DeFi activity monitoring groups are warning consumers that certain DeFi activities may be illegal under federal law. They pose a serious threat to consumers who put their money in systems that are less human-supervised and accountable and more vulnerable to cyberattacks.In an interview, CFTC Commissioner Dan Berkovitz stated that he was concerned about the lack of reporting and normal pricing. Bottom line, there is no free lunch in the economic system.Regulators face a daunting task in clamping down upon an open-source financial system that has grown beyond their control. Modern financial regulation is built on the registration of centralized entities such as clearinghouses and lenders with the government. They are subject to supervision.You're seeing DeFi protocols for large-scale borrowing and lending, said Joseph Borg, Director of Alabama Securities Commission. It's between unknown parties without intermediaries. Now the question is: Who do we put this on?DeFi is a rebranding of the old model. Its advocates claim that a decentralized, automated market will reduce costs, increase efficiency, and provide greater transparency.Alex Mashinsky of Celsius Network, whose crypto finance company uses DeFi technology said that the services allow him to "innovate around all these centralized toll collectors."He said that the chronic systemic problem in our financial system is the fact our traditional system, traditional financing, is too concentrated, leveraged, and too large to fail.MakerDAO is one of the most well-known DeFi options. It allows users to borrow stablecoins in return for depositing crypto-based collateral. Uniswap is another decentralized cryptocurrency trading platform that uses an automated liquidity protocol to facilitate transactions. They operate on the same technology as other major DeFi projects.Gary Gensler answered questions from senators during testimony before the Senate Banking, Housing and Urban Affairs Committee, May 22, 2012. | Chip Somodevilla/Getty ImagesSome of the service creators are now in contact with regulators. Marc Boiron, the general counsel for the decentralized exchange builder dYdX stated in an email that they had "proactively (and voluntarily), communicated with the CFTC prior the deployment of all protocols" and "have always carefully reviewed the laws applicable to dYdX." According to Boiron, the initial protocol dYdX created required U.S. users follow CFTC rules regarding retail commodity transactions.The cryptocurrency boom has seen DeFi services grow rapidly over the last year. There are more than 50 billion dollars "locked" in services that use Ethereum, the network for Ether. Coinbase, a major centralized cryptocurrency exchange, has begun to allow customers to deposit funds and earn DeFi returns.Square CEO Jack Dorsey revealed earlier this month that Square would create a new business around a platform for developers. The sole purpose of the platform is to make it easier to create financial services that are non-custodial and permissionless.However, the rapid growth of DeFi raises growing concerns for regulators and lawmakers. They are signaling a possible crackdown due to increasing evidence of consumer risk.Recent research has highlighted concerns about the lack of human oversight at DeFi and technical vulnerabilities. These vulnerabilities include attacks that have taken millions out of DeFI protocols."In DeFi intermediaries are largely exempt in favor of transparent code," Linda Jeng, Georgetown Law visiting scholar, and Nic Carter, Castle Island Ventures partner, said in a paper last month.Senator Elizabeth Warren is urging Gary Gensler, the chair of the SEC, to curb DeFi activity. The Massachusetts Democrat, Sen. Elizabeth Warren, stated in a letter that "scammers have surged" on DeFi platforms. She cited an estimate by analytics firm CipherTrace, which estimated that $83 million was spent on DeFi fraud in the first four months.Gensler, in a speech on July 21, warned that crypto tokens backed with securities and operating as derivatives must be allowed to operate within the agency's rules.Berkovitz is a Democratic Commissioner at the CFTC and has been vocal about the need for officials in order to deal with what he calls an "unregulated shadow market financial market." Berkovitz argues that DeFi trading is illegal because it doesn't adhere to the Commodity Exchange Act requirements, which protect derivatives transactions. This month, he revealed that his agency, which regulates futures and swaps trading, was looking into DeFi in all its divisions.He said, "If they have loopholes that they are driving through then there may need be legislation to close them."DeFi players briefed officials from the SEC, CFTC, and International Organization of Securities Commissions in June. This is a sign of increasing scrutiny.Other federal agencies, such as the Office of the Comptroller of the Currency or the Fed, are also starting to investigate DeFi.Bryan Hubbard, spokesperson for OCC, stated that DeFi is not centralized and does depend on the banking system. However, there are links which make it possible to review the benefits and risks of new technologies.Federal officials are being urged by state officials to take action.Borg, an Alabama securities regulator said that there are many potential options and risks. It will be a federal, congressional mandate by the SEC and CFTC to create some of this stuff.Some federal policymakers who support free markets are already rebuking the possibility of crackdown. Hester Peirce (SEC Commissioner), a Republican appointee, stated that removing intermediaries increases financial system resilience. She doesn't want to "just lump DeFi into one big bucket and say it's all the exact same thing."The crypto industry associations are also asking regulators to be cautious.Miller Whitehouse-Levine (director of policy at Blockchain Association) stated that decentralized finance cannot be incorporated into an existing regulatory framework that relies on intermediaries and gatekeepers.Regulators will face the greatest challenge of deciding how to police DeFi protocol software in light of concerns about free speech.Jerry Brito, the executive director of the crypto advocacy group Coin Center, stated that restrictions on computer code could be met with opposition by his organization and other groups, despite the belief it is protected under the Constitution.He stated that publishing and writing software is First Amendment-protected speech. "There is no compromise on this.
