Function Over Form: Toward a Sa

e Harbor Framework — or DeFi Regulation o — Utility Tokens

Seth C. Oranburg*

                                  TABLE OF CONTENTS

Abstract ………………………………………………………………………………..3

Introduction …………………………………………………………………………..5

Part I. Decentralized Finance …………………………………………………10 A. The Rise o — DeFi ………………………………………………………….11 1. Innovative Solutions and Economic Empowerment ……….14 2. Challenges to Traditional Regulatory Frameworks ………..17 B. The Function-Based Sa — e Harbor Framework ………………….20 1. Shi — ting — rom Form to Function …………………………………..23 2. Bene — its: Flexibility, Innovation, and Market Stability …..25

Part II. The Need

or a New Regulatory Framework…………………27 A. Limitations o — Current U.S. Regulatory Frameworks ………..28 1. The Howey Test and its Inadequacies — or DeFi ……………..28 a. Decentralization and Multi — unctionality ……………………….31 b. The Ripple Case: Exposing the Limits o — Howey ………….32 2. Fragmented Jurisdictional Authority ……………………………32 3. Post-Loper Bright Challenges: Restrictions on Agency Adaptability………………………………………………………………….33 B. Establishing a Function-Based Sa — e Harbor Framework ……35 1. From Form to Function: Addressing the Economic Realities o — DeFi …………………………………………………………..36 2. The Sa — e Harbor Concept: Incentivizing Compliance and Innovation 38 3. How the Framework Addresses DeFi-Speci — ic Risks ……..42

    Copyright 2025, by SETH C. ORANBURG.
* Pro --- essor o ---  Law, University o ---  New Hampshire Franklin Pierce School o ---  Law; Director, Program on Organizations, Business, and Markets at NYU School o ---  Law’s Classical Liberal Institute; JD, University o ---  Chicago School o ---

Law; BA, University o

Florida. 2 LOUISIANA LAW REVIEW [Vol. 86

  a. Technical Risks ..................................................................43
  b. En --- orcement Risks .............................................................44
  c. Cross-Border Risks ............................................................45
C. Integrating These Sa --- eguards into a Comprehensive
Framework 46

Part III. Addressing Speci

ic Risks in DeFi ……………………………..46 A. Mitigating Blockchain Vulnerabilities and Broader Market Risks 47 1. Technical Vulnerabilities in DeFi ………………………………..48 a. The ĐAO Hack: Lessons in Governance and Smart Contract Security ………………………………………………………….50 b. The Poly Network Exploit: Interconnected Risks and Cross-Chain Vulnerabilities ……………………………………………51 c. The Need — or Proactive Sa — eguards………………………………52 2. Proposed Sa — eguards: Audits, Bug Bounty Programs, and User Education ……………………………………………………………..53 a. Security Audits ………………………………………………………….54 b. Incident Response Protocols ……………………………………….54 c. Governance Standards ………………………………………………..55 d. Automated Compliance Tools …………………………………….55 e. Systemic Sa — eguards ………………………………………………….56 3. Broader Market Risks ………………………………………………..57 a. Systemic Interdependence …………………………………………..58 b. Regulatory Uncertainty ………………………………………………58 c. Market Volatility ……………………………………………………….59 d. Liquidity Crisis …………………………………………………………60 e. Solving Systemic Problems…………………………………………60 4. Risk Mitigation Strategies…………………………………………..61 a. Stress Testing: Assessing Resilience Under Pressure ……..62 b. Liquidity Bu —

ers: Ensuring Stability During Crises ………63 c. Integrating Stress Testing and Liquidity Bu —

ers within the Framework …………………………………………………………………..65 B. Addressing Stablecoin Risks ………………………………………….65 1. The Role o — Stablecoins in DeFi ………………………………….66 2. Speci — ic Risks: De-pegging, Reserve Transparency, and Regulatory Arbitrage …………………………………………………….67 3. Mitigation Strategies: Audits, KYC and AML, and Decentralized Governance ……………………………………………..68 2025] FUNCTION OVER FORM 3

    4. Integrating Stablecoin Regulation into the Function-Based
    Framework .............................................................................70

Part IV. En

orcement Mechanisms in a Decentralized Context ….70 A. En — orcement Challenges in DeFi ……………………………………71 1. Decentralization and Anonymity …………………………………72 2. Jurisdictional Hurdles ………………………………………………..73 B. Proposed Solutions ……………………………………………………….73 1. Incentivizing Sel — -Regulation through ĐAOs ……………….74 2. International Collaboration …………………………………………75 3. Specialized Regulatory Units ………………………………………76 C. Balancing Decentralization with E —

ective En — orcement ……76

Part V. Drawbacks and Mitigation Strategies

or the Framework .77 A. Potential Drawbacks …………………………………………………….77 1. Abuse or Exploitation ………………………………………………..77 2. Over-Simpli — ication o — Complex Risks ………………………..78 3. Jurisdictional Challenges ……………………………………………78 B. Mitigation Strategies …………………………………………………….79 1. Periodic Reviews and Updates…………………………………….79 2. Enhanced Transparency and Disclosure ……………………….79 3. International Cooperation and Harmonization……………….80

Part VI. Implementation o

the Sa — e Harbor Framework …………..80 A. Phased Implementation Approach ………………………………….81 B. Collaboration with DeFi Plat — orms …………………………………81 C. Incentivizing Compliance and Participation …………………….82 D. Continuous Monitoring and Adaptation ………………………….82 E. Collaboration with Existing Regulatory Bodies ………………..82 F. Stakeholder Engagement and Education ………………………….83

Conclusion ………………………………………………………………………….84

Acronyms ……………………………………………………………………………86

                                     ABSTRACT

DeFi tokens per

orm distinct economic roles. These include governance, collateral, stability, and utility access. Existing securities 4 LOUISIANA LAW REVIEW [Vol. 86

doctrine o

ten misclassi — ies non-investment tokens as securities. This error deters development o — utility tokens that power decentralized applications.

This Article develops a  --- unction-based  --- ramework. As a  --- irst application, it proposes a narrow statutory sa --- e harbor  --- or utility tokens. Eligibility depends on three sa --- eguards. First, technical resilience, supported by independent security audits and incident-response protocols. Second, accountable control, with de --- ined upgrade authority and de --- ined obligations  --- or keyholders. Third, calibrated oversight, with consumer- protection and operational requirements  --- or access tokens, not investor- protection regimes  --- or capital raising.

 The sa --- e harbor preserves core principles o ---  U.S. securities law  --- or bona  --- ide investment instruments. At the same time, it o ---

ers a predictable compliance path — or pay- — or-use services. A durable, uni — orm rule is needed to distinguish true utilities — rom investment contracts. Only Congress can enact such a rule. Agency guidance or case-by-case settlements cannot. The same — unction- — irst method can guide — uture tailored rules — or other DeFi token — unctions.

Keywords: DeFi; Sa

e Harbor Framework; Regulatory Compliance; Financial Innovation; Blockchain Technology; Smart Contracts; Financial Regulation; Cryptocurrency; Financial Stability; Investor Protection

JEL Classi

ications: G23; G28; K22; O33; O34. 2025] FUNCTION OVER FORM 5

                            INTRODUCTION

Decentralized  --- inance (DeFi) is expanding rapidly,1 while the United States’ share o ---  the talent building it is shrinking.2 The U.S. is losing DeFi market share because o ---  regulatory uncertainty3 and outdated doctrine.4 This Article o ---

ers a concrete step toward resolving both problems: Congress should enact a narrowly tailored, — unction-based sa — e harbor — or genuine “utility tokens” to correct a doctrinal misclassi — ication regarding what is a “security.” As explained here, this is the — irst application o — a more general, — unction- — irst — ramework — or digital-asset regulation. The Securities and Exchange Commission (SEC) derives regulatory authority over most cryptocurrencies based on its interpretation o — a 1946 Supreme Court decision de — ining a “security” as (1) an investment o —

money, (2) in a common enterprise, (3) with a reasonable expectation o

pro

its, (4) to be derived — rom the e —

orts o — others.5 This “Howey test”

amously instructs courts to — ocus on “economic reality,” not labels, so,

or example, contracts styled as land sales — or orange groves could be deemed securities.6 However, this ostensibly — unctional analysis has

1 The $150 billion DeFi industry is project to exceed $450 billion by 2032. Fortune Business Insights, Decentralized Finance Technology Market Size, Share & Industry Analysis … 2025–2032 (Aug. 11, 2025), https://www. — ortunebusinessinsights.com/decentralized- — inance-technology- market-107823 [https://perma.cc/7JM2-ZSW3] (projecting DeFi market growth — rom $86.53 billion in 2025 to $457.35 billion by 2032). Pietro Saggese, Michael Fröwis, Ste — an Kitzler, Bernhard Haslho — er & Raphael Auer, Towards Veri — iability o — Total Value Locked (TVL) in Decentralized Finance, BIS Working Paper No. 1268 (May 2005), https://www.bis.org/publ/work1268.pd —

[https://perma.cc/HRP5-G5WZ] (explaining how to measure the aggregate value o — cryptoassets deposited in DeFi protocols in terms o — “total value locked” or “TVL”); De — iLlama, Total Value Locked (last accessed Aug. 31, 2025) https://de — illama.com (reporting $154.604 TVL as o — Aug. 31, 2025). https://de — illama.com/ [https://perma.cc/RR6B-LPVV]. 2 The U.S. share o — open-source crypto developers — ell — rom roughly 38% in 2015 to about 19% in 2024—a — i — ty percent relative decline—during the same period that global DeFi activity and market — orecasts rose sharply. Electric Capital, Asia Leads in Crypto Developers While the U.S. Continues to Lose Ground, DEVELOPER REPORT (Oct. 31, 2024), https://www.developerreport.com/developer-report-geography [https://perma.cc/LKA5-7CPN] (reporting U.S. share decline — rom approximately 38% in 2015 to 19% in 2024) 3 See, e.g., Ben Strack, U.S. Losing Ground on Blockchain Developer Share: Study, Blockworks (Mar. 29, 2023), https://blockworks.co/news/blockchain- developer-market-share-study [https://perma.cc/CVH7-X2TK]. 4 See in — ra Part II, 5 SEC v. W.J. Howey Co., 328 U.S. 293, 298–99 (1946) 6 Id. at 298 (“ — orm is disregarded — or substance and the emphasis is on economic reality”). 6 LOUISIANA LAW REVIEW [Vol. 86

ossi

ied into a — ormalist approach, where the SEC now treats many tokens as investment contracts—especially where sales are pre- — unctional and team-led—and, thus, the SEC claims many digital assets are securities under their jurisdiction.7 The SEC’s aggressive approach toward regulating digital assets as securities is particularly problematic regarding “utility tokens.” Utility tokens are something you buy to use speci — ic products or — eatures, such as cloud storage — or — iles,8 compute time — or arti — icial intelligence programs,9 access to decentralized cellular networks,10 or in-game items.11 Utility tokens make tiny, pay-as-you-go purchases possible and automatic in ways credit cards cannot enable. Cards charge a percentage plus a — lat per- swipe — ee, so very small payments get eaten by — ees; utility tokens let businesses meter usage in much less than pennies.12 Utility tokens also enable programmed access: the moment the token payment arrives, so — tware can unlock a — eature, open a — ile, or allocate network bandwidth, avoiding manual billing, invoices, or chargeback work — low.13

7 SEC, Framework — or “Investment Contract” Analysis o — Digital Assets, 132(8) HARVARD LAW REVIEW 2418 (June 2019) (identi — ying — actors indicating when a digital asset is likely an investment contract) [https://perma.cc/AFU9-GCXK]. 8 E.g., Sam Williams, Abhav, Kedia, Lev Berman & Sebstian Campos-Groth, Arweave: The Permanent In — ormation Storage Protocol, Arweave.org (Dec. 2023), https://www.arweave.org/ — iles/arweave-lightpaper.pd —

[https://perma.cc/E9GS-9J54] (discussing a network that removes utility tokens

rom circulation every time data is uploaded to create a reserve to pay — or data storage over time). 9 E.g., Akash.com (last visited Aug. 31, 2025) (“The Decentralized Cloud Build to AI’s Next Frontier: Unlock global GPU power at a — raction o — the cost), https://akash.network/ [https://perma.cc/FNK4-FBFA]. 10 Helium, Data Credit (last visited Aug 31, 2025) (explaining how the utility token known as Data Credits are the mechanism by which automated applications on the Internet o — Things accesses mobile networks and internet hotspots), https://docs.helium.com/tokens/data-credit/ []. 11 E.g., The Sandbox, SAND: What is SAND? (last visited Aug. 31, 2025) (explaining how SAND is a utility token that — unctions as the Sandbox Game’s medium o — exchange that allows — or a digital economy to exist in The Sandbox ecosystem), https://docs.sandbox.game/en/owners/sand [https://perma.cc/HR8Z-NX79]. 12 Organisation — or Economic Co-operation and Development (OECD), Online Payment Systems — or E-commerce, OECD Digital Economy Papers No. 117 (Apr. 18, 2006 https://www.oecd.org/content/dam/oecd/en/publications/reports/2006/04/online- payment-systems- — or-e-commerce_g17a1b — a/231454241135.pd —

[https://perma.cc/2CLM-5ENK]. 13 Dylan Yaga, Peter Mell, Nik Noby & Karen Scar — one, Blockchain Technology Overview, National Institute o — Standards and Technology (NIST) NISTIR 8202 (Oct. 2018), https://doi.org/10.6028/NIST.IR.8202 [https://perma.cc/45CH- 5B5W]. 2025] FUNCTION OVER FORM 7

 These pay- --- or-use utility tokens already operate at meaning --- ul scale. One slice o ---  the market powers decentralized physical-in --- rastructure networks (DePIN), which provide decentralized access to radios, cellular, WiFi, imaging, sensors, storage and compute; DePIN networks are worth roughly $30–$50 billion in market value today.14 Another growing use o ---

utility tokens appears in blockchain-powered games that rely on in-game utility tokens; they recorded about 7.4 million daily active users in 2024.15 At the broader ecosystem level, consulting — irm McKinsey & Company projects that tokenized digital-asset markets will be at least a two-trillion- dollar industry by 2030, with bullish estimates projecting a — our-trillion- dollar market.16 That projection covers categories beyond utility tokens, but it shows that utility tokens are not some — ringe — ad; they are becoming a common way to meter digital services. Utility tokens o — ten get caught in the Howey trap because o — how decentralized networks launch. Many networks require an early “liquidity- bootstrapping” phase, where users buy tokens be — ore the service is — ully live. This resembles a Kickstarter pre-purchase: prospective users — und development by prepaying — or — uture access. The intended end is use, not pro — it, so it should be deemed a “commodity — or personal consumption” and thus not a security.17 Yet the SEC—and some courts—have treated many pre-launch sales as investment contracts.18 The combination o — the SEC’s aggressive posture with the doctrinal mis — it contributes to U.S. innovation — light.19 While other major

14 Messari, DePIN Section: Key Updates and Trends — or Q1 2025, https://messari.io/copilot/share/depin-sector-q1-2025-updates-1e63 — 804-c — 41- 437c-a — 12-c1067c24e5e9 [https://perma.cc/N2MZ-3S25]. 15 Sara Gherghelas, DappRadar Games Report – 2024 Overview, DappRadar (Jan. 21, 2025), https://dappradar.com/blog/dappradar-games-report-2024-overview [https://perma.cc/Y47A-YF67]. 16 https://perma.cc/K9GQ-UGVY 17 See United Housing Foundation, Inc. v. Forman, 421 U.S. 837, 858 (1975) (“What distinguishes a security transaction – and what is absent here – is an investment where one parts with his money in the hope o — receiving pro — its — rom the e —

orts o — others, and not where he purchases a commodity — or personal consumption or living quarters — or personal use.”). 18 See, e.g., SEC v. Telegram Grp. Inc., 448 F. Supp. 3d 352 (S.D.N.Y. 2020); SEC v. Kik Interactive Inc., 492 F. Supp. 3d 169 (S.D.N.Y. 2020); SEC v. LBRY, Inc., No. 21-cv-260-PB, 2022 WL 16744741 (D.N.H. Nov. 7, 2022); SEC v. Ripple Labs Inc., No. 20-cv-10832 (AT), 2023 WL 4507900 (S.D.N.Y. July 13, 2023) (institutional sales); SEC v. Terra — orm Labs Pte Ltd., No. 23-cv-1346 (JSR) (S.D.N.Y. Dec. 28, 2023) (summary judgment on registration claim), — inal judgment entered, No. 23-cv-1346 (JSR) (S.D.N.Y. July 24, 2024); Balestra v. ATBCOIN LLC, 380 F. Supp. 3d 340 (S.D.N.Y. 2019); SEC v. NAC Found., LLC, 512 F. Supp. 3d 988 (N.D. Cal. 2021). 19 See in — ra Part III. 8 LOUISIANA LAW REVIEW [Vol. 86

jurisdictions carve out utility tokens

rom securities regulation,20 the U.S. puts would-be utility-token developers in a Catch-22. To make a utility token actually use — ul, a team typically needs money and wide distribution or liquidity be — ore launch. But the very steps that raise — unds and seed liquidity (such as pre- — unctional sales, marketing the team’s build e —

orts, and talk o — secondary trading) are the — acts the SEC and courts use to call the sale an investment contract under Howey. Once so deemed, the SEC can intervene, enjoining the product as an unregistered security and levying heavy penalties on the developers. Complying with securities regulation is generally not — easible because the associated restrictions (accredited-investor veri — ication,21 trans — er-restriction periods,22 ongoing reporting obligations,23 etc.) severely limit consumer utility. Accordingly, teams must choose between breaking utility or triggering Howey: a Catch- 22 they o — ten resolve by not operating in the U.S. at all. This Article o —

ers a way out o — the Howey trap: a narrow, legislative sa — e harbor — or utility tokens. The sa — e harbor is not a deregulatory blank check. Instead, it is conditional. Tokens quali — y only i — they meet substantive sa — eguards that protect consumers, ensure operational resilience, and hold real humans accountable. These sa — eguards draw — rom

