- Polygon Labs proposes a new framework to classify decentralized finance (DeFi) protocols as critical infrastructure.
- The proposal suggests oversight by the U.S. Treasury’s Office of Cybersecurity and Critical Infrastructure Protection (OCCIP) without making them financial institutions under the Bank Secrecy Act.
Polygon Labs’ Vision for DeFi
Polygon Labs’ legal team, including Rebecca Rettig and Katja Gilman, alongside Michael Mosier of Arktouros, has put forth a groundbreaking proposal for the future of decentralized finance (DeFi). The team suggests a conceptual framework for combating illicit finance activity in DeFi, aiming to balance innovation with security.
1/ Today, @m_mosier_ @katjagilman & I are sharing a paper that begins a conversation around, & proposes a conceptual framework for, how to answer the "illicit finance" policy question as it relates to DeFi. A brief thread below, with links to the full paper + a summary document. pic.twitter.com/1OQ1gCHiAX
— Rebecca Rettig (@RebeccaRettig1) January 29, 2024
DeFi as Critical Infrastructure: A Shift in Regulatory Approach
The team’s 45-page paper advocates for treating genuinely decentralized DeFi protocols as critical infrastructure. This would place them under the purview of the U.S. Treasury’s Office of Cybersecurity and Critical Infrastructure Protection (OCCIP). It’s important to note that while the OCCIP plays a pivotal role in enhancing the security and resilience of financial services sector’s critical infrastructure, it is not a formal financial regulator.
This approach signifies a shift from conventional regulatory frameworks, focusing on cybersecurity and operational resilience rather than financial regulation. The OCCIP’s role includes coordinating with finance firms, industry groups, and government partners to share information about cybersecurity threats and vulnerabilities.
Distinguishing Truly Decentralized DeFi
The proposal highlights the need to differentiate genuinely decentralized DeFi protocols from those with significant centralization points. The latter, according to the paper, should remain subject to existing financial regulations.
Introducing ‘Critical Communications Transmitters’
Another innovative aspect of the framework is the creation of a new category, dubbed
“critical communications transmitters.”
These entities, integral to genuine DeFi systems, would assume tailored obligations to safeguard U.S. national and economic security. Importantly, this designation would not classify them as financial institutions under the Bank Secrecy Act.
Centralized Finance (TradFi) and DeFi: A Distinct Separation
The framework also distinguishes between centralized finance (TradFi) and DeFi. This differentiation is based on independent control guidelines from the U.S. Treasury’s Financial Crimes Enforcement Network.
The Bigger Picture: Empowering Good Activity
The authors emphasize that while preventing illicit activities is crucial, it’s equally important to foster positive developments within the financial sector. This proposal seeks to align DeFi with the broader goal of promoting economic prosperity and ensuring the financial security of the United States.
In conclusion, Polygon Labs’ proposal represents a significant stride towards integrating DeFi into the broader financial ecosystem, balancing innovation with security and regulatory compliance.