Maybe, just maybe, the rationales for banking regulation don’t apply to cryptocurrency.

Brian Brooks, former acting comptroller for the Office of the Comptroller of the Currency, made the unusual proposition that technology may be able to eliminate some of the requirements for the regulation of crypto and decentralized finance (DeFi) Wednesday during the Money 20/20 conference in Las Vegas.

“I think one of the things that will come out is a lot of what we regulate about banks, like self-dealing, and fraud, anti-discrimination rules, those are things that are very important in a system that is operated by human beings, but maybe not important for — maybe not even an issue in a system governed by code,” Brooks said. “So that’s one of the things that crypto goes to solve. And that is one of the features that crypto points us toward, is a world where we can eliminate those issues rather than having to regulate.”

Brooks took the conference stage with Jo Ann Barefoot, CEO of nonprofit policy group Alliance for Innovative Regulation and former deputy comptroller of currency and staffer with the U.S. Senate Committee on Banking, Housing and Urban Affairs. The two began by discussing why banks are regulated and then spoke about whether those same regulatory necessities apply to crypto and DeFi.

Pros and cons

Barefoot said she agreed that traditional bank regulations may not apply to cryptocurrency, adding that DeFi and crypto do not merely require new legal and regulatory frameworks but new regulatory methods based on technology.

“I’m a former regulator; I don’t have any criticisms of the regulators. I think, mostly they do the best they can do,” Barefoot said. “But the tools they’ve had are analog tools that were not built in the digital age. We have a tremendous challenge, changing these regulatory systems to fully leverage technology.”

Some DeFi innovations can improve customer service and promote financial inclusion, she said, particularly as DeFi eliminates some of the middleman, gatekeeping functions that add to banking costs.

“They’re trying to do their gatekeeping in a way that is noncompetitive. And they’re massively increasing costs in the system,” Barefoot said. “We can strip some of that out and create trust, those technologies are just built in the whole system, more portable, more accessible and more effective.”

“So, somebody’s going to suffer,” Brooks added.

Regulators need to take a different approach to risk with crypto and DeFi, Brooks said. Rather than only looking at new risks whenever something changes, regulators should look at what he called “net risk.”

“This is why I talk a lot about the difference between incremental risk versus net risk,” Brooks said. “Regulators, when they have the digital tools to try and advocate for, have to migrate toward a net risk approach that allows them to assess costs and benefits and decide: Is this good on balance, even though there might be some risks that we have to mitigate.”

Lending risk

There are real risks with crypto — such as anti-money laundering concerns — as it’s not always possible to identify a counterparty to a loan, Brooks said. But those risks can be managed in “crypto-native ways,” he added.

“Decentralized identity solutions are coming online every day, and some of them are here at this conference,” Brooks said. “But it’s a new risk.”

Another concern is supervision since there’s no chief financial officer sitting at a board meeting to supervise crypto and DeFi.

“As I wrote in my last op-ed as acting controller, that doesn’t mean it can’t be supervised. And in some ways, it might actually be easier to supervise, because everybody in the world has the ability to examine all the lines of open-source code, whereas when you’re examining a bank, it’s possible you’re dealing with somebody who’s trying to defraud you,” Brooks said.

Moderator Matthew Van Buskirk, co-founder and co-CEO at startup Hummingbird Regtech, then questioned whether regulators might require a code mandate to create a legal framework for DeFi, since most government agencies do not have access to tech talent.

It would be challenging for the U.S. government to hire the kind of tech talent found in Silicon Valley, Brooks said.

“So if you believe that, which I do, why in the world will you think of having yet another government agency that would solve the problem?” he asked. “The issue right now might be government’s inability to supervise these things. But creating a new regulator is certainly not going to do that.”

And, there are already rules around lending that could apply to crypto lending, Brooks said.

“There are rules in this country around lending and their regulators have power to regulate lending,” he said. “Why do we need a separate regulator to regulate lending when it’s done by a crypto company versus when it’s done by a bank?”