Unlike centralized exchanges (CEXs), DeFi protocols aspire to create an alternative to traditional financial systems by replacing intermediaries with smart contracts, or self-sufficient code embedded in blockchain networks. Given the “decentralized” nature of DeFi, KYC and Anti-Money Laundering (AML), regulations are not enabled. This is extremely important to regulators given the fact that DeFi protocols are accessible without KYC processes.Ī recent report from Merkle Science - a predictive risk and intelligence platform - elaborates on the dangers of no KYC, noting, “anyone sitting in any country may access DeFi protocols without the need to go through KYC - unintentionally providing bad actors access to financial services for illicit activity.” The report further states that “the lack of KYC also means that users often need to over-collateralize to access services such as loans.”
Specifically speaking, Jefferies explained that DeFi crimes will spark an acceleration of Know Your Customer, or KYC, legislation in respect to decentralized exchanges, or DEXs. While unfortunate, some in the crypto industry believe that DeFi-related crime will actually advance decentralized finance moving forward.įor instance, chief financial analyst of CipherTrace John Jefferies told Cointelegraph that the recent hacks and fraud will help DeFi in the short term: “If an anonymous hacker can steal millions of dollars from unnamable victims, then it’s clear this sector needs more effective security controls." DeFi hacks necessary to help sector mature This is considerably higher compared to last year’s total, which was only 3%. Moreover, DeFi-related fraud accounted for 54% of major crypto fraud volume at the time CipherTrace’s report was published. This represents a 2.7 times increase from 2020. To further put this in perspective, crypto intelligence firm CipherTrace revealed in their latest “Cryptocurrency Crime and Anti-Money Laundering” report that DeFi hacks totaled $361 million by July 2021, accounting for three-quarters of the total hack volume of the entire crypto industry for this year. The Poly Network hack resulted in over $600 million dollars removed, and then returned, from BINANCE Chain, Ethereum and the Polygon Network. Most recently, the largest DeFi hack within the crypto industry took place. This has become apparent as more DeFi hacks continue to wreak havoc across the crypto community. Unsurprisingly, one of the biggest challenges currently facing the DeFi sector is security threats. Yet, given the innovative nature of DeFi, the sector remains in constant development and is therefore prone to a number of vulnerabilities. The rise of decentralized finance, or DeFi, could be paving the way toward a fully decentralized financial ecosystem.
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