20 See, e.g., Regulation (EU) 2023/1114 o — the European Parliament and o — the Council on Markets in Crypto-Assets (MiCA), 2023 O.J. (L 150) 40, arts. 3(1)(9), 3(2) (de — ining “utility token” and excluding crypto-assets that quali — y as MiFID II
— inancial instruments), https://eur-lex.europa.eu/legal- content/EN/TXT/PDF/?uri=CELEX%3A32023R1114; Financial Conduct Authority, The Financial Services and Markets Act 2000 (Exemption) (Cryptoasset Promotions) Order 2022, UK SI 2022/1391 (statutory instrument de — ining regulatory perimeter relating to cryptoassets, including utility tokens outside perimeter unless meeting e-money criteria), https://www.legislation.gov.uk/uksi/2022/1391/contents; Swiss Federal Act on Financial Market In — rastructures and Market Conduct in Securities and Derivatives Trading (Financial Market In — rastructure Act, FMIA), SR 958.1, art. 2(d) (2016) (distinguishing utility tokens — rom securities); Monetary Authority o —

Singapore Act, (Cap. 186), Securities and Futures Act (Cap. 289), §§ 2(1), 2(4) (2021 Revised Ed.) (governing regulation o — capital markets products including distinctions — or utility tokens). 21 Securities Act o — 1933, 15 U.S.C. § 77d(a)(15) (exemptions related to accredited investors); Regulation D, 17 C.F.R. §§ 230.501 et seq. (de — inition o — accredited investor and veri — ication requirements); SEC, Final Rule: Accredited Investor De — inition (Aug. 26, 2020), 85 Fed. Reg. 53242 (detailing veri — ication standards). 22 Securities Act o — 1933, 15 U.S.C. § 77e(c) (prohibition on general solicitation in certain private o —

erings); Rule 144, 17 C.F.R. § 230.144 (holding periods and conditions on resale o — restricted securities); Rule 144A, 17 C.F.R. § 230.144A (regulation o — resale to quali — ied institutional buyers). 23 Securities Exchange Act o — 1934, 15 U.S.C. §§ 78o, 78m, 78n (registration and ongoing disclosure obligations — or registered securities); Exchange Act Rules 12b-20, 13a-1 through 13a-17, 15d-1 through 15d-27, 17 C.F.R. §§ 240.12b-20, .13a-1 et seq., .15d-1 et seq. (periodic reporting requirements — or issuers). 2025] FUNCTION OVER FORM 9

existing

inancial regulation and — rom international practice in the European Union,24 the United Kingdom,25 Singapore,26 Switzerland,27 and other jurisdictions that already distinguish utility tokens — rom securities. The proposal is designed to preserve the core o — U.S. securities law while carving out space — or genuine utilities. There is, o — course, a substantial literature on sa — e harbors in securities law and on administrative discretion more generally.29 This Article does 28

not attempt to resolve those broader debates. Its aim is narrower: to cra

t a workable statutory sa — e harbor tailored to the problem o — utility tokens. Institutionally, the argument is straight — orward. The SEC has neither the incentives nor the inclination to narrow its own reach.30 Courts are

24 Regulation (EU) 2023/1114 (MiCA) art. 3(1)(9) (de — ining “utility token”) & art. 4(3)(c) (exempting o —

ers o — utility tokens giving access to existing goods/services). 25 FCA, PS19/22: Guidance on Cryptoassets ¶¶ 2.21–2.22 (utility tokens generally outside the regulatory perimeter unless they meet the e-money de — inition). 26 MAS, A Guide to Digital Token O —

erings (May 26, 2020) (tokens are regulated only i — they are “capital markets products”; pure access tokens — all outside). 27 FINMA, ICO Guidelines (Feb. 16, 2018) (utility tokens are not securities i —

their sole purpose is access and they are

unctional at issuance). 28 See, e.g., Donald C. Langevoort, Disclosures that “Bespeak Caution”, 49 BUS. LAW. 481 (1994); Ann M. Olazábal, False Forward-Looking Statements and the PSLRA’s Sa — e Harbor, 86 IND. L.J. 595 (2011); Amanda M. Rose, SPAC Mergers, IPOs, and the PSLRA’s Sa — e Harbor, 64 WM. & MARY L. REV. 1757 (2023); Michael A. Perino, Did the Private Securities Litigation Re — orm Act Work?, 2003 U. ILL. L. REV. 913; Allan Horwich, Cleaning the Murky Sa — e Harbor — or Forward-Looking Statements: An Inquiry into Whether Actual Knowledge o —

Falsity Precludes the Meaning

ul Cautionary Statement De — ense, 35 J. CORP. L. 519 (2010); Wendy Gerwick Couture, Mixed Statements: The Sa — e Harbor’s Rocky Shore, 39 Sec. Reg. L.J. 257 (2011). 29 C — . Robert A. Anthony, Interpretive Rules, Policy Statements, Guidances, Manuals, and the Like—Should Federal Agencies Use Them to Bind the Public?, 41 DUKE L.J. 1311 (1992); Ronald M. Levin, Rulemaking and the Guidance Exemption, 70 ADMIN. L. REV. 263 (2018); Nicholas R. Parrillo, Federal Agency Guidance and the Power to Bind: An Empirical Study o — Agencies and Industries, 36 YALE J. ON REG. 165 (2019); Jacob E. Gersen & Anne Joseph O’Connell, Hiding in Plain Sight?: Timing and Transparency in the Administrative State, 76 U. CHI. L. REV. 1157 (2009). 30 Public choice predicts that agencies tend to expand—bureaucrats maximize budgets and discretion, and regulation is o — ten shaped by organized interests; the SEC, in particular, has incentives to preserve relevance and jurisdiction as markets evolve, consistent with reputation-seeking behavior in bureaucracies. See William A. Niskanen, BUREAUCRACY AND REPRESENTATIVE GOVERNMENT (1971); George J. Stigler, The Theory o — Economic Regulation, 2 BELL J. ECON. & MGMT. SCI. 3 (1971); Sam Peltzman, Toward a More General Theory o — Regulation, 19 J.L. & ECON. 211 (1976); Jonathan R. Macey, Administrative Agency Obsolescence and Interest Group Formation: A Case Study o — the SEC at Sixty, 15 CARDOZO L. REV. 909 (1994); Daniel P. Carpenter, REPUTATION AND POWER: 10 LOUISIANA LAW REVIEW [Vol. 86

unlikely to deliver timely relie

, given existing doctrine and litigation posture.31 That leaves Congress as the only institution capable o — creating a narrow sa — e harbor — or utility tokens. For that reason, this Article o —

ers a concrete legislative — ix to an urgent and important problem that agencies and courts are ill-suited to resolve. The contribution o — this Article, then, is both doctrinal and practical. Doctrinally, it develops criteria—drawing — rom technical, governance, and market sa — eguards already in use abroad— — or distinguishing genuine utility tokens — rom investment contracts. Practically, it shows how those sa — eguards can be codi — ied in U.S. law to give projects advance notice o —

how to comply, while preserving securities regulation

or true investments. The rest o — the Article proceeds as — ollows. Part I introduces decentralized — inance, the regulatory challenges it poses, and the — unction- based — ramework. Part II explains why current U.S. law is inadequate and develops the statutory sa — e harbor. Part III addresses speci — ic risks and sets out the sa — eguards. Part IV considers en — orcement in decentralized settings. Part V examines potential drawbacks and mitigation strategies. Part VI outlines implementation, including coordination with — oreign regimes. The Article concludes that a narrow statutory sa — e harbor — or utility tokens, enacted by Congress and implemented with substantive sa — eguards, can resolve misclassi — ication while preserving core securities- law principles.

                 PART I. DECENTRALIZED FINANCE

 The rise o ---  Decentralized Finance (DeFi)—a  --- inancial system that enables direct peer-to-peer transactions without traditional intermediaries like banks or brokerages—has introduced groundbreaking innovations that challenge the traditional  --- inancial services landscape. DeFi plat --- orms have the potential to revolutionize  --- inancial markets by o ---

ering more accessible, transparent, and inclusive — inancial products. From decentralized exchanges to lending protocols and synthetic assets, DeFi

ORGANIZATIONAL IMAGE AND PHARMACEUTICAL REGULATION AT THE FDA (2010). 31 See, e.g., John C. Co —

ee Jr., Litigation and Corporate Governance: The Role o — the Securities Class Action, 102 COLUM. L. REV. 1308, 1314–16 (2002) (noting that complex securities cases o — ten span several years — rom — iling to resolution); Jonathan Stempel, SEC ends lawsuit against Ripple, company to pay $125 million

ine, Reuters (Aug. 8, 2025), https://www.reuters.com/legal/government/sec- ends-lawsuit-against-ripple-company-pay-125-million- — ine-2025-08-08 [https://perma.cc/VY3W-FAST] (documenting that the Ripple litigation took nearly — ive years to reach a — inal settlement). 2025] FUNCTION OVER FORM 11

has catalyzed new ways o

creating and managing value. As the sector continues to expand, however, it — aces signi — icant regulatory challenges that threaten to hinder its growth and integration into the broader — inancial ecosystem. Traditional regulatory — rameworks are struggling to keep pace with the — ast-evolving DeFi landscape. Regulatory approaches that were designed — or centralized systems — ail to account — or the decentralized, pseudonymous, and borderless nature o — DeFi. The lack o — clarity surrounding how existing laws apply to DeFi plat — orms has resulted in regulatory uncertainty, which can sti — le innovation and create barriers to entry — or legitimate projects. For example, U.S. securities laws, primarily built around the idea o — centralized intermediaries, struggle to address the complexity o — DeFi tokens, many o — which do not — it neatly into traditional categories like stocks or bonds. This gap has led to a growing call — or a new regulatory — ramework—one that — ocuses on the economic — unction o —

tokens rather than their

orm. This Article proposes a — unction-based sa — e harbor — ramework — or DeFi regulation, designed to address these challenges by creating a regulatory environment that encourages innovation while protecting users and ensuring market integrity. By — ocusing on the economic realities o —

DeFi plat

orms, the — ramework o —

ers a — lexible and adaptable solution that can evolve with the sector. It proposes that DeFi projects be allowed to operate within a sa — e harbor i — they meet certain requirements, such as conducting regular security audits, adhering to transparency standards, and complying with certain governance and consumer protection measures. This sa — e harbor would incentivize responsible development in DeFi while reducing regulatory uncertainty — or innovators and investors alike. The — ramework also addresses key en — orcement challenges in the decentralized context, proposing mechanisms — or sel — -regulation through Decentralized Autonomous Organizations (ĐAOs) and encouraging international collaboration to overcome jurisdictional barriers. By

ocusing on tokens’ economic — unction rather than relying on rigid de — initions, the — ramework aims to create a more e —

icient and

orward-looking regulatory approach that better aligns with the evolving nature o — the digital economy.

A. The Rise o

DeFi

DeFi represents a paradigm shi --- t in how  --- inancial systems operate. Built on blockchain technology, DeFi plat --- orms aim to replace traditional

inancial intermediaries—such as banks, exchanges, and insurers—with 12 LOUISIANA LAW REVIEW [Vol. 86

decentralized, open-source protocols.32 These plat

orms enable users to borrow, lend, trade, and invest in a wide array o —

inancial products without relying on central authorities.33 The decentralized nature o — these systems means that they operate without a central governing body, instead relying on code and community governance through smart contracts and ĐAOs.34 DeFi’s innovative solutions hold signi — icant potential to revolutionize

inancial markets.35 Global accessibility, lower transaction costs, and enhanced transparency are some o — the advantages that DeFi plat — orms o —

er over traditional — inancial systems.36 For example, users across the world can access DeFi protocols to borrow or lend assets without needing a credit score or being subject to the — ees and restrictions traditional banks impose.37 Decentralized exchanges (DEXs) enable individuals to trade cryptocurrencies directly with one another, bypassing centralized exchanges, which have been targets — or hacks and regulatory scrutiny.38 Moreover, yield — arming and liquidity mining protocols o —

er innovative ways — or users to earn returns on their digital assets, — urther democratizing access to wealth-building opportunities.39

1. Ronghua Xu et al., Decentralized

   inance (DeFi): a paradigm shi — t in the Fintech., 18 ENTER. INFO. SYS., NO. 9, 1170–1200 (2024), doi:10.1080/17517575.2024.2397630.

2. Id. at 1171.

3. Raphael Auer et al., The Technology o

   Decentralized Finance (DeFi), 6 DIGIT. FIN. 55, 55–95 (2024).

4. Shubham Garg, Decentralized Finance (DeFi): Revolutionizing the Financial Landscape through Blockchain Technology, THE PAYMENTS ASS’N (Sep. 12, 2023), https://thepaymentsassociation.org/article/decentralized-

inance-de — i-revolutionizing-the- — inancial-landscape-through-blockchain- technology/ [https://perma.cc/5CZ5-J4PQ].

1. Coursera Sta

, What Is DeFi? A Guide to Decentralized Finance, COURSERA, https://www.coursera.org/articles/what-is-de — i [https://perma.cc/7JEK-5ZCU] (updated Oct. 31, 2024).

1. Brave So

   tware, What is DeFi?, BRAVE, https://brave.com/web3/what- is-de — i/ [https://perma.cc/2SPG-GWQ4] (updated July 17, 2024).

2. Kadan Stadelmann & Shilpa Lama, A Complete Guide to P2P Decentralized Exchanges (DEXs), BEINCRYPTO, https://beincrypto.com/learn/p2p-dex-explained/ [https://perma.cc/D2LF-FWTA] (updated Dec. 18, 2024, 3:06 PM).
3. Joshua Soriano, Yield Farming vs. Liquidity Mining: A Comparative Guide, HELA LABS (Mar. 1, 2024), https://helalabs.com/blog/yield- — arming-vs- liquidity-mining-a-comparative-guide/ [https://perma.cc/YH3Z-5B7K]. 2025] FUNCTION OVER FORM 13

 Despite the signi --- icant potential, the rise o ---  DeFi has also highlighted numerous challenges—particularly regarding regulation.40 Traditional

inancial systems are subject to well-established regulatory — rameworks that ensure consumer protection, market integrity, and — inancial stability.41 The decentralized and borderless nature o — DeFi, however, presents a unique challenge — or regulators.42 The assets and protocols used in DeFi do not — it neatly into existing categories, and many plat — orms operate without a clear regulatory — ramework, leaving participants exposed to legal ambiguity.43 This challenge has led to calls — or a regulatory model that is adaptable and able to meet the unique needs o — decentralized technologies without sti — ling innovation.44 Retail and institutional investors’ increasing adoption o — DeFi only underscores the need — or a comprehensive regulatory solution.45 As the DeFi sector continues to grow, so does the potential — or systemic risk, especially i — the sector remains largely unregulated.46 In the — ace o — this growing challenge, regulators worldwide are grappling with how to

1. Vincent Gramlich et al., A Multivocal Literature Review o

Decentralized Finance: Current Knowledge and Future Research Avenues, 33 ELEC. MKTS. (2023), https://link.springer.com/article/10.1007/s12525-023- 00637-4 [https://perma.cc/GR3M-PPKV].

