By law or by practice, many crypto-related products and activities fall between the cracks of traditional legal and regulatory structures, outside the so-called “regulatory perimeter.” In that environment, the normal backstops and safety nets of traditional finance do not necessarily or reliably apply. High volatility is the rule, not the exception; fraud and theft occur regularly, often at large scale. Your whole pot is always on the table; you take part at your own risk.

Some DeFi traders understand these dynamics well. If they don’t embrace them, they still accept them as the natural state for a new, exciting, and still relatively unregulated marketplace. And they have a point: Crypto and DeFi may be new, but these kinds of freewheeling markets aren’t. They often emerge—to quote Professor Debora Spar—after:

That was true with long-distance ocean trade in the 1400s; with the spread of railroad transportation in 19th century America and the explosive growth of banks to fund it; with “homebrew” computing in the ’60s and ’70s; and with the internet in the ’90s. New technology—and a lack of clear rules—meant some new fortunes were made, even as others were lost.

From the perspective of many market participants—the ones who survive and thrive in this rough and tumble—regulation isn’t just unnecessary, it’s counterproductive. It drives up costs, creates barriers to entry, and stifles innovation. From some crypto advocates, I have heard this argument as well as a related one: that these experienced investors know what they’re getting into, and that they’re not asking for protection because they believe they don’t need it. Given all of that, the argument goes, why should anyone bring regulation into a space that’s not asking for it?

New retail users, by definition, do not have crypto experience. They don’t know how to independently buy a crypto asset, how to obtain and protect a private key, how to conduct trades on a DeFi protocol, or how to write a smart contract. They need help, and for a price, a range of fast-growing exchanges, wallet providers, and other intermediaries are willing to provide it. But while intermediaries can potentially help monitor and manage risk, they can’t eliminate it. In such a volatile market, any user still has a meaningful chance of losing their money.

What happens in the aftermath of these losses? On an individual level, one possibility is a dispute between the intermediary and its customers over poor due diligence, poor financial advice, poor management practices, and so on. Resolving those disputes individually can be costly. So, it’s no surprise that intermediaries would ask for some kind of protection from them—some standard rules of the road that, if followed, create at least some presumption of proper conduct. As a result, intermediaries can eventually demand regulation to protect themselves.

In summary, financial regulation is typically demanded (1) by financial intermediaries as a form of liability protection and (2) by the taxpayer to prevent socialization of individual losses. It does not arise to protect sophisticated, experienced, well-informed investors. On the contrary: Large-scale losses can easily occur even if these investors are getting the information they need to make decisions and are otherwise following the rules. If we want to allow broad access to the crypto ecosystem, then the question isn’t about what experienced users of that ecosystem want—it’s about what the rest of the public needs to have confidence in the ecosystem’s safety, and for better or worse, you can’t program confidence. That question doesn’t always have a clear answer, and it involves real and difficult tradeoffs. But it’s a question that every new and fast-growing financial product must address if it wants to last very long.

Thank you.