of the set guidelines will be blacklisted to protect others from potential nefarious actors.

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Shyft Network

Shyft Network

Shyft Network is a public protocol and attestation network designed to validate identity and power compliance directly into blockchain data.