1. Id.

2. Ngozi Samuel Uzougbo et al., Regulatory Frameworks

   or Decentralized Finance (DeFi): Challenges and opportunities, 19 GSC ADVANCED RES. & REV. 116, 116–29 (2024), https://doi.org/10.30574/gscarr.2024.19.2.0170 [https://perma.cc/WJV5-NGC3].

3. Pablo D. Azar et al., The Financial Stability Implications o

   Digital Assets, FED. RSRV. BANK OF N.Y. STAFF REP., NO. 1034, at 2 (Sep. 2022), https://www.newyork — ed.org/medialibrary/media/research/sta —

_reports/s r1034.pd — [https://perma.cc/J4HE-VGM6].

1. Claude Brown, Regulators Broaden De

   initions o — Regulated Trading and DeFi Plat — orms, REED SMITH LLP (Feb. 17, 2022), https://www.reedsmith.com/en/perspectives/2022/02/regulators-broaden- de — initions-o — -regulated-trading-and-de — i-plat — orms [https://perma.cc/Z34W- SP4V].

2. Jason Ekberg et al., It’s Time to Explore Institutional DeFi, OLIVER WYMAN F., DBS, ONYX BY J.P. MORGAN, & SBI DIGIT. ASSET HOLDINGS (2022), https://www.oliverwyman — orum.com/ — uture-o — - money/2022/Nov/institutional-de — i.html [https://perma.cc/V3SB-BUVJ].
3. Financial Policy Committee, Financial Stability in Focus: Cryptoassets and decentralised Finance, BANK OF ENG. (Mar. 24, 2022), https://www.banko — england.co.uk/ — inancial-stability-in-

ocus/2022/march-2022 [https://perma.cc/8ZK3-KWK8]. 14 LOUISIANA LAW REVIEW [Vol. 86

balance promoting innovation with the need

or investor protection, market integrity, and — inancial stability.47 This Article proposes a

unction-based sa — e harbor — ramework to address these concerns, providing a regulatory structure that supports innovation while mitigating the risks inherent in the rapidly evolving DeFi space.

 1. Innovative Solutions and Economic Empowerment

 DeFi o ---

ers a suite o — innovative solutions that are reshaping the global

inancial landscape.48 At its core, DeFi removes traditional intermediaries—banks, brokers, and payment processors—enabling peer-to-peer — inancial transactions that are transparent, e —

icient, and borderless.49 By utilizing blockchain technology and smart contracts, DeFi plat — orms allow individuals to access a wide range o —

inancial services that were previously available only to those with established relationships with — inancial institutions.50 One o — the most signi — icant bene — its o — DeFi is its ability to provide economic empowerment to underserved populations.51 Traditional banking systems o — ten impose barriers to — inancial inclusion, such as high

ees, geographical limitations, and requirements — or credit histories.52 In

1. Miles Kruppa & Gary Silverman, Regulators Begin to Grapple with DeFi, FIN. TIMES (June 26, 2021), https://www. — t.com/content/e6e7d9d6-7778- 4286-ba6 — -e5831 — cbc538 [PAYWALLED].

2. Carlo de Meijer, 2024: A Trans

   ormative and Innovative Year — or DeFi, TREASURYXL (Oct. 9, 2024), https://treasuryxl.com/blog/2024-a-trans — ormative- and-innovative-year- — or-de — i/ [https://perma.cc/A4XF-2TB4].

3. Sean Lee, Democratizing Finance: How Web3 Bridges The Gap For The Underbanked, FORBES, https://www. — orbes.com/sites/digital- assets/2024/10/07/democratizing- — inance-how-web3-bridges-the-gap- — or-the- underbanked/ [https://perma.cc/W9ZZ-D6TU] (updated Oct. 7, 2024, 11:10 AM).

4. Abdulga

ar Muhammad et al., Decentralized Finance (DeFi) and Traditional Banking: A Convergence or Collision, 5(1) ECON. POL’Y & REG’L DEV. AT *3-4 (2024), https://doi.org/10.48550/arXiv.2312.01018 [https://perma.cc/D36A-J7WN].

1. Block Telegraph Sta

, The Role o — DeFi in Financial Inclusion, BLOCK TEL. (May 2, 2024), https://blocktelegraph.io/role-o — -de — i-in- — inancial-inclusion/ [https://perma.cc/28HQ-VHGP].

1. Lumin Digital, Banking the Unbanked Population: Building Financial Inclusion Through Fintech, LUMIN DIGIT. INSIGHTS (Apr. 28, 2021), https://lumindigital.com/insights/banking-the-unbanked-population- building- — inancial-inclusion-through- 2025] FUNCTION OVER FORM 15

contrast, DeFi plat

orms are accessible to anyone with an internet connection, providing a level playing — ield — or individuals who might otherwise be excluded — rom the global economy.53 Whether it is — or remittances, lending, borrowing, or even investing, DeFi opens — inancial markets’ doors to individuals in emerging markets, rural areas, or those without access to conventional banking services.54 DeFi also enables greater — inancial autonomy.55 With DEXs and lending protocols, users can manage their assets without relying on a third-party intermediary.56 This direct control over one’s — inancial transactions and assets reduces the — riction, cost, and delay typically associated with traditional — inancial systems.57 For example, lending plat — orms such as Compound or Aave allow users to earn interest on their digital assets or borrow — unds without a credit check.58 Similarly, plat — orms like Uniswap and SushiSwap o —

er decentralized exchanges where users can trade assets — reely without relying on centralized entities to — acilitate the process.59

intech/#:~:text=Fortunately%2C%20advances%20in%20 — intech%20are,bridge %20the%20 — inancial%20inclusion%20divide [https://perma.cc/PQU5-BSQN].

1. Rakesh Sharma, What Is Decentralized Finance (DeFi) and How Does It Work?, INVESTOPEDIA, https://www.investopedia.com/decentralized- — inance- de — i-5113835 [https://perma.cc/MQL5-G4Y8] (updated Oct. 25, 2024).

2. The Rise o

   Decentralised Finance (DeFi) Plat — orms in Emerging Markets, FINTECH REV. (July 10, 2024), https:// — intechreview.net/decentralised-

inance-de — i-plat — orms-emerging-markets/ [https://perma.cc/LN6V-8U4B].

1. Eye o

   Unity, Decentralized Finance: The Key to Financial Inclusion and Empowerment, MEDIUM (Oct. 13, 2023), https://medium.com/@eyeso — unity/decentralized- — inance-the-key-to-

inancial-inclusion-and-empowerment-3c2d75132b5 [https://perma.cc/4WYQ- DUTT].

1. What Is a DEX? A Comprehensive Guide to Decentralized Exchanges, RUBIC (Oct. 28, 2024), https://rubic.exchange/blog/what-is-a-dex-a- comprehensive-guide-to-decentralized-exchanges/ [https://perma.cc/5XFY- 4PHU].

2. Kaushal Shah et al., A Systematic Review o

   Decentralized Finance Protocols, 4 INT’L J. INTELLIGENT NETWORKS 171, 174–76 (2023), https://doi.org/10.1016/j.ijin.2023.07.002 [https://perma.cc/3XBG- 7CKH].

3. Thomas Adam, Aave vs Compound: Which DeFi Lending Plat

   orm is Better?, COINWIRE, https://coinwire.com/aave-vs-compound [https://perma.cc/54GY-96H4] (updated Jan. 1, 2024).

4. Esat Dedezade, The Top Decentralized Exchanges (DEXs) in 2021, DECRYPT (June 16, 2021), https://decrypt.co/73356/top-decentralized- exchanges-dex-uniswap-sushiswap [https://perma.cc/Q4FV-AXQC]. 16 LOUISIANA LAW REVIEW [Vol. 86

Moreover, DeFi innovations have led to the creation o ---  novel  --- inancial products that provide better risk management, enhanced liquidity, and increased accessibility to complex  --- inancial services.60 Yield  --- arming and liquidity mining o ---

er individuals ways to earn rewards on their cryptocurrency holdings, incentivizing people to participate in decentralized protocols while contributing liquidity to the ecosystem.61 These innovations represent a — undamental shi — t toward more equitable

inancial systems, where anyone with digital assets can participate and bene — it.62 In addition to promoting — inancial inclusion, DeFi has the potential to create entirely new economic ecosystems that incentivize participation, collaboration, and network e —

ects.63 By allowing — or the creation o —

tokenized economies, DeFi encourages users to contribute to the growth and success o — projects, o — ten rewarding them through governance tokens or dividends.64 This value tokenization enables disruptive innovation, where individuals, communities, and organizations can create value that transcends traditional — inancial models.65 While the potential — or economic empowerment is vast, the regulatory challenges surrounding DeFi’s growth present signi — icant barriers to its

1. DeFi 2.0: The Next Wave o

   Financial Innovation, OPENWARE (July 30, 2024), https://www.openware.com/news/articles/de — i-2.0-the-next-wave-o — -

inancial-innovation [https://perma.cc/8JMP-EYQE].

1. Asset Hodler Sta

, Yield Farming and Liquidity Mining: Opportunities and Risks in DeFi, ASSET HODLER (July 15, 2024), https://asset- hodler.com/yield- — arming-and-liquidity-mining-opportunities-and-risks-in-de — i/ [https://perma.cc/VK4E-34UW].

1. Jakub Lazurek, Staking, Yield Farming, and Liquidity Mining: Key DeFi Di —

erences, COINPAPRIKA (Oct. 30, 2024), https://coinpaprika.com/news/staking-yield- — arming-and-liquidity- mining:-key-de — i-di —

erences/ [https://perma.cc/YZW4-WFHF].

1. Jackson Wood, Understanding DeFi and Its Importance in the Crypto Economy, COINDESK, https://www.coindesk.com/tech/2022/01/20/understandin g-de — i-and-its-importance-in-the-crypto-economy/ [https://perma.cc/24T2- 2N2S] (updated Apr. 9, 2024, 9:02 PM).

2. The Role o

   Community in Shaping the Future o — Decentralized Finance (DeFi) in Recent Years, Decentralized Finance (DeFi), LENOUS (Oct. 9, 2024), https://www.lenous.io/post/role-o — -community-in-shaping- — uture-o — -de — i [https://perma.cc/59NJ-6WTB].

3. Cathrine Williams, Top 10 Trends Reshaping the Future o

Decentralized Finance (DeFi) in 2024, COINMONKS (Apr. 2, 2024), https://medium.com/coinmonks/top-10-trends-reshaping-the- — uture-o — - decentralized- — inance-de — i-in-2024-8b73b2e4b8ae. 2025] FUNCTION OVER FORM 17

continued success and mass adoption.66 As such, developing a

ramework that — osters innovation while addressing the inherent risks is essential to

ully realize DeFi’s trans — ormative potential.67

2. Challenges to Traditional Regulatory Frameworks

While the innovations brought about by DeFi are trans --- ormative, they also create signi --- icant challenges  --- or traditional regulatory  --- rameworks.68 These  --- rameworks were designed with centralized  --- inancial institutions in mind, and as such, they struggle to address the decentralized, borderless, and pseudonymous nature o ---  DeFi plat --- orms.69 The core  --- eatures that make DeFi so innovative also complicate its regulation, requiring a

undamental rethinking o — how laws and regulations should be applied.70 A primary challenge is the lack o — a central authority in DeFi ecosystems.71 In traditional — inance, regulatory bodies such as the Securities and Exchange Commission (SEC) or the Commodity Futures Trading Commission (CFTC) oversee — inancial markets through central entities.72 In contrast, DeFi plat — orms operate on blockchain networks where governance is decentralized, o — ten through ĐAOs.73 These organizations can — unction without a central — igure or entity that could be held accountable.74 Without a clear point o — contact or authority,

1. Rubén Leal Buen

   il & Alexander Hernández Romanowski, Implications o — Decentralized Finance — or Competition, Antitrust Policy and Economic Growth, MCNAIR CTR. FOR ENTREPRENEURSHIP AND ECON. GROWTH (Dec. 1, 2022), https://doi.org/10.25613/9sgw-q030 [https://perma.cc/2LKR-VXG5].

2. Uzougbo, supra note 11, at 117–20.
3. Id.
4. Id.

5. Jesse Anglen, The Global Landscape o

   DeFi Regulations: What You Need to Know in 2024, RAPID INNOVATION (2024), https://www.rapidinnovation.io/post/the-global-landscape-o — -de — i- regulations-what-you-need-to-know-in-2024 [https://perma.cc/D59A-AJCT].

6. Id.
7. Debbie Carlson, Financial Regulators: The Market Police, BRITANNICA MONEY, https://www.britannica.com/money/ — inancial-market-regulators [https://perma.cc/K7PW-WY3U] (last visited July 2, 2024).

8. Kevin Werbach, What is decentralized

   inance? An expert explains, WORLD ECON. F. (Aug. 10, 2021), https://www.we — orum.org/stories/2021/08/what-is-decentralized- — inance/ [https://perma.cc/59P6-8GNR].

9. Iliana Mavrou, DeFi vs. CeFi in 2025: Rivalry or Collaboration?, TECHOPEDIA, https://www.techopedia.com/de — i-vs-ce — i-regulation-security-and- innovation [https://perma.cc/7RP2-H9J4] (updated Mar. 14, 2024). 18 LOUISIANA LAW REVIEW [Vol. 86

en

orcement o — regulations becomes di —

icult.75 For example, the ĐAO hack o — 2016, in which $60 million was stolen — rom a decentralized investment — und, highlighted the challenges in holding decentralized entities accountable and en — orcing laws in a decentralized environment.76 Another signi — icant challenge is the classi — ication o — digital assets within DeFi plat — orms.77 Traditional securities laws, such as the Howey Test—which de — ines what constitutes a security—struggle to accommodate the diversity o — assets within the DeFi ecosystem.78 DeFi tokens can serve multiple purposes—acting as governance tokens, liquidity incentives, or even as collateral—all o — which make them di —

icult to categorize under existing legal classi — ications.79 For instance, governance tokens o — ten provide holders with the right to vote on the

uture direction o — a project, but this — unction does not — it easily into the model o — traditional securities, which are designed to o —

er ownership or claims on pro — its.80 This multi — unctionality o — tokens means that applying traditional tests, such as the Howey Test or the Reves Test, can result in inconsistent and inadequate regulatory guidance.81

1. Id.
2. Shilpa Lama & May Woods, What Was the DAO Hack? A Guide to Ethereum Classic’s Origin, BEINCRYPTO, https://beincrypto.com/learn/dao- hack-explained/ [https://perma.cc/WB6B-8F7Q] (updated Dec. 10, 2024).
3. Svetlana V. Muradyan, Digital Assets: Legal Regulation and Estimation o — Risks, 1 J. DIG. TECHS. & L. 123, 127–28 (2023), https://doi.org/10.21202/jdtl.2023.5 [https://perma.cc/T8RB-KJ8Q].

4. Robert Whitaker, Understanding the Howey Test

   or Digital Assets and Securities, MERKLE SCI. (Sep. 9, 2024), https://blog.merklescience.com/general/understanding-the-howey-test-

or-digital-assets-and-securities [https://perma.cc/7R3B-38TZ].

1. Multi.io Research, Explained: DeFi Governance Tokens, MEDIUM (Nov. 17, 2020), https://medium.com/multi-io/explained-de — i-governance- tokens-23a76e4d — 543 [https://perma.cc/6D9R-AHCZ].
2. Jon Ganor, What Are Governance Tokens and How Do They Work?, CHAINPORT LEARN (Sep. 10, 2024), https://blog.chainport.io/what-are- governance- tokens#:~:text=Governance%20tokens%20are%20a%20type,a%20blockchain% 20project%20or%20dApp [https://perma.cc/9E7A-GGBV].
3. Laura Anthony, Esq., What Is A Security? The Howey Test And Reves Test, SECS. L. BLOG (Nov. 25, 2014), https://securities-law- blog.com/2014/11/25/what-is-a-security-the-howey-test-and-reves-test/ [https://perma.cc/52RA-PKKY]; SEC v. W.J. Howey Co., 328 U.S. 293 (1946); Reves v. Ernst & Young, 494 U.S. 56 (1990). 2025] FUNCTION OVER FORM 19

 Furthermore, the cross-border nature o ---  DeFi plat --- orms complicates jurisdictional en --- orcement.82 DeFi projects are inherently global, enabling transactions and participation  --- rom users in virtually any jurisdiction.83 In contrast, traditional regulatory systems are o --- ten geographically bound, leading to con --- licts between national laws and the lack o ---  consistent international standards.84 For example, i ---  a DeFi project based in one jurisdiction violates a regulation, en --- orcing penalties or imposing  --- ines may be impossible i ---  the plat --- orm’s participants and code reside in di ---

erent jurisdictions.85 The lack o — clear rules and coordination among regulatory bodies across borders only ampli — ies this problem.86 In recent years, countries such as China and India have attempted to implement stricter regulatory measures against cryptocurrency and DeFi, while other nations, like Switzerland and Singapore, have adopted more supportive

rameworks.87 This regulatory — ragmentation creates uncertainty, potentially deterring innovation or pushing projects to seek jurisdictions with more — avorable laws—a phenomenon known as regulatory arbitrage.88

1. Biyan Mienert, Managing Cross-Border DeFi DAOs in the EU: Legal Complexities and Regulatory Perspectives (Ensuring Su —

icient Decentralization under MiCA), SSRN (2024), http://dx.doi.org/10.2139/ssrn.4852000.

