Government crackdowns are coming unless crypto starts self-policing

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Self-reg­u­la­tion will be crit­i­cal in gov­ern­ing the rapid­ly chang­ing land­scape of the cryp­tocur­ren­cy indus­try in order to pre­serve its autonomous, decen­tral­ized nature. 

Months after the col­lapse of the Ter­ra ecosys­tem that pro­pelled crypto’s mar­ket cap­i­tal­iza­tion below $1 tril­lion, the indus­try is begin­ning the long process of rebuild­ing not only retail trust but also faith in itself. Cur­rent mar­ket con­di­tions are in part due to struc­tur­al weak­ness­es in smart con­tracts, mod­els and gov­er­nance process­es. This is made evi­dent by the many hacks and exploits that have tak­en place this year and the bal­loon­ing of projects with flawed toke­nomics and that are gov­erned through dubi­ous oper­a­tions.

The imple­men­ta­tion of stricter self-reg­u­la­to­ry stan­dards will be nec­es­sary for the indus­try to build a sus­tain­able, inno­v­a­tive alter­na­tive finan­cial ecosys­tem. On the oth­er hand, if the indus­try con­tin­ues to ignore this prob­lem, it’s cer­tain that exter­nal reg­u­la­tors will step in hard, forc­ing the new sys­tem to become cen­tral­ized in order to com­ply with lega­cy rules.

Self-regulation could supercharge the next stage of crypto

Self-reg­u­la­tion in var­i­ous per­mu­ta­tions has been suc­cess­ful­ly imple­ment­ed in many indus­tries with gov­ern­ment over­sight, result­ing in more lenien­cy in exter­nal regulation. 

The adver­tis­ing indus­try is a prime exam­ple with its imple­men­ta­tion of self-ini­ti­at­ed stan­dards to pro­tect the data pri­va­cy of users. As the inter­net indus­try grew in the 2000s, con­cerns began to emerge over users’ data being used by third par­ties with­out con­sent. The Fed­er­al Trade Com­mis­sion, a Unit­ed States gov­ern­ment agency, pro­posed online pri­va­cy guide­lines for the col­lec­tion and use of users’ data for online behav­ioral adver­tis­ing. In response, rep­re­sen­ta­tives of the ad indus­try devel­oped a self-reg­u­la­to­ry pro­gram based on the FTC’s rec­om­men­da­tions. The pro­gram includ­ed “ad choic­es” to pro­vide users with more con­trol and auton­o­my over their data, with the option to opt out of per­son­al targeting.

Relat­ed: Fed­er­al reg­u­la­tors are prepar­ing to pass judg­ment on Ethereum

As a result of con­tin­u­al proac­tive efforts by the ad indus­try, they were able to avoid high exter­nal reg­u­la­tion and, instead, oper­ate with over­sight from the FTC. This rela­tion­ship, where gov­ern­ment and indus­try align, shows that inno­va­tion can be encour­aged while also pro­tect­ing con­sumer needs.

Without industrywide participation, self-regulation is futile

For the cryp­to indus­try to be tak­en seri­ous­ly in self-reg­u­la­tion, it would require indus­try­wide par­tic­i­pa­tion. A paper pub­lished in the Amer­i­can Polit­i­cal Sci­ence Review demon­strates that when there is high self-reg­u­la­to­ry par­tic­i­pa­tion, inter­ven­tion by pro-reg­u­la­to­ry forces is sig­nif­i­cant­ly reduced. Mean­while, pro-reg­u­la­to­ry forces dom­i­nat­ed 68% of cas­es where there was no self-reg­u­la­tion. Cas­es with high par­tic­i­pa­tion in the num­ber of com­pa­nies self-reg­u­lat­ing with exten­sive self-reg­u­la­to­ry prac­tices saw pro-reg­u­la­to­ry forces drop to 4%.

Great self-reg­u­la­tion can main­tain the val­ues of decen­tral­ized finance — such as being per­mis­sion­less — while still pro­tect­ing users. 

One area where self-reg­u­la­tion will be essen­tial is pri­va­cy in DeFi. All indi­vid­u­als deserve pri­va­cy over their infor­ma­tion as well as their mon­ey. How­ev­er, pri­vate finan­cial sys­tems are known to be used by nefar­i­ous actors, lead­ing to actions such as the sanc­tions against Tor­na­do Cash.

