DeFi needs institutions — and regulation 

The total value of tokens deposited in DeFi applications has just crossed $60 billion, hitting a level not seen since August 2022.

This is an impressive milestone for the ecosystem, indicating a real interest from market participants in the underlying technology. Coupled with forays into the tokenization of traditional assets like bonds and securities by major financial institutions such as HSBC, JPMorgan, Bank of America and, most recently, Citi — it seems undeniable that DeFi and legacy institutions could converge to provide new utility by migrating a range of asset classes on-chain.

The environment is primed: According to a new Moody’s report, government-backed tokenized fund issuance on public blockchains grew to over $800 million in 2023, from around $100 million at the start of the year. On-chain stablecoin transactions reached $11 trillion in 2022.

And yet one major hurdle exists: DeFi proponents’ strong resistance to oversight.

Pioneered by “degens” known for their aversion to regulation, the fundamental tenets of DeFi technology — anonymity and the elimination of intermediaries — inherently challenge the fiduciary responsibility norms upheld by banks and asset managers and overseen by regulators.

But for DeFi to meaningfully enhance global access, storage and management of value, it must embrace the imperative of reasonable oversight.

Driving institutional adoption with regulatory clarity

If DeFi is to integrate into traditional financial services, there’s a critical need for regulatory clarity.

DeFi offers relief from long-standing pain points of traditional financial services — issues such as access gaps, fragmentation, sluggish transaction speed, lagging settlement times and high relative costs to engage. Increased regulatory clarity and transparency will be pivotal in attracting substantial investment from mainstream investors looking to add crypto to their portfolios.

Read more from our opinion section: Blockchain is one step away from mainstream adoption

Know-your-customer (KYC) and anti-money laundering (AML) stand out as the most essential standards for DeFi to grapple with — because financial institutions are legally mandated to verify the trustworthiness and accreditation of their counterparties.

While digital assets were developed as trustless technologies built to preserve privacy, some compromise is necessary for the underlying tech to be useful — and for protocols to remain viable.

Investment in adaptive DeFi solutions like ZKPs

In response to regulatory uncertainty, the crypto industry is proactively investing in technologies and infrastructure capable of adapting to shifting industry dynamics.

Zero-knowledge proofs (ZKPs) offer institutional DeFi a pivotal mechanism to balance privacy and compliance through cryptographic verification, enabling non-custodial operations. ZKPs are integral to the institutional adoption of DeFi — they bolster transaction privacy and confidentiality while streamlining identity verification processes and mitigating data breach risks.

As financial institutions and consumers become more inclined to explore decentralized payment tools in the months ahead, ZKPs offer incentives while limiting ideological and practical sovereignty compromises. As the industry continues to project growth, ZKPs are expected to generate a potential $10 billion in revenue by 2030.

Tokenization

As more institutions and consumers discover the power of transforming their real-world assets into digital tokens, this will accelerate momentum and market value — enhancing interoperability between platforms, increasing liquidity through fractionalization, fostering new pathways for investment and more integrated asset management.

Read more from our opinion section: Wall Street is missing out on DeFi

The increased adoption of tokenized fiat and money-market products offering yield — like on-chain treasuries growing by more than 700% in a year — can also be expected to fuel other tokenized real-world assets’ adoption. Tokenization is expanding beyond the traditional to include a broader range of alternative assets like real estate, carbon credits, and private equities. This diversification offers a landscape where digital assets can serve as the preferred medium for representing and trading anything of value.

Some have recently made the case that the widely-cited tokenization growth to $16 trillion by 2030 may be an underestimate. Blockchain technology is expected to boost the global GDP by $2 trillion, equivalent to a 2% increase in overall GDP in the same year alone.

These projections underscore the transformative potential of these technologies: They are propelling us towards unprecedented levels of productive growth on a scale that could meaningfully impact the world economy.

Why it matters

While oversight may clash with the staunchest ideological DeFi proponents, it’s time to confront reality. The crypto community must recognize that embracing integration into existing financial systems and services will cement DeFi’s pivotal position as a cornerstone in shaping the future of money and digital assets.

Markus Infanger joined Ripple in January 2019 and currently is the SVP of RippleX, a business unit supporting partnerships and developer growth around the XRP Ledger. Prior to Ripple, Markus was in banking for over 20 years leading global teams in Foreign Exchange. He is currently also completing an Executive MBA with TRIUM (LSE, NYU, HEC Paris).