1. Igor Makarov & Antoinette Schoar, Cryptocurrencies and Decentralized Finance (DeFi), 2022 BROOKINGS PAPERS ON ECON. ACTIVITY, NO. 1, at 141, 142–44, https://doi.org/10.1353/eca.2022.0014 [https://perma.cc/24N8-KP6P].
2. Id. at 189–90.

3. International Organization o

   Securities Commissions, Final Report with Policy Recommendations — or Decentralized Finance (DeFi), at 14 (Dec. 2023), https://www.iosco.org/library/pubdocs/pd — /IOSCOPD754.pd —

[https://perma.cc/6N3U-2LM8].

1. Georg Lorenz, Regulating Decentralized Financial Technology: A Qualitative Study on the Challenges o — Regulating DeFi with a Focus on Embedded Supervision, STAN. J. OF BLOCKCHAIN L. & POL’Y (June 28, 2024), https://stan — ord-jblp.pubpub.org/pub/regulating-de — i/release/1 [https://perma.cc/358J-FHPW].
2. Ian Shine, Cryptocurrency regulations are changing across the globe. Here’s what you need to know, WORLD ECON. F. (May 2, 2024), https://www.we — orum.org/stories/2024/05/global-cryptocurrency- regulations-changing/ [https://perma.cc/P7DT-DVR2].
3. Coryanne Hicks, Cryptocurrency Regulations Around the World, FORBES ADVISOR (Apr. 3, 2023, 9:01 AM), https://www. — orbes.com/advisor/investing/cryptocurrency/cryptocurrency- regulations-around-the-world/ [https://perma.cc/98EA-CT8E]. 20 LOUISIANA LAW REVIEW [Vol. 86

Finally, the pseudonymous nature o ---  participants in DeFi plat --- orms exacerbates the di ---

iculty o — compliance with traditional regulations such as Know Your Customer (KYC) and Anti-Money Laundering (AML) requirements.89 While — inancial institutions are required to collect detailed customer in — ormation to prevent illicit activities like money laundering, the anonymity o —

ered by DeFi plat — orms complicates these requirements.90 Users can transact pseudonymously, and smart contracts may not have any direct identi — ication requirements, making it harder — or regulators to track illicit activity or ensure compliance with existing laws.91 The result o — these challenges is a regulatory gap where traditional

rameworks are either too rigid to address the unique characteristics o —

DeFi or outright inapplicable to its decentralized nature. This gap not only leaves participants vulnerable to — raud, market manipulation, and systemic risks, but also creates signi — icant uncertainty — or investors and innovators, ultimately hindering DeFi’s potential to reach its — ull impact. The need — or a regulatory — ramework that is both — lexible and adaptable to the decentralized, multi — aceted nature o — DeFi is urgent.

B. The Function-Based Sa

e Harbor Framework

As the DeFi ecosystem continues to expand, the need  --- or a regulatory

ramework that is both — lexible and adaptive to its unique characteristics has never been more critical.92 A — unction-based sa — e harbor — ramework o —

ers a promising solution by — ocusing on the economic — unctions o — DeFi plat — orms and tokens, rather than attempting to — orce them into outdated or ill- — itting legal classi — ications.93 This — ramework is designed to

1. How DeFi Plat

   orms Can Overcome Compliance Challenges, MERKLE SCI. (Sep. 17, 2024), https://blog.merklescience.com/general/how-de — i- plat — orms-can-overcome-compliance-challenges [https://perma.cc/SQK6- VP9D].

2. Muradyan, supra note 46, at 141.

3. Marc Truchet & Je

Bandman, Decentralized Finance (DeFi): opportunities, challenges, and policy implications, EUROFI REGUL. UPDATE, at 73 (Feb. 2022), https://www.euro — i.net/wp- content/uploads/2022/05/euro — i_decentralized- — inance-de — i_opportunities- challenges-and-policy-implications_paris_ — ebruary-2022.pd —

[https://perma.cc/U3WA-YT2Y].

1. Iwa Salami, Challenges and Approaches to Regulating Decentralized Finance, 115 AJIL UNBOUND 425, 425–29 (2021), https://doi.org/10.1017/aju.2021.66 [https://perma.cc/N6MD-TLMB].

2. Understanding Regulatory Frameworks

   or DeFi in the U.S. and Beyond, MERKLE SCI. (June 25, 2025] FUNCTION OVER FORM 21

incentivize compliance with necessary sa

eguards while — ostering innovation, ultimately ensuring that the DeFi space can continue to evolve while protecting users and maintaining market integrity.94 A — unction-based approach di —

ers — rom traditional regulatory

rameworks that are o — ten built around rigid de — initions o —

inancial products—such as securities, commodities, or currencies.95 Instead, it prioritizes the economic role that a given plat — orm or token plays within the DeFi ecosystem.96 For example, rather than labeling tokens based on their — orm— — or example as a “security” or “commodity”—regulators would examine their — unction—whether they — acilitate governance, incentivize liquidity provision, or act as collateral in lending protocols.97 By — ocusing on the tokens’ — unctional purpose, this approach o —

ers greater clarity — or regulators and projects alike, ensuring that regulatory oversight is more aligned with real-world economic activity.98 Under this — ramework, DeFi plat — orms that meet certain compliance criteria could quali — y — or a sa — e harbor, protecting them — rom en — orcement actions or excessive regulation. Key requirements — or participation in the sa — e harbor would likely include transparent governance structures, regular security audits, and robust user protection measures such as KYC and AML practices.99 These requirements are designed to ensure that

2024), https://blog.merklescience.com/regwatch/understanding-regulatory-

rameworks- — or-de — i-in-the-u.s.-and-beyond [https://perma.cc/3DQK-KT4Z].

1. Id.

2. Steven L. Schwarcz, The Functional Regulation o

   Finance, HARV. L. SCH. F. ON CORP. GOVERNANCE (June 16, 2014), https://corpgov.law.harvard.edu/2014/06/16/the- — unctional-regulation-o — -

inance [https://perma.cc/5Z7H-3ZLE].

1. Andry Alamsyah & Ivan Farid Muhammad, Unraveling the crypto market: A journey into decentralized — inance transaction network, 4 DIGIT. BUS. 100074, at 4 (2024), https://doi.org/10.1016/j.digbus.2024.100074 [https://perma.cc/K6TM-8RH6].
2. Lin William Cong & Claire Wilson, Cryptocurrency Regulation and an Economic Classi — ication o — Tokens, COMPETITION POL’Y INT’L, at 3 (Feb. 2022), https://www.competitionpolicyinternational.com/wp-content/uploads/2022/02/4- Cryptocurrency-Regulation-and-an-Economic-Classi — ication-o — -Tokens-Lin- William-Cong-Claire-Wilson.pd — [https://perma.cc/QJ5B-E64E]; Team LEXR, Token Classi — ication: Stable coins, NFTs and governance tokens, LEXR, https://www.lexr.com/en-ch/blog/common-token-classi — ication-models/ [https://perma.cc/LB2Q-8Y32] (updated May 22, 2025).
3. Cong, supra note 66, at 7–8.
4. Navigating AML Compliance Requirements: A Comprehensive Overview, FIN. CRIME ACAD. (June 27, 22 LOUISIANA LAW REVIEW [Vol. 86

plat

orms operate in a secure and — air manner, while still allowing the

lexibility needed to encourage innovation and entrepreneurial risk-taking.100 One o — the most signi — icant advantages o — this — ramework is its ability to incentivize responsible development.101 By o —

ering a clear regulatory path — or DeFi plat — orms, the sa — e harbor reduces the uncertainty that many innovators — ace, which can o — ten drive projects to either avoid regulation altogether or operate in jurisdictional arbitrage.102 Instead, by complying with the requirements o — the sa — e harbor, plat — orms can demonstrate their commitment to market integrity, investor protection, and consumer rights, ensuring that they are not only innovative but also responsible and sustainable. Furthermore, the — unction-based approach allows — or a dynamic regulatory model that can evolve alongside the DeFi space. As the technology and market conditions shi — t, the — ramework can be adjusted to re — lect the changing landscape without requiring major legislative overhauls.103 For instance, new — inancial products and use cases that emerge within DeFi could be evaluated based on their — unction within the ecosystem, allowing regulators to respond — lexibly to the rapid pace o —

innovation in the space.104 By introducing a sa — e harbor based on — unctional criteria, this

ramework aims to achieve a balance between regulation and innovation.105 It creates a regulatory environment where DeFi projects can thrive without the risk o — undue inter — erence, while simultaneously ensuring that consumer protections and market integrity are maintained.106

2025), https://

inancialcrimeacademy.com/aml-compliance-requirements [https://perma.cc/YFE9-5T7W].

1. Id.
2. Id.
3. Caroline A. Crenshaw, Statement on DeFi Risks, Regulations, and Opportunities, U.S. SEC. & EXCH. COMM’N (Nov. 9, 2021), https://www.sec.gov/newsroom/speeches-statements/crenshaw-de — i- 20211109 [https://perma.cc/Q3RZ-8UWX].

4. La Rédaction C., Future o

   DeFi: Trends and Forecasts, COINTRIBUNE, https://www.cointribune.com/en/ — uture-o — -de — i-trends- and- — orecasts [https://perma.cc/Y8C2-Y5LV] (last visited Oct. 28, 2024).

5. Matteo Aquilina et al., Decentralized Finance (DeFi): A Functional Approach, 10 J. FIN. REG. 1, 4 (2024).

6. Crypto Council

   or Innovation, Key Elements o — an E —

ective DeFi Framework 48–52 (Oct. 5, 2023), https://media.crypto — orinnovation.org/2023/10/Key_Elements_E —

ective_DeFi_ Framework-_report_2023.pd — [https://perma.cc/A5RD-2P67].

1. Id. 2025] FUNCTION OVER FORM 23

The sa

e harbor would not only encourage innovation but would also ensure that DeFi plat — orms are held to certain standards o — accountability, reducing systemic risk and preventing abuses that could harm the broader

inancial ecosystem.107

1. Shi --- ting  --- rom Form to Function

The traditional approach to  --- inancial regulation has largely been centered around the  --- orm o ---  a  --- inancial product: its classi --- ication into categories such as securities, commodities, or currencies.108 This

orm-based approach, which has served well — or decades, was designed to regulate centralized — inancial systems with clear intermediaries.109 This

ramework is ill-suited to the decentralized and multi — aceted nature o —

DeFi, where tokens and plat

orms o — ten serve multiple — unctions that do not — it neatly into these established categories.110 In DeFi, the same token may have a governance role, providing holders with the right to vote on important decisions related to the protocol, while also acting as a liquidity incentive, rewarding users — or providing assets to a decentralized exchange.111 These multi — unctional tokens cannot be easily categorized as securities or commodities under existing regulatory models.112 As a result, applying traditional — rameworks such as the Howey Test—which is designed to evaluate whether an asset constitutes a security based on its investment purpose—o — ten leads to

1. Hester Peirce, Proposed Sa

   e Harbor: Time-Limited Exemption — or Tokens, GITHUB (Apr. 13, 2021), https://github.com/CommissionerPeirce/Sa — eHarbor2.0 [https://perma.cc/PU7L-SDRJ].

2. Stephen Morris & Hyun Song Shin, Financial Regulation in a System Context, 2 BROOKINGS PAPERS ON ECON. ACTIVITY 229 (2008) https://www.brookings.edu/wp- content/uploads/2008/09/2008b_bpea_morris.pd — [https://perma.cc/PPS7- LPUN].
3. Dirk A. Zetzsche et al., Decentralized Finance, 6 J. FIN. REG. 172, 175 (2020), https://doi.org/10.1093/j — r/ — jaa010 [https://perma.cc/E3DC-37HT] (“Traditional — inance is thus characterized by major intermediaries, which centralize — unctions and — inancial resources.”).
4. Salami, supra note 61, 425–26.
5. Shah, supra note 26 at 172, 174, 177.
6. Matthew T. Burgoyne et al., IOSCO unveils consultation report on global DeFi regulation, OSLER (Sep. 12, 2023), https://www.osler.com/en/insights/updates/iosco-unveils-consultation- report-on-global-de — i-regulation/ [https://perma.cc/K8GQ-2HZX]. 24 LOUISIANA LAW REVIEW [Vol. 86

con

usion and misclassi — ication o — DeFi assets.113 The Howey Test, with its — ocus on the expectation o — pro — it — rom a common enterprise, does not account — or the diverse roles that DeFi tokens may serve, — rom governance to utility within decentralized applications (dApps).114 By shi — ting — rom a — orm-based regulatory approach to a — unction-based model, regulators can better address the unique characteristics o — DeFi. A

unction-based — ramework emphasizes the economic role that a token or plat — orm serves in the broader ecosystem, rather than its legal classi — ication.115 For instance, instead o — categorizing a DeFi token solely as a security because it can be traded on an exchange, the — unction-based approach would assess its economic utility—whether it — acilitates governance, provides access to decentralized — inance services, or acts as collateral within lending protocols.116 This shi — t allows regulators to move beyond traditional categories and — ocus on the actual use and behavior o —

the assets within the DeFi ecosystem.117 A — unction-based approach provides much-needed — lexibility — or DeFi plat — orms and regulators alike.118 It allows plat — orms to de — ine their economic purpose while giving regulators a clearer understanding o — the real-world impact o — tokens and plat — orms.119 Rather than relying on rigid legal tests that were never designed — or decentralized technologies, this approach can provide tailored regulation that evolves with the rapidly

1. Ananda Banerjee, What Is the Howey Test and How Does It Impact Crypto?, BEINCRYPTO, https://beincrypto.com/learn/howey-test/ [https://perma.cc/FM4L-UT2K] (updated Jan. 2, 2025).

2. Nathan Rei

, Howey Test De — inition: What It Means and Implications

or Cryptocurrency, INVESTOPEDIA (July 31, 2023), https://www.investopedia.com/terms/h/howey-test.asp [https://perma.cc/CQ4Y-KEWK]; Steven Holm, Understanding the Howey Test: A Comprehensive Guide, MORPHER BLOG (June 25, 2024), https://www.morpher.com/blog/howey-test [https://perma.cc/5WYB- D48N].

1. Aaron Wright & Primavera De Filippi, Decentralized Finance (DeFi): A Functional Approach, at 3, 4, 20–21, SSRN (Feb. 1, 2023), https://papers.ssrn.com/sol3/papers.c — m?abstract_id=4325095 [https://perma.cc/JY8H-N2W8]; International Organization o — Securities Commissions, supra note 54.
2. Denise Garcia Ocampo et al., Crypto, Tokens and DeFi: Navigating the Regulatory Landscape, FSI INSIGHTS ON POL’Y IMPLEMENTATION NO. 49, at 5 (May 2023), https://www.bis.org/ — si/publ/insights49.htm [https://perma.cc/F36V-BYRC].
3. Id.
4. Aquilina, supra note 73, at 8.
5. Id. 2025] FUNCTION OVER FORM 25

changing DeFi space.120 Additionally, it encourages the creation o

new

inancial products that better re — lect the innovative spirit o — DeFi, without being sti — led by outdated regulatory classi — ications.121 Ultimately, shi — ting — rom — orm to — unction o —

ers a more adaptive and precise regulatory tool, enabling a — ramework that can evolve alongside DeFi, — ostering innovation while ensuring that user protection, market integrity, and — inancial stability are maintained.122

2. Bene --- its: Flexibility, Innovation, and Market Stability

One o ---  the most signi --- icant advantages o ---  a  --- unction-based sa --- e harbor

ramework is its inherent — lexibility, which allows it to adapt to the rapidly evolving DeFi ecosystem.123 Unlike traditional regulatory approaches that are con — ined by outdated de — initions o —

inancial products, a

unction-based — ramework — ocuses on the economic role o — tokens and plat — orms, enabling regulators to create guidelines that are more responsive to the diverse uses o — blockchain technology.124 This — lexibility empowers regulators to accommodate a wide variety o — DeFi products— whether they are tokens used — or governance, liquidity provision, or collateralization—without requiring major revisions to the regulatory structure as the sector grows.125 This — lexibility is essential in the context o — DeFi, where innovation is constant.126 DeFi projects regularly introduce novel — inancial products and

1. Jared Ronis, DeFi 101: The Good, the Bad, and the Regulatory, WILSON CTR. (Sep. 29, 2023), https://www.wilsoncenter.org/article/de — i-101- good-bad-and-regulatory [https://perma.cc/47HS-EHBY].
2. Lennart Ante & Ingo Fiedler, The New Digital Economy: How Decentralized Finance (DeFi) and Non-Fungible Tokens (NFTs) Are Trans — orming Value Creation, Ownership Models, and Economic Systems, 4 DIGIT. BUS. 100094 (2024), https://doi.org/10.1016/j.digbus.2024.100094 [https://perma.cc/EU4C-JJGT].

