- Senate Democrats have proposed a series of DeFi regulations intended to combat illicit finance.
- Outraged crypto lawyers say the proposal is a failure.
- This situation threatens to derail negotiations on landmark crypto legislation.
Senate Democrats’ first attempt at negotiating landmark crypto legislation has sparked a furious backlash from the crypto industry.
The proposal would classify virtually all decentralized finance protocols as “digital asset intermediaries” required to verify customer identities and adhere to anti-money laundering regulations.
It would also require websites offering access to DeFi protocols to register as brokers and comply with a series of new regulations, including customer protection standards, code audits, stress testing, disclosures regarding risk and protocol governance, and more.
“This approach establishes a clear regulatory framework for decentralized finance
platforms by defining accountability, clarifying oversight and preventing misuse of
decentralized protocols for illicit financing, sanctions evasion or to circumvent market safeguards,” according to a copy obtained by Policy.
When it was disclosed earlier this week, it took the crypto industry by surprise, according to an industry source who has had conversations with legislative staff.
“We didn’t know that was going to be the answer,” said the source, who was granted anonymity to speak candidly about sensitive discussions.
“They didn’t intend for this to be public.”
Lawyers and crypto executives say this policy has not been successful. Decentralized finance applications are designed to eliminate middlemen, and forcing them to act as middlemen is tantamount to a death sentence in the eyes of many developers.
Moreover, anti-money laundering programs and customer monitoring run counter to the cryptographic ideal of so-called permissionless finance, in which financial services are accessible to anyone with an Internet connection – savers, traders, activists, dissidents and criminals.
“The disappointing proposal put forward by Senate Democrats would effectively ban decentralized finance, wallet development and other applications in the United States,” Summer Mersinger, CEO of the Blockchain Association, said in a statement.
The Democrats’ proposal is unlikely to become law. Crypto has found an ally among Republican lawmakers, who control both houses of Congress. President Donald Trump, a Republican, has launched several crypto companies over the past year.
Still, it could derail negotiations to pass landmark crypto legislation, a priority for the president and congressional Republicans.
Market structure
In July, the House of Representatives passed a market structure bill, dubbed the Clarity Act, that would install the Commodity Futures Trading Commission as the primary regulator of the crypto industry.
Although the House bill attracted significant bipartisan support, Senate Democrats were wary.
“It is critical that any crypto regulation bill we pass does not have massive unintended consequences,” Senator Elizabeth Warren, Democrat of Massachusetts, said in July.
“Consequences that would extend well beyond the crypto market and provide a boost to the $120 trillion golden egg that is the US capital markets.”
Sen. Tim Scott, Republican of South Carolina and chairman of the Banking Committee, had initially set a September deadline for passing market structure legislation.
Although that deadline has passed, a dozen Democrats, many of whom are considered relatively pro-crypto, signaled in September that they were willing to negotiate when they released a six-page framework for the bill.
“It is time to strengthen digital asset markets for investors and businesses with clear and clear measures.
consistent and fair rules of the road,” they wrote.
A new test of decentralization
But this framework barely addressed decentralized finance. In contrast, this week’s proposal deals directly with DeFi.
It gives the Treasury Department the authority to determine whether a protocol is “sufficiently decentralized.” A decentralized protocol would not be an intermediary – unless it features US-facing websites or someone receives “recurring revenue” from its use by third parties.
These criteria would represent virtually all DeFi protocols today.
The proposal also states that writing or publishing code does not constitute a crime “without deployment, control, or profit from the protocol.”
It also allows the Treasury Department to place protocols – or websites offering access to DeFi protocols – on a “restricted list” if they are found to “facilitate” illicit financing or sanctions evasion. The department can also add protocols to the restricted list if they are found to pose a risk to “fair, orderly, and efficient markets and the stability of the U.S. financial system.”
system or national security.
“Unfortunately, Senate Democrats want to kill DeFi completely – even those who call themselves pro crypto,” Uniswap founder Hayden Adams wrote on X.
“No other conclusion if that is their political position.”
Depending on the source, the proposal has varying levels of support among the 12 Democrats who signed the market structure framework in September. But it was largely led by Virginia Senator Mark Warner.
“They’re saying on different levels that they saw it, that they actually read it, that they didn’t really understand what was in it,” they said.
“But Warner is in the lead. Warner has held the pen. He’s the one pushing all this.”
Warner and several other Democrats who signed the market structure framework did not immediately return DL News” request for comment.
The controversy appears to hurt the Senate’s chances of passing a market structure bill this year. Republicans told Democrats they would not discuss the bill until both sides schedule a vote. Policy reported Thursday.
Scott did not return immediately DL News” request for comment.
The divide may also raise questions about the limits of crypto’s growing bipartisan influence. The industry spent a huge amount of money in 2024 trying to influence U.S. congressional elections, according to the watchdog group Public Citizen.
It seems to have paid off. Market structure legislation passed the House with 71 Democratic votes in 2024; this year it rose to 78.
Crypto investor Nic Carter regretted noting on
But the industry hasn’t written off Democrats.
“I don’t think this means no one will work with these Democrats anymore,” the source said.
“Everyone still wants to try to get to a productive place. … It’s just very disappointing that, even after all the advocacy we’ve already done, this is what we’re getting.”
Aleks Gilbert is DL News‘ DeFi correspondent based in New York. You can reach him at aleks@dlnews.com.
