TLDR
- Senate Banking Committee Democrats proposed regulations allowing Treasury to create “restricted list” for DeFi protocols
- New rules would require Know Your Customer compliance for crypto wallet frontends and DeFi protocol developers
- Six Democratic senators submitted the counter-proposal, contradicting the bipartisan CLARITY Act that passed House 294-134
- Blockchain Association CEO warns proposal would ban DeFi and force developers to leave United States
- Crypto lawyers call measures unconstitutional and impossible to comply with under current framework
Senate Banking Committee Democrats submitted a regulatory proposal on Thursday that has drawn sharp criticism from cryptocurrency industry leaders. The document outlines new compliance requirements for decentralized finance protocols and wallet providers.
The proposal grants Treasury Department authority to designate DeFi protocols as too risky. Protocols placed on this “restricted list” would face severe limitations, and US users could face penalties for generating recurring revenue from them.
Know Your Customer rules would extend to crypto application frontends under the plan. This includes non-custodial wallets, which currently let users control their funds without identity verification.
Jake Chervinsky, chief legal officer at Variant Fund, said the proposal would ban crypto rather than regulate it. He warned it could eliminate chances for passing crypto market structure legislation.
Democratic Senators Behind Proposal
Six Senate Democrats authored the counter-proposal: Mark Warner, Ruben Gallego, Andy Kim, Reverend Raphael Warnock, Angela Alsobrooks and Lisa Blunt Rochester. They submitted the document to Banking Committee Republicans during ongoing government funding negotiations.
The plan classifies anyone who designs, deploys or operates frontend services for DeFi protocols as intermediaries. This designation would subject them to traditional financial regulations meant for banks and brokers.
Treasury would gain power to determine when entities exercise “control or sufficient influence” over protocols. The department would also decide whether protocols qualify as “sufficiently decentralized.”
The proposal conflicts with the CLARITY Act, which secured bipartisan House approval in July with a 294-134 vote. That legislation aimed to establish clear regulatory guidelines for digital assets.
Industry Leaders Respond
Blockchain Association CEO Summer Mersinger stated the proposal would effectively ban decentralized finance in America. She said the language creates impossible compliance standards for US developers.
“The language as written is impossible to comply with and would drive responsible development overseas,” Mersinger said in a public statement. She warned wallet development and other applications would leave the country.
Digital Chamber vice president Zunera Mazhar criticized the approach as heavy-handed. She argued regulators should focus on actual illicit finance chokepoints instead of broad restrictions on decentralization.
The measures contradict the Senate Banking Committee’s Responsible Financial Innovation Act draft from September. That bipartisan bill sought to divide oversight between the SEC and CFTC while protecting crypto developers.
A Republican committee spokesperson dismissed the Democratic document as lacking legislative text and coherent policy ideas. The spokesperson said it was not a good-faith effort to engage on market structure legislation.
Democrats on the Banking Committee have not publicly commented on the criticism. They previously released a framework aimed at closing regulatory gaps for crypto issuers.
Legislative Path Forward
Republicans need Democratic votes in the Senate to pass market structure legislation. Any final Senate bill would require reconciliation with the House version before becoming law.
The Senate Agriculture Committee, which oversees the CFTC, has not released its version of crypto market structure legislation. Multiple committees claim jurisdiction over different aspects of digital asset regulation.
Chervinsky described the Democratic proposal as making a good deal difficult in the current environment. He said senators claiming to be pro-crypto were proposing measures that function as a ban.