3. Crypto Council

   or Innovation, supra note 74.

4. Hester M. Peirce, Token Sa

   e Harbor Proposal 2.0, U.S. SECS. AND EXCH. COMM’N (Apr. 13, 2021), https://www.sec.gov/newsroom/speeches- statements/peirce-statement-token-sa — e-harbor-proposal-20 [https://perma.cc/TE56-NE2D].

5. Aquilina, supra note 73, at 13.
6. Galaxy Digital Research, Governance in DeFi, GALAXY DIGIT. RSCH. (Nov. 4, 2022), https://www.galaxy.com/insights/research/governance-in-de — i/ [https://perma.cc/C4C9-D687].
7. La Rédaction C., supra note 72. 26 LOUISIANA LAW REVIEW [Vol. 86

business models that do not align with traditional

inancial categories.127 For example, concepts like yield — arming, liquidity mining, and staking have created new ways — or users to earn returns on their digital assets.128 With a — unction-based — ramework, these innovations can be regulated in real-time, allowing — or more dynamic and e —

icient oversight.129 Rather than — orcing new innovations into existing regulatory categories, the

unction-based approach allows regulators to consider each product’s purpose and impact, ensuring that the regulation remains relevant as new ideas emerge.130 This adaptability not only bene — its DeFi plat — orms but also — osters a thriving environment — or innovation. Entrepreneurs and developers in the DeFi space o — ten — ace signi — icant regulatory uncertainty, which can sti — le creativity and discourage investment.131 A — unction-based sa — e harbor o —

ers clear regulatory guidelines that reduce this uncertainty, enabling developers to — ocus on building innovative solutions without the — ear o —

running a

oul o — ambiguous or outdated regulations. By providing sa — e harbor provisions — or compliant projects, this — ramework encourages plat — orms to adhere to best practices in security, transparency, and governance, all while continuing to innovate within the regulatory boundaries. This balance between regulatory certainty and creative

lexibility encourages sustainable growth within the DeFi space. In addition to — ostering innovation, a — unction-based — ramework promotes market stability by introducing clear, consistent rules — or plat — orms to — ollow. With the right sa — eguards in place—such as regular security audits, transparent governance practices, and user protection measures—DeFi plat — orms are incentivized to operate in a secure and

1. Cryptopedia Sta

, What Is DeFi (Decentralized Finance)?, GEMINI, https://www.gemini.com/cryptopedia/what-is-de — i-crypto- decentralized- — inance-projects [https://perma.cc/4KG6-YLUR] (updated Oct. 3, 2023) (“DeFi projects introduce new — inancial instruments and services, such as staking, borrowing, lending, investing, and derivatives trading, that diverge — rom traditional — inance by operating on decentralized blockchain protocols.”).

1. Diego Geroni, Staking vs. Yield Farming vs. Liquidity Mining – Key Di —

erences, 101 BLOCKCHAINS (Nov. 18, 2021), https://101blockchains.com/staking-vs-yield- — arming-vs-liquidity-mining [https://perma.cc/PE8K-J6YJ].

1. Financial Stability Board, FSB Global Regulatory Framework

   or Crypto-Asset Activities, at 3 (2023), https://www. — sb.org/uploads/P170723-1.pd —

[https://perma.cc/4EH3-DXU8].

1. Aquilina, supra note 73, at 11.
2. DELOITTE, DeFi Deciphered: Navigating Disruption Within Financial Services 6, 10–13 (Deloitte Development LLC, Mar. 2022). 2025] FUNCTION OVER FORM 27

stable manner. This approach helps mitigate systemic risks that might otherwise arise — rom poorly regulated or non-compliant projects. For instance, ensuring that plat — orms disclose in — ormation about their — inancial health, governance structures, and security practices can help prevent

raud, market manipulation, and other illicit activities that have plagued some areas o — the cryptocurrency market.132 Moreover, the sa — e harbor — ramework ensures that DeFi plat — orms are held to high accountability standards. By requiring plat — orms to meet certain compliance milestones—such as per — orming security audits or implementing e —

ective dispute resolution processes—this regulatory approach promotes market integrity. These standards not only protect users but also enhance the broader credibility o — the DeFi sector, ensuring that investors and stakeholders can trust the systems in place. Overall, the — unction-based sa — e harbor — ramework provides a win-win scenario — or both innovation and market stability. It allows DeFi to — lourish by promoting — lexibility and — ostering the development o — cutting-edge

inancial products, all while ensuring that these innovations do not come at the expense o — investor protection or — inancial system integrity.

    PART II. THE NEED FOR A NEW REGULATORY FRAMEWORK

As DeFi continues to mature, it is becoming increasingly clear that the existing regulatory  --- rameworks are ill-equipped to address the unique challenges posed by this rapidly evolving sector.133 Traditional  --- inancial regulations were designed  --- or centralized systems, where intermediaries such as banks and brokers serve as central points o ---  control and accountability.134 DeFi plat --- orms operate without such intermediaries, relying instead on blockchain technology and smart contracts to execute

inancial transactions in a decentralized and transparent manner.135 This

1. John Okoro, Exploring the Regulatory Landscape o

   Decentralised Finance: Current Status and Future Implications, ALPHA DEV., https://www.alphadevelopment.com [https://perma.cc/BHK6-S6AT] (last visited July 30, 2025).

2. Empire Global, The Rise o

   Decentralized Finance (DeFi): Opportunities and Regulatory Challenges, MEDIUM (Oct. 31, 2024), https://medium.com/empire-global-partners/the-rise-o — -decentralized-

inance-de — i-opportunities-and-regulatory-challenges- — a4e095b5e38 [https://perma.cc/26HQ-QW8X].

1. Zetzsche, supra note 78.
2. David Johnson, Decentralized Finance (DeFi): What Startups Need to Know, ROOLED (Aug. 13, 2024), https://rooled.com/resources/decentralized-

inance-de — i-what-startups-need-to-know/ [https://perma.cc/7KHY-2L7V]. 28 LOUISIANA LAW REVIEW [Vol. 86

undamental shi — t introduces a host o — challenges that traditional regulatory models cannot adequately address, creating a pressing need — or a new regulatory — ramework that can e —

ectively support DeFi’s innovation while sa — eguarding investors, maintaining market integrity, and promoting broader — inancial stability.136

A. Limitations o

Current U.S. Regulatory Frameworks

 The U.S. regulatory environment is built around a patchwork o ---  rules designed to oversee traditional  --- inancial institutions and markets.137 These existing  --- rameworks o --- ten  --- ail to account  --- or the decentralized nature o ---

DeFi, where control is distributed among users and smart contracts rather than centralized entities.138 The core issue lies in the categorization o — DeFi tokens and plat — orms, which do not — it neatly into the traditional — inancial categories that U.S. regulators use, such as securities, commodities, or currencies.139 As a result, regulators are o — ten le — t to apply outdated legal tests, resulting in regulatory ambiguity and uncertainty — or DeFi projects.140

 1. The Howey Test and its Inadequacies  --- or DeFi

The Howey Test, developed by the United States Supreme Court in 1946, is used to determine whether an asset quali --- ies as a security under U.S. law.141 The test  --- ocuses on whether there is an investment o ---  money in a common enterprise with an expectation o ---  pro --- its derived  --- rom the

1. Salami, supra note 61, at 429; Betsy Vereckey, Decentralized Finance: 4 Challenges to Consider, MIT SLOAN SCH. MGMT. (July 11, 2022), https://mitsloan.mit.edu [https://perma.cc/G8CY-KMCT].
2. Zetzsche, supra note 78.
3. Tom Momberg & Angela Angelovska-Wilson, Regulating the Unseen: Limiting the Potential — or Negative Externalities — rom MEV Realization, DLX L. LEADERSHIP BLOG (Oct. 22, 2024), https://dlxlaw.com/leaderships_blog/regulating-the-unseen-limiting-the- potential- — or-negative-externalities- — rom-mev-realization/ [https://perma.cc/2SHB-XNV3].
4. Jai Massari & Christian Catalini, DeFi, Disintermediation, and the Regulatory Path Ahead, THE REGUL. REV. (May 10, 2021), https://www.theregreview.org/2021/05/10/massari-catalini-de — i- disintermediation-regulatory-path-ahead/ [https://perma.cc/ZJW5-T7RP].
5. Prashant Jha, DeFi Regulations: Where US Regulators Should Draw the Line, COINTELEGRAPH (Sep. 6, 2022), https://www.cointelegraph.com [https://perma.cc/H3GZ-77ZN].
6. SEC v. W.J. Howey Co., 328 U.S. 293 (1946). 2025] FUNCTION OVER FORM 29

e

orts o — others.142 While this — ramework has served as a cornerstone o —

U.S. securities law, it struggles to address the complexity o

DeFi tokens, many o — which serve multi — unctional purposes such as governance, liquidity provision, and collateralization in dApps.143 For example, governance tokens allow holders to vote on protocol changes, a power that does not — it neatly into the pro — it expectation central to the Howey Test.144 The Howey Test’s reliance on centralized enterprises also overlooks the decentralized, pseudonymous, and community-governed structures o —

DeFi plat

orms, leading to inconsistent and con — using regulatory outcomes.145 The SEC v. Ripple Labs case demonstrates the Howey Test’s limitations in addressing the complexities o — decentralized — inancial instruments.146 The bi — urcated ruling in 2023, distinguishing between institutional sales and programmatic retail sales o — the cryptocurrency XRP, underscores the challenges regulators — ace when applying the Howey Test to multi — unctional assets.147 Under this decision, XRP’s classi — ication as a security depended on the transaction context.148 Institutional sales were deemed securities because o — investors’ reasonable expectation o — pro — it derived — rom

1. U.S. SECS. AND EXCH. COMM’N, Framework

   or “Investment Contract” Analysis o — Digital Assets, https://www.sec.gov/about/divisions-o —

ices/division- corporation- — inance/ — ramework-investment-contract-analysis-digital- assets [https://perma.cc/JN4Y-GNNK] (last updated July 5, 2024).

1. U.S. SECS. AND EXCH. COMM’N, Framework

   or “Investment Contract” Analysis o — Digital Assets, https://www.sec.gov/ — iles/dlt-

ramework.pd — [https://perma.cc/VD3Q-RB47] (last visited Nov. 28, 2024).

1. Id.
2. Whitaker, supra note 47.

3. Alex Drylewski et al., Ripple E

ects: Developments Following Groundbreaking Decision in SEC v. Ripple Labs, SKADDEN, ARPS, SLATE, MEAGHER & FLOM LLP (Dec. 5, 2023), https://www.skadden.com/- /media/ — iles/publications/2023/12/ripplee —

ectsdevelopments — ollowinggroundbre akingdecisioninsecvripplelabs.pd — [https://perma.cc/A2MF-UFFC].

1. Daniel Fuke & Julie He, Ripple Scores Partial Win in SEC Court Fight Over XRP, FASKEN (Sep. 13, 2023), https://www. — asken.com/en/knowledge/2023/09/ripple-scores-partial- win-in-sec-court- — ight-over-xrp [https://perma.cc/8WDP-YASD].

2. Alex Drylewski et al., Ripple E

ects: Developments Following Groundbreaking Decision in SEC v. Ripple Labs, REUTERS (Dec. 5, 2023), https://www.reuters.com/legal/legalindustry/ripple-e —

ects-developments-

ollowing-groundbreaking-decision-sec-v-ripple-labs-2023-12-05/ [https://perma.cc/46WF-UPAM]. 30 LOUISIANA LAW REVIEW [Vol. 86

Ripple’s e

orts.149 In contrast, retail sales through exchanges were not classi — ied as securities, as retail buyers were less likely to view Ripple’s e —

orts as determinative o — their returns.150 This distinction highlights a key limitation o —

orm-based regulatory models: they — ail to account — or the overlapping economic roles that tokens like XRP play across di —

erent market contexts.151 XRP’s dual — unctionality—as a medium — or cross-border payments and as an investment vehicle—illustrates the inadequacy o — a one-size- — its-all approach to regulation.152 A — unction-based regulatory

ramework could address these issues by assessing XRP’s distinct economic roles in various transactions, enabling regulators to tailor oversight without con — lating XRP’s uses.153 For instance, institutional sales could be subject to securities regulations because o — their investment-driven nature, while retail transactions could — all under consumer protection laws or payment systems oversight. The Ripple case also highlights the dangers o — regulatory uncertainty.154 Ripple Labs argued that the SEC’s delayed en — orcement

1. Jessica B. Magee & Craig McCarron Turner, SEC v. Ripple: When a Security Is Not a Security—Summary Judgment Battle Results in Split Decision, Blow to SEC En — orcement, HOLLAND & KNIGHT (July 20, 2023), https://www.hklaw.com/en/insights/publications/2023/07/sec-v-ripple- when-a-security-is-not-a-security [https://perma.cc/9MWC-2ZJP].
2. Cooley LLP, SDNY Rules Ripple’s XRP Token Was – and Was Not – a Security, COOLEY ALERT (July 27, 2023), https://www.cooley.com/news/insight/2023/2023-07-27-sdny-rules- ripples-xrp-token-was-and-was-not-a- security#:~:text=On%20July%2013%2C%202023%2C%20US,when%20used% 20 — or%20service%20providers [https://perma.cc/D4CB-9BND].

3. Rakesh Sharma, Ripple Ecosystem: What Is the Role o

   XRP?, INVESTOPEDIA (May 31, 2024), https://www.investopedia.com/news/what-role- xrp-ripples-products/ [https://perma.cc/XAG5-JJAP].

4. Jorgeacevedoarnaldo, Revolutionizing Global Transactions: How XRP and XLM Are Poised to Lead the Cross-Border Payments Revolution, MEDIUM (Jan. 30, 2024), https://medium.com/@jorgeacevedoarnaldo/revolutionizing- global-transactions-how-xrp-and-xlm-are-poised-to-lead-the-cross-border- payments-5d66c1800b12 [https://perma.cc/6EVX-X545].
5. Bitcoin Store, What is Ripple (XRP) and How Does It Work? (May 25, 2025), https://www.bitstore.net/en/blog/what-is-ripple-xrp-cryptocurrency/ [https://perma.cc/D6PQ-DPW4] (explaining how XRP is a utility token — or global payment and money trans — er systems).
6. Sebastian Sinclair, Ripple Challenges Regulatory Uncertainty in Crypto, Files Appeal in Case Against SEC, DECRYPT (Oct. 25, 2025] FUNCTION OVER FORM 31

actions created a lack o

clarity, sti — ling innovation and subjecting market participants to unpredictable compliance burdens.155 A — unction-based approach would alleviate such uncertainty by providing clearer, context-speci — ic guidelines that align with the real-world applications o —

digital assets. Beyond XRP, the precedent set in Ripple has broader implications — or DeFi plat — orms and multi — unctional tokens.156 As tokens increasingly serve as governance tools, utility mechanisms, and investment vehicles, a

unction-based regulatory — ramework o —

ers the — lexibility needed to accommodate these overlapping roles while maintaining robust investor protections.157

a. Decentralization and Multi --- unctionality

DeFi’s decentralized nature, where protocols operate without central intermediaries, challenges the Howey Test’s  --- ocus on centralized entities and traditional investment structures.158 Additionally, many DeFi tokens have multi --- unctional properties that de --- y categorization as simple investment contracts.159 They may simultaneously serve as governance tokens, granting voting rights in a protocol’s governance, and as utility tokens, providing access to speci --- ic DeFi services.160

2024), https://decrypt.co/288250/ripple-sec-continue-legal-sparring-as-appeals- target-xrp-sales-rulings [https://perma.cc/4A67-GJ9T].

