Why in news?
The rapid growth of decentralised finance has raised concerns about its potential use for terror financing and money laundering. Experts warn that regulatory gaps could allow illicit activities to flourish.
What is DeFi?
Decentralised finance is a blockchain‑based system that provides financial services such as saving, lending, investing and trading without relying on traditional banks or intermediaries. It emerged from the ethos of Bitcoin (2009) and expanded with the Ethereum blockchain (2015), which supports smart contracts.
Aim and principles
- Disintermediation: By using smart contracts, DeFi enables direct transactions between users, eliminating the need for banks.
- Financial inclusion: Anyone with an internet connection can access DeFi platforms, often without Know Your Customer (KYC) requirements.
- Transparency: All transactions are recorded on public ledgers, and governance is often managed by decentralised autonomous organisations (DAOs) where token holders vote on decisions.
How it works
- Users create crypto wallets and interact with decentralised applications (DApps).
- Smart contracts execute lending, borrowing, trading or insurance services automatically.
- Stablecoins, decentralised exchanges and peer‑to‑peer lending platforms form part of the DeFi ecosystem.
Opportunities and risks
- Opportunities: DeFi can empower unbanked populations, drive innovation in financial products and reduce costs for cross‑border transactions.
- Risks: The anonymity of transactions makes the system susceptible to hacking, fraud, terror financing and money laundering. Lack of regulation and insurance exposes users to losses from smart‑contract bugs or market manipulation.
Balancing innovation with regulation will be key to harnessing DeFi’s benefits while mitigating its threats to national and global security.