Polygon Labs Proposes DeFi as "Critical Infrastructure" in New Regulatory Framework

Polygon Labs and the emergent technology law firm Arktouros, in collaboration with Michael Mosier, co-founder of Arktouros, have introduced a regulatory framework that advocates for decentralized finance (DeFi) protocols to be officially recognized as "critical infrastructure." This proposal calls for federal cybersecurity agencies to oversee and regulate neutral, decentralized DeFi protocols operating within the United States.

Published on January 29, the comprehensive 45-page document titled "A Conceptual Framework for Combating Illicit Finance Activity in Decentralized Finance" aims to establish a new regulatory paradigm for the DeFi space.

The central premise of the proposal is to categorize genuinely decentralized DeFi protocols as critical infrastructure, subject to oversight by the U.S. Treasury's Office of Cybersecurity and Critical Infrastructure Protection (OCCIP). While not an official financial regulator, the OCCIP is tasked with coordinating efforts to enhance the security and resilience of critical infrastructure within the financial services sector.

Working in collaboration with financial institutions, industry associations, and government partners, the OCCIP plays a crucial role in sharing information about cybersecurity threats and vulnerabilities.

However, the proposal acknowledges that not all DeFi protocols are truly decentralized; some exhibit significant points of centralization, making them subject to existing financial regulations.

In addition to the critical infrastructure designation, the authors of the framework have suggested creating a novel category known as "critical communications transmitters." These entities would interact with and form an integral part of genuine DeFi systems. They would be required to adhere to specific obligations aimed at safeguarding U.S. national and economic security, without being classified as "financial institutions" subject to the Bank Secrecy Act (BSA).

The proposed framework also distinguishes centralized finance (CeFi) or traditional finance (TradFi) as separate entities with independent control, aligning with guidance from the Treasury's Financial Crimes Enforcement Network (FinCEN).

Crypto industry lawyer Jake Chervinsky has noted that discussions surrounding the digital asset industry often revolve around securities and commodities laws. However, policymakers in Washington D.C. are primarily concerned with illicit finance, and this regulatory framework may mark the beginning of a comprehensive solution to address these concerns.

The authors emphasize that while combatting illicit activity is crucial, it is equally essential to empower positive activities, aligning with the Treasury's overarching mission to promote economic prosperity and ensure the financial security of the United States.