Despite the potentially huge returns, institutional investors have shunned decentralized finance.
This is partly because DeFi is a risky business, but another big part of the equation is the lack of Know-Your-Customer (KYC) checks required for Anti-Money Laundering (AML) compliance, which is what making it a no-go for institutional investors who can’t afford and don’t want to anger regulators.
However, this is starting to change as a number of companies have started offering AML/KYC solutions built for DeFi.
One of the first projects to embrace AML is Aave, a lending/borrowing protocol that is the #3 DeFi project with a total locked value (TVL) of $5.6 billion. Investors “lock up” funds that borrowers can access via overcollateralized loans — typically requiring them to deposit crypto with 125% to 150% of the amount borrowed.
See also: Crypto Basics Series: How Does Decentralized Crypto Lending Work?
These funds do not come from a single source, but rather from liquidity pools — groups of investors who combine into a single lender operating on the platform, and generally compete with each other by accepting and lending different cryptocurrencies and stablecoins on different terms .
In January, the protocol launched Aave Arc, targeting these institutional investors.
Its distinguishing feature? Aave Arc allows liquidity pools to add approvals, meaning both lenders and borrowers must be approved by a central body of “whitelisters” who can do something unique to the platform: deny access.
“We’re bringing the world of DeFi to institutions because they can’t get to it in their decentralized form,” Jason Allegrante, Chief Legal and Compliance Officer at Fireblocks, told Blockworks when Aave Arc launched.
Calling it a “hybrid solution,” Allegrante explained that while it’s part of Aave and driven by the smart-contract-driven DAO like any other liquidity pool, it adds a core component to the decentralized protocol.
“The technology is still what it is, but an enabling environment is being built around it,” he said. “I hope that we can gravitate towards a fully decentralized future, but we must seize the opportunity we have before us by bringing DeFi to institutions. If you look at DeFi and what it could do, we may be looking at the next wave of institutional adoption.”
The next wave
This is a market big enough that several companies have developed dedicated AML tools targeting DeFi projects – which through a governance vote can add features including an AML provider that would presumably be paid for by fees, imposed on users.
These include ShutiPro, PureFi, Comply Advantage and Coinfirm. The latter announced in May the launch of an AML oracle for DeFi platforms, allowing them to connect an external information service listing blacklisted addresses that can be added to a blacklist.
Others, like Shufti Pro, offer a KYC verification service, while Comply Advantage is an artificial intelligence (AI)-based service that helps clients spot potential risks.
A growing need
Aave is hardly the only one following this market — and adding AML compliance more broadly. In March, another top DeFi project, decentralized exchange (DEX) SushiSwap, passed a governance proposal to create a Swiss-incorporated foundation that would give it some centralized control and a regulator that would allow adding, among other things would AML checks.
Continue reading: Top DeFi exchange SushiSwap is building in controls as AML measures loom
The aim is to “reduce future risks”.
This became a little clearer on Aug. 2 when authorities in the Netherlands announced the arrest of a developer of Tornado Cash, a decentralized mixing service that obscures the origins of cryptocurrencies. It was added to the U.S. Treasury Department’s list of sanctioned “persons” the same day, which claimed it had been used extensively by North Korean hackers who robbed crypto platforms to fund nuclear weapons research.
See also: Tornado Cash Arrest signals collect AML storm for DeFi developers
The Dutch authorities reportedly told the DeFi education fund on Aug. 17 that tools “created for the sole purpose of committing criminal acts, for example, to conceal criminal money flows, then putting online/making available a developed tool is a criminal offence.” can be. ”
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