First US Congressional DeFi Hearing Reveals Sharp Divide Over Regulatory Framework

The landmark US Congressional hearing into decentralised finance (DeFi) took place yesterday, highlighting the stark partisan divide over regulation of the sector. On one side of the political fence, the Democrats are pushing for more regulation and consumer protections around DeFi. While the Republicans are urging a light-touch approach to encourage growth and innovation. 

As part of the Democrats’ case to strengthen consumer protections around DeFi, Rep. Maxine Waters pointed to a recent scam involving the Trump family’s latest DeFi scheme, World Liberty Financial, in which investors lost around US$1.8 million (AU$2.7m).

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Democrats Call For Protections, Citing Trump Family DeFi Project

The purpose of yesterday’s hearing, titled ‘Decoding DeFi: Breaking Down the Future of Decentralized Finance’, was to explore the potential risks and benefits of DeFi. But its main outcome was to ram home just how differently the major parties see the future of DeFi.

The Democrats are very much focussed on the risks of fraud and market manipulation and see protecting investors as the number one priority when it comes to DeFi.

As an example of these risks, Democrat Rep. Maxine Water of California cited the issues around the Trump family’s latest DeFi project World Liberty Financial. Last week several Trump family members had their X / Twitter accounts hacked and used to promote a fraudulent version of World Liberty Financial, urging people to invest. Unfortunately many people did indeed invest in the fraudulent project and lost an estimated US$1.8 million.

Rep. Waters used this incident to highlight the importance of improving protections for DeFi investors:

Given the prominence of those behind this project, bad actors found an opportunity to exploit potential users. It’s our responsibility as lawmakers to ensure consumers are protected from such scams in the DeFi space.

Rep. Maxine Water (D-CA)

Another DeFi project created by many of the same people behind World Liberty Financial, known as Dough Finance, was also hacked earlier this year leading to over US$2 (AU$3m) million in losses. There are reports that some of the code in World Liberty Financial was cut and pasted directly from Dough Finance.

Republicans Insist DeFi Sector Must Be Allowed to Innovate

In contrast, the Republicans, led by Sub-committee Chair French Hill of Arkansas, insisted a light-touch regulatory approach to DeFi is essential to realise the potential benefits — such as increased financial inclusion and enhanced freedom for individuals to transact with each without reliance on intermediaries. Hill warned that a heavy regulatory burden could kill the nascent sector, saying:

We must tread carefully to allow innovation to flourish while addressing legitimate concerns. DeFi holds great promise, but we can’t be so restrictive that we kill its potential.

Sub-committee Chair French Hill (R-AR)

Hill also warned that if the US takes a more restrictive regulatory approach to DeFi it may simply drive projects to other jurisdictions, limiting the potential benefit of DeFi to the US economy.

Related: FBI: Crypto Fraud Cases Increase by 45%, Reaching $5.6 Billion

Non-partisan industry representatives also testified at the hearing. The general view is more balanced: DeFi does need more regulation, applied carefully to avoid hampering growth and innovation.

Peter Van Valkenburgh, research director at non-profit cryptocurrency advocacy group Coin Center, testified that improved investor protections are required to combat widespread fraud, but invasive measures must be avoided to preserve users’ privacy and realise the technology’s benefits:

If we don’t allow Americans to use and develop peer to peer financial systems, those tools will be used and developed overseas. Insisting on re-intermediating and surveilling peer to peer financial transactions would make the US as non-competitive as a country still relying on human switchboard operators for telephone calls.

Peter Van Valkenburgh, Research director at Coin Center