1. H. Gregory Baker & Peter Vogel, SEC v. Ripple Labs: Analysis o

Summary Judgment Opinion, PATTERSON BELKNAP SECS. ENF’T & LITIG. INSIDER (July 26, 2023), https://www.pbwt.com/securities-en — orcement- litigation-insider/sec-v-ripple-labs-analysis-o — -summary-judgment-opinion [https://perma.cc/VC34-5G9K].

1. Amaka Nwaokocha, SEC vs. Ripple: One Year on Since Landmark Ruling, COINTELEGRAPH (July 13, 2024), https://cointelegraph.com/news/xrp- ruling-anniversary-crypto-regulation [https://perma.cc/7AEL-TRAM].

2. John Pawlak, The SEC vs. Ripple: Implications

   or XRP, NETCOINS BLOG (July 13, 2024), https://blog.netcoins.com/the-sec-vs-ripple-implications-

or-xrp/ [https://perma.cc/93Q5-E8SM].

1. Katrin Schuler, Ann So

   ie Cloots & Fabian Schär, On DeFi and On- Chain CeFi: How (Not) to Regulate Decentralized Finance, 10 J. FIN. REG. 213 (2024), https://doi.org/10.1093/j — r/ — jad014 [https://perma.cc/7XG7-8949].

2. Jay Jackson, DeFi Tokens: A Simple Guide

   or Beginners, FINDER (Sep. 7, 2021), https://www. — inder.com/cryptocurrency/de — i/de — i-tokens [https://perma.cc/TN7N-3WJG].

3. Kyle Bersani, Separating Governance Tokens

   rom Securities: How the Utility Token May Fall Short o — the Investment Contract, 43(3) CARDOZO L. REV. 1035 (2022) [https://perma.cc/YED4-XF36]. 32 LOUISIANA LAW REVIEW [Vol. 86

 b. The Ripple Case: Exposing the Limits o ---  Howey

The recent SEC lawsuit against Ripple Labs, alleging that its XRP token is an unregistered security, highlights the Howey Test’s limitations in the DeFi context.161 The case revolves around whether XRP’s

unctionality and distribution align with the Howey Test’s criteria, underscoring the challenges o — applying traditional securities laws to DeFi tokens.162

 2. Fragmented Jurisdictional Authority

 U.S.  --- inancial regulation is divided across multiple agencies, including the SEC, the CFTC, and the Financial Crimes En --- orcement Network (FinCEN), among others.163 This  --- ragmented oversight o --- ten results in con --- licting or overlapping regulations, which  --- urther complicates the regulation o ---  decentralized plat --- orms that do not con --- orm to traditional institutional structures.164 The absence o ---  clear and coordinated rules leaves DeFi projects at risk o ---  regulatory arbitrage, where plat --- orms might choose jurisdictions with more  --- avorable rules, creating uneven oversight that hampers the integrity o ---  the  --- inancial ecosystem.165
 This  --- ragmented structure, while e ---

ective — or traditional — inancial institutions that — it neatly into well-established regulatory categories, is

1. SEC v. Ripple Labs, Inc., 2021 WL 1814771 (S.D.N.Y. May 6, 2021). Musta — a Mulla, Ripple vs SEC Update: Court Speeds Up Final Judgement in XRP Lawsuit, COINPEDIA (Nov. 28, 2024), https://coinpedia.org/news/ripple-vs- sec-update-key-win- — or-ripple-as-court-speeds-up-xrp-lawsuit-judgment/ [https://perma.cc/P47C-2VSM].
2. SEC Charges Ripple and Two Executives with Conducting $1.3 Billion Unregistered Securities O —

ering, U.S. SEC. & EXCH. COMM’N (Dec. 22, 2020), https://www.sec.gov/newsroom/press-releases/2020-338 [https://perma.cc/A5RU-DEX3].

1. Who Regulates Whom? An Overview o

   the U.S. Financial Regulatory Framework, CONG. RSCH. SERV., R44918, at 1, https://crsreports.congress.gov/product/pd — /R/R44918/8 [https://perma.cc/4Q6D-QZC4] (updated Mar. 10, 2020).

2. Financial Regulation: Complex and Fragmented Structure Could Be Streamlined to Improve E —

ectiveness, U.S. GOV’T ACCOUNTABILITY OFF., GAO-16-175, at 1 (Feb. 25, 2016), https://www.gao.gov/products/gao-16-175 [https://perma.cc/QY28-43XH].

1. Sandeepa Kaur et al., Risk Analysis in Decentralized Finance (DeFi): A Fuzzy-AHP Approach, 25 RISK MGMT. 13, 12–13 (2023), https://doi.org/10.1057/s41283-023-00118-0 [https://perma.cc/S6FC- 6BN7]. 2025] FUNCTION OVER FORM 33

less equipped to address the decentralized and borderless nature o

DeFi plat — orms, o — ten resulting in regulatory overlap and en — orcement gaps.166 As mentioned above, the Ripple decision underscores the urgent need

or clearer regulatory guidelines.167 The case exposed signi — icant gaps in the SEC’s approach, particularly the lack o — preemptive clarity regarding which assets quali — y as securities.168 This regulatory uncertainty creates ine —

iciencies, — orcing both market participants and courts to rely on case-by-case litigation to resolve ambiguities—a process that sti — les innovation and burdens the judiciary.169

3. Post-Loper Bright Challenges: Restrictions on Agency
Adaptability

The Loper Bright Enterprises v. Raimondo decision  --- urther illustrates U.S. regulatory agencies’ challenges in adapting to rapidly evolving technologies.170 By overturning the Chevron de --- erence doctrine, which allowed courts to de --- er to  --- ederal agencies’ interpretations o ---  ambiguous statutes, Loper Bright has shi --- ted the balance o ---  interpretive authority  --- rom agencies to the judiciary.171 This shi --- t introduces greater uncertainty  --- or

1. Blockchain in Finance: Legislative and Regulatory Actions Are Needed to Ensure Comprehensive Oversight o — Crypto Assets, U.S. GOV’T ACCOUNTABILITY OFF., GAO-23-105346, at 2, 41 (2023).

2. Jacquelyn Melinek, Ripple’s XRP Case ‘Underscores the Need

   or Regulatory Clarity’, TECHCRUNCH (July 19, 2023), https://techcrunch.com/2023/07/19/ripple-xrp-court-ruling/ [https://perma.cc/T6LJ-RDMQ].

3. James Lockwood et al., Decentralised Finance (DeFi): Litigation Risk and Sa — eguards, NORTON ROSE FULBRIGHT BLOG (Sep. 24, 2024), https://www.nortonrose — ulbright.com/en/inside-disputes/blog/202409- decentralised- — inance-de — i-litigation-risk-and-sa — eguards [https://perma.cc/AK87-NMRH].

4. Jenni

   er J. Schulp, Dazed and Con — used: Breaking Down the SEC’s Politicized Approach to Digital Assets, CATO INST. TESTIMONY (Sep. 17, 2024), https://www.cato.org/testimony/dazed-con — used-breaking-down-secs- politicized-approach-digital-assets# [https://perma.cc/F2WY-YUDX].

5. Loper Bright Enter. v. Raimondo, 603 U.S. 369 (2024). Sean Marotta & Danielle Desaulniers Stempel, Loper Bright Enterprises v. Raimondo: Decision Summary, HOGAN LOVELLS BLOG (July 11, 2024), https://www.hoganlovells.com/en/publications/loper-bright-enterprises-v- raimondo-decision-summary [https://perma.cc/CG5E-XSJK ].

6. Amy Howe, Supreme Court Strikes Down Chevron, Curtailing Power o

Federal Agencies, SCOTUSBLOG (June 28, 2024), https://www.scotusblog.com/2024/06/supreme-court-strikes-down- 34 LOUISIANA LAW REVIEW [Vol. 86

DeFi plat

orms, as courts may now independently interpret statutes without relying on agency expertise.172 The absence o — a clear regulatory

ramework could lead to inconsistent judicial decisions, creating a

ragmented legal environment that hinders innovation and compliance within the DeFi sector.173 In this context, establishing a — unction-based sa — e harbor — ramework becomes increasingly vital. Such a — ramework would provide DeFi plat — orms with clear guidelines, reducing the risk o — unpredictable judicial interpretations. By — ocusing on the economic — unctions o — DeFi activities rather than their — orm, this approach o —

ers a more adaptable and precise regulatory structure. Moreover, a — unction-based sa — e harbor aligns with the Court’s emphasis on judicial independence by o —

ering a structured basis — or courts to assess DeFi activities.174 This alignment ensures that regulatory oversight remains consistent and predictable, even as interpretive authority shi — ts — rom agencies to the judiciary. The Loper Bright ruling underscores the limitations on agencies’ authority to create or adapt regulations without clear congressional delegation.175 Such a — ramework would mitigate the uncertainties

chevron-curtailing-power-o

- — ederal-agencies/ [https://perma.cc/F6KW- LX8G].

1. Matthew Daly, What It Means

   or the Supreme Court to Throw Out Chevron Decision, Undercutting Federal Regulators, ASSOCIATED PRESS (June 28, 2024), https://apnews.com/article/supreme-court-chevron-regulations- environment-4ae73d5a79cabad —

4da8 — 7e16669929 [https://perma.cc/W7MN- 59WB].

1. Deborah Sivas, Stan

   ord’s Deborah Sivas on SCOTUS Loper Decision Overturning Chevron’s 40 Years o — Precedent and Its Impact on Environmental Law, STAN. REP. (June 28, 2024), https://news.stan — ord.edu/stories/2024/06/stan — ords-deborah-sivas-on- scotus-loper-decision-overturning-chevrons-40-years-o — -precedent-and-its- impact-on-environmental-law [https://perma.cc/5C26-HN4C].

2. Danielle Bra

, Landmark Chevron Decision Was Overturned; What Happens Now?, ABA J. (Oct. 14, 2024), https://www.abajournal.com/web/article/chevron-was-overturned-now- what [https://perma.cc/PFK8-S4Y2].

1. Stuart M. Gerson & Robert E. Wanerman, Supreme Court Alters the Administrative State: Loper and Relentless Decision Shi — ts Authority — rom Administrative Agencies and Creates Uncertainty, EPSTEIN BECKER & GREEN INSIGHTS (July 25, 2024), https://www.ebglaw.com/insights/publications/supreme-court-alters-the- administrative-state-loper-and-relentless-decision-shi — ts-authority- — rom- 2025] FUNCTION OVER FORM 35

introduced by the Court’s ruling,

ostering a stable environment that encourages innovation while ensuring compliance.176 In the context o —

DeFi, this ruling presents a signi

icant barrier to e —

ective regulation, as regulatory agencies may lack the agility needed to keep pace with the

ast-moving DeFi space.177 This stagnation leaves DeFi projects in a state o — regulatory uncertainty, which can hinder innovation and prevent the development o — a robust regulatory — ramework that addresses the unique risks associated with DeFi.178

B. Establishing a Function-Based Sa

e Harbor Framework

Given the shortcomings o ---  traditional regulatory  --- rameworks in addressing the decentralized and multi --- aceted nature o ---  DeFi, a new, more adaptable approach is necessary.179 This Article proposes the creation o ---  a

unction-based sa — e harbor — ramework that moves away — rom rigid legal classi — ications and — ocuses on the economic — unctions o — tokens and plat — orms. Instead o — categorizing DeFi tokens based on their — orm—such as securities or commodities—this — ramework would assess the role o — the tokens within the ecosystem, such as whether they — acilitate governance, incentivize liquidity provision, or act as collateral — or decentralized lending.180 This shi — t — rom — orm-based regulation to — unction-based regulation has several key advantages. It allows regulators to approach DeFi in a more nuanced way, enabling them to — ocus on the economic activity taking place

administrative-agencies-and-creates-uncertainty [https://perma.cc/685B- 4YRR].

1. Andrew Singer, Supreme Court Ruling ‘Changes the Game’

   or US Crypto Firms, COINTELEGRAPH (July 11, 2024), https://cointelegraph.com/news/supreme-court-us-crypto-chevron [https://perma.cc/2GM3-SWMK].

2. Id.

3. Jonathan Obeda, Rede

   ining Boundaries in Administrative Law: How the Loper Bright Decision Could Reshape Crypto Regulation, DEFI EDUC. FUND BLOG (Jan. 26, 2024), https://www.de — ieducation — und.org/post/rede — ining- boundaries-in-administrative-law-how-the-loper-bright-decision-could-reshape- crypto-regu [https://perma.cc/LB85-XZ4W].

4. Simon Nwagbala & Peter Nwankwo, Decentralized Finance (DeFi) Risks and Regulation: An Investigative Analysis, 8 ADV. J. BNK. FIN. & INV. 20, 21–22 (2024).
5. Grayscale Investments, A Report on Decentralized Finance (DeFi), GRAYSCALE RSCH. (Oct. 27, 2021), https://www.grayscale.com/research/reports/a-report-on-decentralized-

inance-de — i [https://perma.cc/E8CD-P5B2]. 36 LOUISIANA LAW REVIEW [Vol. 86

within the ecosystem rather than trying to apply outdated legal categories. Moreover, this approach would allow — or greater — lexibility, ensuring that DeFi plat — orms are regulated in a way that is responsive to their evolving nature while still ensuring investor protection, market integrity, and

inancial stability. The sa — e harbor aspect o — the — ramework provides a mechanism — or compliance incentives. DeFi plat — orms that meet certain standards, such as conducting regular security audits, implementing user protection measures, like KYC and AML protocols, and providing transparent governance structures, would quali — y — or sa — e harbor protection. These measures ensure that the regulation does not sti — le innovation but instead

osters an environment where DeFi can grow responsibly within a secure regulatory environment.

 1. From Form to Function: Addressing the Economic Realities o ---

 DeFi

The traditional regulatory approach has long relied on de --- ining

inancial products by their — orm—categorizing them as securities, commodities, currencies, or derivatives based on certain characteristics or legal precedents.181 While this system provides clarity and structure — or conventional — inancial markets, it — ails to accommodate the complex, multi — aceted nature o — DeFi plat — orms.182 The rise o — DeFi, with its tokenized ecosystems and smart contract-powered plat — orms, demands a shi — t in regulatory thinking, one that — ocuses less on rigid categories and more on the economic — unctions these plat — orms per — orm within the broader — inancial system.183 The core o — DeFi plat — orms lies in their economic utility, which o — ten spans multiple — inancial roles within a single plat — orm.184 For example, a

1. Marc Labonte, Introduction to Financial Services: The Regulatory Framework, CONG. RSCH. SERV., IF11065, at 1 (updated Jan. 5, 2023), https://crsreports.congress.gov/product/pd — /IF/IF11065 [https://perma.cc/735K-9XJP].
2. Zetzsche, supra note 78, at 172–203.

3. Alim Al Ayub. Ahmed, The Rise o

   DeFi: Trans — orming Traditional Finance with Blockchain Innovation, PREPRINTS (Feb. 13, 2024), https://doi.org/10.20944/preprints202402.0738.v1 [https://perma.cc/D8ER-FZ37].

4. Unide

   , Decentralization: A Paradigm Shi — t in the Financial Landscape, MEDIUM (July 27, 2023), https://blog.unide — .org/decentralization-a-paradigm- shi — t-in-the- — inancial-landscape- — 51371d32020 [https://perma.cc/TV7S- 6MJY]. 2025] FUNCTION OVER FORM 37

DeFi token might serve as a governance token that allows holders to vote on proposals a —

ecting the protocol, but it could also act as collateral in decentralized lending plat — orms or — unction as a liquidity incentive — or users who contribute to DEXs.185 These tokens o — ten do not — it neatly into traditional — inancial classi — ications like equities or derivatives, leading to con — usion and regulatory uncertainty.186 In contrast to the traditional — orm-based approach, the — unction-based sa — e harbor — ramework proposed recognizes that the economic reality o — a token should guide its regulatory treatment. Rather than — orcing DeFi plat — orms into pre-existing categories, regulators would assess the actual economic — unction a token per — orms within the ecosystem. I — the primary role o — a token is to — acilitate governance in a decentralized protocol, the regulatory — ocus would be on ensuring the plat — orm’s transparency and — air governance rather than imposing traditional securities laws. I — the token is used to incentivize liquidity provision, the — ocus would shi — t to how liquidity is managed and whether the plat — orm ensures — air access and market stability. This — ocus on — unctionality allows — or a more tailored and adaptive regulatory approach. In the traditional model, a token might be considered a security simply because it can be traded on secondary markets or generate pro — it — or holders, even i — its primary purpose is governance or

acilitating dApps.187 The — unction-based — ramework, however, — ocuses on the token’s purpose and how it interacts with the broader DeFi ecosystem. This shi — t would enable regulators to examine whether the token supports innovation and economic activity, rather than whether it meets speci — ic legal de — initions o — a security, commodity, or currency. A — unction-based approach not only aligns more closely with the economic realities o — DeFi but also ensures that regulation evolves in

1. Sankrit K, What Are Governance Tokens and How Do They Work?, MOONPAY (Dec. 17, 2023), https://www.moonpay.com/learn/de — i/what-are- governance-tokens [https://perma.cc/LE7E-J8CN].