An exam­ple of a self-reg­u­la­to­ry pri­va­cy solu­tion would be the cre­ation of opt-in whitelists in pri­vate DeFi sys­tems. As a user, you would be able to choose to opt in to one of many pos­si­ble whitelist­ing ser­vices when deposit­ing and trans­act­ing in pri­vate DeFi. This means that while you would not be per­son­al­ly iden­ti­fi­able, when you lat­er want­ed to send funds to a cen­tral­ized exchange, or sell your assets, any­one would be able to ver­i­fy that your funds had pre­vi­ous­ly been reg­is­tered to a whitelist and that, there­fore, your source of funds was not crim­i­nal. This whitelist provider could be a cen­tral­ized exchange, a gov­ern­ment orga­ni­za­tion or an inde­pen­dent third par­ty where you have com­plet­ed Know Your Cus­tomer requirements.

As a user, you can, if you wish, still choose not to reg­is­ter with a whitelist, or to reg­is­ter with a less trust­ed one. But this would make it dif­fi­cult to ever prove the source of your funds or move them back into the tra­di­tion­al finan­cial system. 

Relat­ed: Biden is hir­ing 87,000 new IRS agents — and they’re com­ing for you

The cryp­to indus­try has matured sig­nif­i­cant­ly with each cycle, prov­ing its resilience and opti­mism to evolve. The indus­try has come togeth­er to improve pri­va­cy with zero-knowl­edge proofs, cre­ate cheap­er and faster options for users through layer‑2 solu­tions and alter­na­tive layer‑1 blockchains, and com­pen­sate users who were vic­tims of hacks and failed projects.

If the indus­try is to con­tin­ue dri­ving devel­op­ment roadmaps with­out undue reg­u­la­tion, auton­o­my has to be earned. The tide may be begin­ning to turn as more gov­ern­ments weigh in, as we saw in the sanc­tion of Tor­na­do Cash and the pro­posed two-year ban on algo­rith­mic sta­ble­coins. While self-reg­u­la­tion may prove chal­leng­ing to coor­di­nate, in the big­ger pic­ture, it reasserts con­fi­dence to gov­ern­ing bod­ies that the indus­try is tak­ing proac­tive mea­sures to address its vul­ner­a­bil­i­ties. It leaves a door open for the pos­si­bil­i­ty of col­lab­o­rat­ing with reg­u­la­tors to pre­serve the iden­ti­ty of cryp­to that drew so many in: finan­cial auton­o­my and inclusion. 

To be sure, these prac­tices may appear to resem­ble prac­tices in Web2 that imple­ment cer­tain cen­tral­iz­ing fea­tures. How­ev­er, the appli­ca­tion of these stan­dards by par­ties invest­ed in the ethos of the indus­try may be the sil­ver lin­ing that is needed.

Self-reg­u­la­tion will be an impor­tant approach toward gov­ern­ing the evolv­ing land­scape of the cryp­to indus­try. The extent of inno­va­tion pos­si­ble and, inverse­ly, the enforce­ment of gov­ern­ment reg­u­la­tion will be reflect­ed by how well the indus­try proac­tive­ly reg­u­lates itself. To ush­er in a new era of sus­tain­able growth shaped by those who tru­ly under­stand what the cryp­to indus­try wants to be and where it is head­ing, real foun­da­tion­al changes and self-reg­u­la­tion must take priority.

Will Har­borne is co-founder and CEO of Rhino.fi, a sin­gle gate­way into a mul­ti­chain, gas-free world of Web3. An ear­ly pio­neer in the Ethereum ecosys­tem, Will entered cryp­to full-time when he joined Bitfinex in 2017 to lead incu­ba­tion and launched Ethfinex Trust­less. Ethfinex evolved into Dev­er­si­Fi in 2019 and rebrand­ed to Rhino.fi in 2022. Before ven­tur­ing into cryp­to, Will was a tech­nol­o­gy con­sul­tant at Cam­bridge Con­sul­tants and IBM.

This arti­cle is for gen­er­al infor­ma­tion pur­pos­es and is not intend­ed to be and should not be tak­en as legal or invest­ment advice. The views, thoughts, and opin­ions expressed here are the author’s alone and do not nec­es­sar­i­ly reflect or rep­re­sent the views and opin­ions of Cointelegraph.

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