• Premature regulation can chill innovation and create unexpected outcomes.
  • Caution, collaboration and neutrality are needed when approaching crypto regulation.

The United States Congress is in the process of negotiating a bipartisan infrastructure bill with the hopes of passing sweeping legislation that will invest in areas such as transportation, climate initiatives, and broadband access. Buried within the text, though, was something seemingly unrelated: a proposal related to taxing cryptocurrencies.

We won’t get into the details of the proposal and the corresponding amendments (you can read more about that here if you’re interested). We’ll instead put our focus squarely on a topic not often taken to heart: premature regulation.

To start, let us establish that we are not anti-regulation. At the World Economic Forum, a big part of our role is working directly with a global set of stakeholders, including policymakers and regulators, to assess how to accelerate the benefits of technology and mitigate its risks. We are not naïve and nor do we deny that there are risks with any new technology and its evolution. With this, crypto is no exception.

This attitude is reflected in much of the crypto community at-large. Leaders across business, innovation and civil society recognize the role regulation and policy makers can play. We’ve seen leaders in the sector explicitly welcoming regulatory clarity. Initiatives like the recently-established DeFi Education Fund (DEF) reflect the industry’s desire to support the education of government actors on these complicated topics.

But progress on this front cannot – and should not – happen overnight.

The past decade or so has provided deep insight into the shortcomings of the financial system as it stands. In the United States and globally, we have seen the consequences of increasing inequality, stagnant growth, and a lack of transparency. In some cases, the result has been disillusionment and resignation. In others, we’ve seen large-scale civil unrest.

At a minimum, there are aspects of the current financial system and the regulations surrounding it that are not working for people all over the world, including in the United States. Such a situation requires self-reflection and investigation into what’s gone wrong – and how to think creatively about new capabilities and resources. This approach is key to avoid diving headfirst into potentially re-creating or exacerbating the problems of the past.

"Failing to sift through the distinctions - and regulate accordingly - could significantly stifle innovation and progress."

This is especially a concern with cryptocurrency, where the technology is generally poorly understood by the average person. It isn’t anyone’s fault – the space is relatively new and growing rapidly. It’s truly a full-time job to stay on top of it all. Crypto is one of many new areas that policymakers and regulators are juggling, which can make it difficult to fully understand the nuances of the technology and services within the space.

That is why it is critically important to proceed with caution around these questions, ensuring that there’s enough time to get up to speed on these incredibly complex and novel issues. Take, for example, the emerging space of decentralized finance, which builds a variety of financial services on top of blockchain technology.

Decentralized Finance Policy-Maker Toolkit
Decentralized Finance Policy-Maker Toolkit
Image: World Economic Forum

As the graphic above shows, though they are grouped together for obvious reasons, DeFi services are not monolithic. They represent various parts of the technical stack, varying objectives, and services, and have different interactions with other services within the space. At the same time, DeFi is explicitly not the same as traditional finance, though there may be some similarities and overlap. Failing to sift through the distinctions and regulate accordingly could significantly stifle innovation and progress.

Here are some principles for policymakers and regulators to keep in mind as they proceed down this path:

  • Don’t rush into regulation: Regulation can add value when it is carefully considered, evaluated, and weighed. Legislative rulemaking is usually a slow process for a reason.
  • Don’t shy away from industry: Many industry players are lucid about the potential risks within the space. Honest projects welcome clarity and seek to avoid mishaps down the road. Dialogue between the public and private sectors can be extremely useful and have -- in our experience -- resulted in action-oriented outputs like the DeFi Policy-Maker Toolkit and the CBDC Policy-Maker Toolkit.
  • Tech neutrality is essential: Regulating the underlying technology itself, especially in a space that is changing as quickly as crypto, may be a fast path to unintentionally anointing winners that may or may not be the optimal choice for constituents. Being technology neutral has always been a core principle of policymaking for this reason, and this approach isn’t something that demands change at this point in time.

Ultimately, jurisdictions that are thoughtful, cautious, and collaborative will find themselves attracting the new era of internet pioneers. In doing so, those jurisdictions will provide their constituents with a critical asset: front-line access to the digital economy.