2. Jack Solowey & Jenni

   er J. Schulp, Regulatory Clarity — or Crypto Marketplaces Part I: Decentralized Exchanges, CATO INST. BRIEFING PAPER NO. 154 (May 10, 2023), https://www.cato.org/brie — ing-paper/regulatory-clarity- crypto-marketplaces-part-i-decentralized-exchanges [https://perma.cc/U2KL- 2QC2].

3. Marco Cavicchioli, A US Judge Rules in Favor o

   the SEC: Some Cryptos Would Be Security Tokens, CRYPTONOMIST (Mar. 7, 2024), https://en.cryptonomist.ch/2024/03/07/a-us-judge-rules-in- — avor-o — -the- sec-some-cryptos-would-be-security-tokens/ [https://perma.cc/YJ33-EFL6]. 38 LOUISIANA LAW REVIEW [Vol. 86

tandem with innovation.188 DeFi plat

orms are rapidly evolving, and the constant emergence o — new — inancial products—such as synthetic assets, yield — arming, and stablecoins—makes it di —

icult — or regulatory authorities to apply outdated legal categories.189 By — ocusing on the economic role o — the asset or plat — orm, regulators can more e —

ectively address emerging technologies without sti — ling innovation. Furthermore, shi — ting to a — unction-based — ramework allows regulators to — ocus on a plat — orm’s intended outcomes rather than its legal structure. This shi — t is crucial in a space where the lines between traditional — inance and new dApps are increasingly blurred.190 Plat — orms that are designed to promote — inancial inclusion or peer-to-peer lending should be regulated based on the economic impact they create rather than whether they — it into traditional — inancial paradigms. The sa — e harbor aspect o — this — ramework ensures that DeFi projects that meet these — unctional criteria—such as conducting regular security audits, ensuring user protections, and adhering to transparency standards—are not penalized — or their innovative models but instead incentivized to comply with basic regulatory sa — eguards. Ultimately, the shi — t — rom — orm-based to — unction-based regulation provides the — lexibility needed to accommodate the — ast-paced changes within the DeFi space. It allows regulators to — ocus on economic utility and ensure that DeFi plat — orms operate in ways that protect users, maintain market stability, and — oster innovation, all while remaining adaptable to

uture technological advancements.

 2. The Sa --- e Harbor Concept: Incentivizing Compliance and
 Innovation

The concept o ---  a sa --- e harbor has long been used in legal contexts to provide a protected space within which entities can operate without the threat o ---  en --- orcement or regulatory penalties, as long as they meet certain

1. Eric W. Hess, Bridging Policy and Practice: A Pragmatic Approach to Decentralized Finance, Risk, and Regulation, 128 PENN ST. L. REV. 347, 355 (2024).

2. Petar Radanliev, The Rise and Fall o

   Cryptocurrencies: De — ining the Economic and Social Values o — Blockchain Technologies, Assessing the Opportunities, and De — ining the Financial and Cybersecurity Risks o — the Metaverse, 10 FIN. INNOVATION 3 (2024), https://doi.org/10.1186/s40854-023- 00537-8 [https://perma.cc/ZY8P-JFTQ].

3. Natalie Luu, DeFi-ing the Rules o

   Traditional Finance, LIGHTSPEED VENTURE PARTNERS (June 23, 2021), https://medium.com/lightspeed-venture- partners/de — i-ing-the-rules-o — -traditional- — inance-39176e785947 [https://perma.cc/FDV6-UNHR]. 2025] FUNCTION OVER FORM 39

established criteria.191 In the context o

DeFi, the introduction o — a

unction-based sa — e harbor — ramework o —

ers a power — ul mechanism — or incentivizing compliance while promoting responsible innovation.192 This concept allows DeFi projects to continue developing groundbreaking

inancial technologies without — ear o — sti — ling regulation, provided the projects adhere to a set o — clear standards that prioritize user protection, market stability, and security.193 A core element o — the — unction-based sa — e harbor — ramework is the recognition that DeFi projects are unique and o — ten operate outside traditional — inancial systems.194 In light o — this element, the sa — e harbor concept o —

ers a regulatory path that is both — lexible and aligned with the unique characteristics o — decentralized plat — orms.195 By — ocusing on the economic — unction that a DeFi plat — orm or token serves, rather than — orcing these entities into rigid legal classi — ications, the — ramework encourages innovation while ensuring that plat — orms operate responsibly and in a way that is transparent and secure — or users.196 One o — the most compelling aspects o — the sa — e harbor concept is its ability to incentivize compliance by o —

ering tangible bene — its to plat — orms that meet certain regulatory benchmarks.197 These benchmarks could include regular security audits, transparency in governance, compliance with KYC and AML practices, and clear disclosures regarding risks to users and investors. By o —

ering regulatory certainty, DeFi plat — orms can engage in long-term planning, knowing that they will not be subjected to

1. Sa

   e Harbor - Meaning in Law and Legal Documents, Examples and FAQs, LEGALBRIEF AI, https://www.legalbrie — ai.com/legal-terms/in — ormation [https://perma.cc/EK2R-M7NS] (last visited Nov. 30, 2024).

2. J. (Jay) T. Westermeier, Recent “Sa

   e Harbor” Rulings in the United States, COMPUT. & TELECOMM. L. REV., https://www. — innegan.com/en/insights/articles/recent-sa — e-harbor-rulings- in-the-united-states.html [https://perma.cc/DK8Q-XR4V] (2011).

3. See Hester M. Pierce, Token Sa

   e Harbor Proposal 2.0, SEC (Apr. 13, 2021), https://www.sec.gov/newsroom/speeches-statements/peirce-statement- token-sa — e-harbor-proposal-20 [https://perma.cc/PM93-CCW4] (expressing that sa — e harbors can — acilitate participation in the development o — a pre-

unctional network).

1. Campbell R. Harvey & Daniel Rabetti, International Business and Decentralized Finance, 55 J. INT’L BUS. STUD. 840 (2024).
2. Peirce, supra note 92.

3. Crypto Council

   or Innovation, supra note 74.

4. The Clock Is Ticking: DOJ Announces New, Department-Wide Mergers & Acquisitions Sa — e Harbor Policy, Advisory, ALSTON & BIRD LLP (Oct. 9, 2023), https://www.alston.com/en/insights/publications/2023/10/doj-new- mergers-acquisitions-sa — e-harbor-policy [https://perma.cc/CS8K-6UBV]. 40 LOUISIANA LAW REVIEW [Vol. 86

arbitrary en

orcement actions as long as they remain in compliance with the guidelines set — orth by the sa — e harbor.198 This certainty is vital — or

ostering a sustainable and trusted DeFi ecosystem.199 The sa — e harbor — ramework also ensures that DeFi projects are not unduly burdened by regulatory requirements that are out o — sync with operational realities.200 Traditional — inancial regulations, such as those applied to centralized — inancial institutions, may be ill-suited to DeFi’s decentralized and rapidly evolving nature.201 Instead o — applying one-size- — its-all rules, the — unction-based sa — e harbor allows — or tailored regulation based on the speci — ic activities o — each DeFi plat — orm. This approach ensures that regulatory oversight is both appropriate and proportional, providing clear guidelines while allowing DeFi plat — orms the

lexibility to innovate and grow. For example, DeFi plat — orms that adhere to strong governance protocols, demonstrate security best practices, and implement user protections would be eligible — or sa — e harbor protection.202 This protection would allow them to operate with con — idence, knowing that they are compliant with regulatory expectations, and avoid the regulatory burden that might otherwise slow innovation.203 By contrast, projects that — ail to meet these standards would not be a —

orded sa — e harbor protection, thus incentivizing plat — orms to adopt sound practices that ensure market integrity and user security. This incentivization structure makes the sa — e harbor — ramework both a carrot and a stick, encouraging compliance without undermining the incentives — or innovation.

1. FM Contributors, DeFi’s Legal and Regulatory Challenges: Navigating the Gray Areas, FIN. MAGNATES (July 7, 2023), https://www. — inancemagnates.com/cryptocurrency/regulation/de — is-legal- and-regulatory-challenges-navigating-the-gray-areas/ [https://perma.cc/Z4DE- 4ZBR].
2. Matt Powell, DeFi Developments: A Comprehensive Overview, CPO MAG. (Apr. 22, 2024), https://www.cpomagazine.com/digital/de — i- developments-a-comprehensive-overview/ [https://perma.cc/TEL9-CADC].
3. As DeFi Matures, U.S. Financial Regulatory Questions Loom Large, CLIFFORD CHANCE (Sep. 2020), https://www.cli —

ordchance.com/brie — ings/2020/09/as-de — i-matures–us-

inancial-regulatory-questions-loom-large.html [https://perma.cc/TC7C- DHXV]; Uzougbo, supra note 11.

1. Id.

2. Cryptopedia Sta

, DeFi Governance in Action, GEMINI CRYPTOPEDIA (Mar. 10, 2022), https://www.gemini.com/cryptopedia/de — i-solutions- decentralized-governance-meaning [https://perma.cc/SR7L-CFV2].

1. Id. 2025] FUNCTION OVER FORM 41

 Another key bene --- it o ---  the sa --- e harbor is that it provides clear guidelines  --- or DeFi plat --- orms that are o --- ten navigating uncertain regulatory environments.204 As DeFi continues to grow, clarity is essential

or the industry’s sustainability.205 Uncertainty about what is considered legal or illegal can drive projects to relocate to jurisdictions with more lenient regulations, potentially causing a — ragmentation o — the ecosystem.206 The sa — e harbor concept encourages uni — orm standards while allowing — lexibility in how those standards are met, which can help avoid regulatory arbitrage and promote the global growth o — the DeFi space.207 Finally, the sa — e harbor concept also provides long-term sustainability

or the DeFi ecosystem by encouraging plat — orms to sel — -regulate and be proactive in their compliance e —

orts.208 Instead o — relying solely on government agencies — or oversight, DeFi plat — orms that participate in the sa — e harbor — ramework would be actively incentivized to establish their own internal compliance measures and take responsibility — or their legal and ethical obligations.209 This sel — -regulation aligns with the decentralized ethos o — the DeFi space, where the community takes on a greater role in ensuring that the ecosystem remains robust, secure, and innovative.210

1. IndustryTrends, Decentralised Finance (DeFi): Opportunities, Challenges and Policy Implications, ANALYTICS INSIGHT (Nov. 5, 2024, 1:26 AM), https://www.analyticsinsight.net/de — i/decentralised- — inance-de — i- opportunities-challenges-and-policy-implications [https://perma.cc/49TX- SJG3].

2. Robert D. Knight, Key Industry Figures Predict the Future o

   DeFi in 2024, COINTELEGRAPH (Dec. 23, 2023), https://cointelegraph.com/news/key- predictions- — uture-o — -de — i-2024 [https://perma.cc/F7EE-AE7P].

3. Szymon Białas, MiCA Regulations and Their Impact on the Crypto Industry, ULAM LABS BLOG (Nov. 7, 2024), https://www.ulam.io/blog/mica- regulations-and-their-impact-on-the-crypto-industry [https://perma.cc/X8MM- 99J4]; Crypto Regulation: How the Governments Are Shaping the Future o —

Digital Currencies, COIN360 (Sep. 12, 2024), https://coin360.com/learn/global- crypto-regulation [https://perma.cc/6WU2-LCXV].

1. Bialas, supra note 182.

2. Sa

   e Harbor Law: Everything You Need to Know, UPCOUNSEL, https://www.upcounsel.com/sa — e-harbor-law [https://perma.cc/99MX-4EWQ] (updated Sep. 19, 2022).

3. Id.
4. Luc Muhizi, Decentralized Governance: How Community Drives DeFi, MEDIUM (Dec. 9, 2023), https://medium.com/@luc_muhizi/decentralized- governance-how-community-drives-de — i-216 — 4c39ab50 [https://perma.cc/AC8Z-Z9ZC]. 42 LOUISIANA LAW REVIEW [Vol. 86

In sum, the sa --- e harbor concept is not only a tool  --- or providing regulatory clarity but also a mechanism  --- or incentivizing DeFi plat --- orms to operate responsibly while continuing to push the boundaries o ---

inancial innovation.211 It allows — or a regulatory approach that — osters innovation, market stability, and investor protection, ensuring that DeFi projects can thrive in a secure and sustainable environment.212

 3. How the Framework Addresses DeFi-Speci --- ic Risks

The  --- unction-based sa --- e harbor  --- ramework is not only designed to incentivize responsible development and regulatory compliance, but it also o ---

ers an e —

ective approach to managing the unique risks associated with DeFi plat — orms.213 By addressing these risks directly, the — ramework ensures that innovation within the DeFi space can occur within a structure that promotes security, transparency, market stability, and user protection.214 DeFi’s decentralized nature, rapid evolution, and reliance on smart contracts present several distinct risks that need to be mitigated — or the broader ecosystem to thrive.215 This section discusses how the

ramework addresses three o — the most critical DeFi-speci — ic risks: technical vulnerabilities, en — orcement challenges, and cross-border regulatory issues.

1. Josias N. Dewey & Samir Patel, Blockchain & Cryptocurrency Laws and Regulations 2025: USA, GLOB. LEGAL INSIGHTS (2024), https://www.globallegalinsights.com/practice-areas/blockchain-cryptocurrency- laws-and-regulations/usa [https://perma.cc/X53G-22C9].

2. Jeanna M. Wacker et al., Navigating the Murky Waters o

   the Hatch- Waxman ‘Sa — e Harbor’, N.Y. L.J. (Sep. 13, 2022), https://www.kirkland.com/publications/article/2022/09/navigating-the- murky-waters-o — -the-hatch-waxman-sa — e-harbor [https://perma.cc/CHG9- 9U24]; see also 17 U.S.C. § 512 (establishing DMCA sa — e harbor provisions, which have success — ully — ostered innovation in digital plat — orms by balancing liability protection with copyright en — orcement).

3. Tim Weingärtner et al., Deciphering DeFi: A Comprehensive Analysis and Visualization o — Risks in Decentralized Finance, 16 J. RISK & FIN. MGMT. 454 (2023), https://doi.org/10.3390/jr — m16100454 [https://perma.cc/6QB5- CBVQ].
4. Id.

5. Joseph Abadi, Making Sense o

   Decentralized Finance: What Is DeFi? And How Does It Di —

er — rom Traditional Finance?, FED. RSRV. BANK OF PHILA., ECON. INSIGHTS, at 18 (Q1 2024), https://www.philadelphia — ed.org/- /media/ — rbp/assets/economy/articles/economic-insights/2024/q1/eiq124-making- sense-o — -decentralized- — inance.pd — [https://perma.cc/6VTR-5J8J]. 2025] FUNCTION OVER FORM 43

a. Technical Risks

One o ---  the most signi --- icant risks  --- acing the DeFi ecosystem lies in the technical vulnerabilities o ---  smart contracts—the code that governs transactions on blockchain plat --- orms.216 While smart contracts are designed to automatically execute based on prede --- ined conditions, bugs or vulnerabilities in the code can lead to devastating consequences, including loss o ---

unds, hacks, and exploits.217 DeFi plat — orms are particularly vulnerable to these risks because o — the decentralized nature o — the protocols, which may lack traditional oversight mechanisms like human intermediaries or centralized auditing processes.218 The — unction-based sa — e harbor — ramework directly addresses this risk by incorporating mandatory security audits as a key requirement — or DeFi plat — orms seeking sa — e harbor protection.219 These audits, per — ormed by independent third parties, help identi — y potential vulnerabilities in smart contracts and ensure that plat — orms secure their code against common exploits, such as reentrancy attacks or integer over — lows.220 In addition to audits, the — ramework encourages the implementation o — bug bounty programs, incentivizing the broader developer community to actively search — or and report security — laws.221 By creating a clear regulatory path

or plat — orms that conduct regular audits and engage in security practices, the — ramework encourages proactive risk management that sa — eguards users and the ecosystem.222

1. Sha

   aq Naheed Khan et al., Blockchain Smart Contracts: Applications, Challenges, and Future Trends, 14 PEER-TO-PEER NETWORKING & APPLICATIONS 2901, 2901–25 (2021), https://doi.org/10.1007/s12083-021- 01127-0 [https://perma.cc/JU39-8SEW].

