Decentralised finance (DeFi): a functional approach

Matteo Aquilina, Jon Frost and Andreas Schrimpf

No 17810, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: “Decentralised finance†(DeFi) refers to a range of applications in the crypto-asset space that seek to disintermediate the provision of financial services through reliance on self-executing computer code (“smart contracts†). DeFi has so far been mainly self-referential in that it has largely facilitated the financing and trading of crypto-assets rather than providing intermediation services to support real economic activity. Yet this may change in the future, should asset tokenisation and/or the use of DeFi applications by existing financial institutions lead to greater interconnections with traditional finance (TradFi). We argue that many of the functions that DeFi tries to mimic are similar to those in TradFi, and so are many of the risks that this intermediation entails. The same economic rationale that has guided financial regulation for decades can hence be applied to the crypto and DeFi world as well. Risks are, however, often exacerbated in DeFi by the severity of market failures (externalities and information asymmetries). Having compared the functions performed in TradFi and DeFi, we show how regulation to protect consumers, maintain market integrity and ensure financial stability applies to DeFi. Finally, we sketch a possible approach to the regulation of DeFi that takes into account its specificities and functions.

Keywords: Decentralisation; Cryptocurrency regulations; Blockchain; Cryptocurrencies; Financial intermediation (search for similar items in EconPapers)
JEL-codes: E42 E51 E58 F31 G28 L50 O32 (search for similar items in EconPapers)
Date: 2023-01
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Journal Article: Decentralized Finance (DeFi): A Functional Approach (2024)
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