- The U.S. Treasury is considering new rules that would require identity checks in decentralized finance (DeFi) smart contracts.
- The GENIUS Act, passed in July, asks the Treasury to review tools that could help prevent illegal activities in U.S. crypto markets.
- Supporters believe built-in identity checks can improve Know Your Customer (KYC) and Anti-Money Laundering (AML) compliance.
- Critics warn that these measures may threaten privacy, introduce surveillance, and potentially exclude individuals without government-issued IDs.
- Experts suggest privacy-focused technologies like zero-knowledge proofs and decentralized identity as possible alternatives.
The U.S. Treasury is examining the possibility of adding built-in identity verification to decentralized finance (DeFi) smart contracts. This review comes after the recent passage of the Guiding and Establishing National Innovation for US Stablecoins Act (GENIUS Act) in July, which mandates evaluating new tools to limit illegal activities in crypto markets.
As part of this review, one approach involves embedding identity credentials—such as government IDs, biometrics, or digital wallet certificates—directly into DeFi smart contracts. According to Fraser Mitchell, Chief Product Officer at SmartSearch, this could help uncover anonymous transactions frequently used by criminals. “Real-time monitoring for suspicious activity can make it easier for platforms to mitigate risk, detect and ultimately prevent money launderers from using their networks to wash the proceeds from some of the world’s worst crimes,” Mitchell stated.
Mitchell acknowledged that stricter checks could affect user privacy, but emphasized that minimizing data storage and using encryption could reduce the risks. “Only the necessary data required for monitoring or regulatory audits should be stored, with everything else deleted. Any data that is held should be encrypted at row level, reducing the risk of a major breach,” he said.
However, critics such as Mamadou Kwidjim Toure, CEO of Ubuntu Tribe, argue this could undermine the core principles of DeFi. Toure compared the approach to “putting cameras in every living room.” He cautioned that linking government or biometric IDs with blockchain wallets risks making every transaction traceable, which could lead to surveillance and loss of the pseudonymous nature of DeFi.
Toure also pointed out that billions of people lack formal identification, raising concerns about access. Requiring government credentials for DeFi use could exclude communities including migrants, refugees, and unbanked populations. “It may restrict access for users who prefer Anonymity or cannot meet ID requirements, limiting DeFi’s democratic nature,” Toure explained.
Security risks also arise if Hackers gain access to both financial and identity data in a breach. Some experts suggest privacy-preserving tools—like zero-knowledge proofs, which allow users to prove eligibility without revealing their identity, and decentralized identity (DID) standards—as potential solutions. These methods let users selectively disclose credentials rather than sharing static government IDs.
The ongoing debate centers on balancing financial safety with the privacy and accessibility that DeFi has aimed to support since its start.
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