2. Metla Team, Smart Contracts Explained: Easy Guide, METLA BLOG, https://metla.com/blog/smart-contracts-explained-easy-guide [https://perma.cc/J7CY-LZR4] (last visited July 30, 2025).

3. Vimal Mani, Assessing the Short

   alls o — DeFi Plat — orms, 5 ISACA J. (Sep. 27, 2023), https://www.isaca.org/resources/isaca- journal/issues/2023/volume-5/assessing-the-short — alls-o — -de — i-plat — orms [https://perma.cc/ED4V-HZUG].

4. Thomas Bourveau et al., Decentralized Finance (DeFi) assurance: early evidence, 29 REV. ACCT. STUD. 2209, 2216–19 (2024).
5. Id.
6. Christos A. Makridis, Crypto Audits and Bug Bounties Are Broken: Here’s How to Fix Them, COINTELEGRAPH MAG. (Apr. 6, 2023), https://cointelegraph.com/magazine/de — i-security-audits-bug-bounties- broken-heres-how- — ix/ [https://perma.cc/VR4M-TTVL].
7. Khan, supra note 192. 44 LOUISIANA LAW REVIEW [Vol. 86

Moreover, the  --- ramework encourages user education as an additional sa --- eguard, ensuring that users are aware o ---  the risks involved in interacting with decentralized plat --- orms and that they are equipped to make in --- ormed decisions. This sa --- eguard, in turn, promotes a more secure and trustworthy DeFi environment where users are less likely to  --- all victim to scams or poorly designed smart contracts.

 b. En --- orcement Risks

 The decentralized nature o ---  DeFi presents a unique challenge  --- or en --- orcement.223 Unlike traditional  --- inancial institutions, DeFi plat --- orms do not have a central entity or identi --- iable individual to hold accountable in the event o ---  a violation.224 Furthermore, the pseudonymous or anonymous nature o ---  blockchain transactions adds an additional layer o ---  complexity to en --- orcement, making it di ---

icult — or regulators to trace illicit activities or ensure compliance with regulatory requirements.225 This complexity creates signi — icant challenges — or traditional regulatory authorities, which are accustomed to interacting with clearly de — ined entities and centralized institutions.226 The — unction-based sa — e harbor — ramework addresses these en — orcement challenges by incentivizing sel — -regulation through ĐAOs.227 ĐAOs provide a mechanism — or the community o — DeFi users, developers, and stakeholders to govern and en — orce rules within a plat — orm.228 This

1. Ngozi Samuel Uzougbo et al., International En

   orcement o —

Cryptocurrency Laws: Jurisdictional Challenges and Collaborative Solutions, 11 MAGNA SCIENTIA ADVANCED RSCH. & REVS. 68, 68–83 (2024).

1. Olawale Adisa et al., Decentralized Finance (DEFI) in the U. S. Economy: A Review: Assessing the Rise, Challenges, and Implications o —

Blockchain-Driven Financial Systems, 21 WORLD J. ADVANCED RES. & REV. 2313, 2313–28 (2024).

1. Jesse Anglen, DeFi vs. Traditional Finance: A Comprehensive Comparison, RAPID INNOVATION, https://www.rapidinnovation.io/post/de — i-vs- traditional- — inance-comprehensive-comparison [https://perma.cc/6FJU- M3NC] (last visited July 3, 2025).
2. Truchet, supra note 60, at 71–75.
3. Jihye Choi, DAOs: Empowering the Community to Build Trust in the Digital Age, HEXLANT (Feb. 10, 2022), https://stan — ord- jblp.pubpub.org/pub/dao/release/1 [https://perma.cc/PX9Y-9MJQ].
4. Jesse Anglen, DAOs Explained: Ultimate Guide to Decentralized Autonomous Organizations, RAPID INNOVATION, https://www.rapidinnovation.io/post/daos-explained-ultimate- guide-to-decentralized-autonomous-organizations [https://perma.cc/VHS7- XUE9] (last visited July 3, 2025). 2025] FUNCTION OVER FORM 45

decentralized governance model not only aligns with the ethos o

DeFi but also creates a system where community accountability can complement traditional regulatory oversight.229 ĐAOs can be used to establish dispute resolution mechanisms, ensure compliance with the sa — e harbor’s requirements, and address potential violations without the need — or centralized authority.230 Furthermore, the — ramework encourages international collaboration between DeFi plat — orms and regulators, — ostering cross-border en — orcement protocols that ensure compliance across jurisdictions. By promoting this cooperation, the — ramework mitigates the challenges posed by DeFi’s global and decentralized nature, making it easier to en — orce regulations and hold bad actors accountable, regardless o — where they are located.

c. Cross-Border Risks

 DeFi plat --- orms operate in a global landscape, with users and developers spanning multiple jurisdictions.231 This landscape introduces signi --- icant jurisdictional challenges  --- or regulators, as DeFi plat --- orms o --- ten have no clear geographic boundaries and may operate across multiple countries with di ---

erent regulatory regimes.232 This — ragmentation o —

regulatory authority can lead to issues such as regulatory arbitrage, where plat — orms move to more — avorable jurisdictions to avoid compliance with stricter regulations.233 The — unction-based sa — e harbor — ramework seeks to address these cross-border challenges by encouraging international regulatory cooperation and the development o — harmonized standards — or DeFi plat — orms. Rather than relying solely on national or regional regulatory bodies, the — ramework supports the creation o — global standards that can be adopted and implemented by jurisdictions worldwide. Through these

1. André Guskow Cardoso, Decentralized Autonomous Organizations - DAOs: The Convergence o — Technology, Law, Governance, and Behavioral Economics, PUB, (Nov. 20, 2023), https://law.mit.edu/pub/decentralizedautonomousorganizations/release/1 [https://perma.cc/A9DS-W2YH].
2. Id.
3. Roomy Khan, DeFi – Financial Alchemy in a Trillion-Dollar Market, FORBES (Aug. 7, 2024), https://www. — orbes.com/sites/roomykhan/2024/08/07/de — i– — inancial- alchemy-in-a-trillion-dollar-market/ [https://perma.cc/ZA8J-ZVXM].
4. Salami, supra note 61.
5. Id. 46 LOUISIANA LAW REVIEW [Vol. 86

standards, DeFi plat

orms can adhere to consistent compliance and security measures that apply across borders, reducing the risk o —

ragmented oversight and regulatory arbitrage.234 Moreover, the — ramework’s — ocus on — unctionality rather than — orm allows regulators to evaluate DeFi plat — orms based on their economic roles rather than their geographic location or legal structure.235 This — ramework makes it easier — or plat — orms to comply with international regulations, while also ensuring that the plat — orms meet the same core regulatory standards, regardless o — where they operate.236

C. Integrating These Sa

eguards into a Comprehensive Framework

 The  --- unction-based sa --- e harbor  --- ramework e ---

ectively integrates these sa — eguards—technical audits, sel — -regulation via ĐAOs, and international cooperation—to create a cohesive system that addresses DeFi-speci — ic risks.237 By — ocusing on the — unctionality o — DeFi plat — orms and ensuring that they meet essential compliance requirements, this — ramework o —

ers a balanced approach that encourages innovation while mitigating the risks that could undermine market stability and user trust. The proposed sa — eguards align with the goal o — promoting a secure, transparent, and accountable DeFi ecosystem, ensuring that plat — orms are incentivized to adopt best practices without sti — ling their ability to innovate.

         PART III. ADDRESSING SPECIFIC RISKS IN DEFI

DeFi has emerged as a trans --- ormative  --- orce within the global  --- inancial system, providing unprecedented access to  --- inancial services without the need  --- or traditional intermediaries.238 Alongside its potential  --- or

1. Jakob Brezigar, Regulatory Challenges in Crypto: Issues and Solutions, ORCABAY BLOG (Nov. 19, 2024), https://orcabay.io/blog/regulatory-challenges- in-crypto/ [https://perma.cc/5S2S-RY7S].
2. Alexandra Born et al., Decentralised Finance – A New Unregulated Non-Bank System?, EUROPEAN CENT. BANK MACROPRUDENTIAL BULLETIN (July 2022), https://www.ecb.europa.eu/press/ — inancial-stability- publications/macroprudential- bulletin/ — ocus/2022/html/ecb.mpbu202207_ — ocus1.en.html [https://perma.cc/7X3F-Y9ZJ].
3. Id.

4. The Financial Stability Risks o

   Decentralised Finance, FINANCIAL STABILITY BD. (Feb. 16, 2023), https://www. — sb.org/wp- content/uploads/P160223.pd — [https://perma.cc/W56R-YRXF].

5. Patrick Schue

el, DeFi: Decentralized Finance – An Introduction and Overview, 9 J. INNOVATION MGMT. NO. 3 I, I–II 2025] FUNCTION OVER FORM 47

innovation and economic empowerment, however, DeFi presents unique risks that require care — ul attention and e —

ective mitigation strategies.239 These risks, which span — rom technical vulnerabilities to market instability, threaten both individual users and the broader DeFi ecosystem.240 This section explores some o — the most pressing risks inherent in DeFi—including blockchain vulnerabilities, systemic market risks, and speci — ic risks associated with stablecoins—while proposing targeted mitigation strategies that are aligned with the — unction-based sa — e harbor — ramework.241

A. Mitigating Blockchain Vulnerabilities and Broader Market Risks

 DeFi plat --- orms are built on blockchain technology and smart contracts, which are o --- ten presented as immutable, transparent, and secure alternatives to traditional  --- inancial systems.242 While these  --- eatures have their advantages, they also introduce technical vulnerabilities that, i ---  le --- t unaddressed, can lead to signi --- icant losses or disruptions.243 Additionally,

(2021), https://doi.org/10.24840/2183-0606_009.003_0001 [https://perma.cc/XW4F-V9M4].

1. Francesca Carapella et al., Decentralized Finance (DeFi): Trans — ormative Potential and Associated Risks, FED. RSRV. BANK OF ATLANTA POL’Y HUB NO. 14–2022, (Oct. 2022), https://www.atlanta — ed.org/- /media/documents/research/publications/policy-hub/2022/10/18/14– decentralized- — inance-de — i–trans — ormative-potential-and-associated-risks.pd —

[https://perma.cc/C8CD-TF8U].

1. KHOULA AL HARTHY & APARNA AGARWAL, DECENTRALIZED FINANCE: THE IMPACT OF BLOCKCHAIN-BASED FINANCIAL INNOVATIONS ON ENTREPRENEURSHIP, DeFi Cybersecurity Technical and Nontechnical Risks, 133–49 (Sami Basly ed., Springer, Cham 2024), https://doi.org/10.1007/978-3-031-49515-1_8 [https://perma.cc/X2VH- DYHX].

2. The

   inancial stability risks o — decentralised — inance – Executive Summary, BANK FOR INT’L SETTLEMENTS (Aug. 31, 2023), https://www.bis.org/ — si/ — sisummaries/de — i.htm [https://perma.cc/CTN4- L285].

3. What Is Decentralized Finance (DeFi)?, BINANCE ACADEMY, https://academy.binance.com/en/articles/the-complete-beginners- guide-to-decentralized- — inance-de — i [https://perma.cc/ZGZ2-42LS] (updated July 8, 2024).
4. Siddhant Kejriwal, DeFi 101: What is Decentralized Finance and Why It’s Important, COINBUREAU (Feb. 15, 2024), https://coinbureau.com/education/what-is-de — i/ [https://perma.cc/MWH5-27A3]. 48 LOUISIANA LAW REVIEW [Vol. 86

DeFi’s interconnected nature creates broader market risks that extend beyond individual plat — orms.244

 1. Technical Vulnerabilities in DeFi

 Technical vulnerabilities lie at the heart o ---  DeFi risks, particularly in the smart contracts that underpin these plat --- orms.245 Unlike traditional

inancial systems where centralized entities maintain operational control, DeFi plat — orms rely on sel — -executing code to govern transactions, manage assets, and execute agreements.246 While this decentralized structure

osters transparency and innovation, it also introduces signi — icant risks, as the smallest — law in a smart contract can have catastrophic consequences.247 Smart contracts are immutable once deployed, meaning vulnerabilities in their code cannot be easily corrected a — ter launch.248 Exploits such as reentrancy attacks, logic errors, and unchecked inputs are common vectors

or attacks.249 The decentralized and pseudonymous nature o — these plat — orms — urther complicates mitigation e —

orts, as en — orcement mechanisms are limited and o — ten reactive.250 Two high-pro — ile

1. Wenkai Li et al., A Survey o

   DeFi Security: Challenges and Opportunities, 34 J. KING SAUD U. COMPUT. & INFO. SCIS. 10380 (2022).

2. QuillAudits Team, Smart Contract Vulnerabilities, Risks and How to Mitigate Them, QUILLAUDITS BLOG (Sep. 20, 2024), https://www.quillaudits.com/blog/smart-contract/smart-contract- vulnerabilities [https://perma.cc/9H48-4DP4].
3. Decentralized Finance vs. Traditional Finance: A Technical Comparison, UNVEST (Aug. 25, 2023), https://www.unvest.io/blog/decentralized- — inance-vs-traditional- — inance- a-technical-comparison [https://perma.cc/KV8J-Y79K].
4. Fabian Schär, Decentralized Finance: On Blockchain- and Smart Contract-Based Financial Markets, FED. RSRV. BANK ST. LOUIS REV. (Apr. 15, 2021), https://www.stlouis — ed.org/publications/review/2021/02/05/decentralized - — inance-on-blockchain-and-smart-contract-based- — inancial-markets [https://perma.cc/JZ2V-DWHU].
5. Usman Arda, What Are Smart Contracts? Everything You Need to Know, HACKEN BLOG, https://hacken.io/discover/what-are-smart-contracts/ [https://perma.cc/W4US-G8Q8] (updated Nov. 2024).
6. Bin Wang et al., DeFiScanner: Spotting DeFi Attacks Exploiting Logic Vulnerabilities on Blockchain, 11 IEEE TRANSACTIONS ON COMPUTATIONAL SOC. SYS. 1577 (2024), https://doi.org/10.1109/TCSS.2022.3228122 [https://perma.cc/D5KV-UM4X].

7. Sasha Shilina, The Future o

   Social Networking: Decentralization — or User Empowerment, Privacy, and Freedom — rom Censorship, PARADIGM 2025] FUNCTION OVER FORM 49

incidents—the ĐAO hack in 2016 and the Poly Network exploit in 2021— serve as stark illustrations o — these vulnerabilities.251 The ĐAO hack exposed the dangers o — insu —

icient testing and inadequate governance, with a single reentrancy vulnerability allowing an attacker to siphon $150 million in Ether.252 Similarly, the Poly Network exploit revealed how — laws in cross-chain interoperability contracts could be exploited to trans — er over $600 million in assets.253 These incidents underscore not only DeFi’s technical risks but also the systemic — ragility o — interconnected plat — orms and the en — orcement challenges posed by decentralized systems.254 These vulnerabilities highlight the urgent need — or a — unction-based regulatory — ramework.255 Such a — ramework would prioritize proactive measures like mandatory security audits, robust governance protocols, and incident response plans to address risks be — ore the issues escalate. By

ocusing on the speci — ic — unctions and risks o — DeFi operations, regulators can — oster innovation while sa — eguarding these plat — orms’ integrity.256 The technical risks inherent in DeFi plat — orms are vividly illustrated by two landmark incidents: the 2016 ĐAO hack and the 2021 Poly

(Nov. 6, 2023), https://medium.com/@sshshln/the-

uture-o — -social-networking- decentralization- — or-user-empowerment-privacy-and- — reedom- — rom- a0a8 — 74790cb [https://perma.cc/3K6X-EPCE].

1. Tommaso Gagliardoni, The Poly Network Hack Explained, KUDELSKI SEC. RSCH. (Aug. 12, 2021), https://research.kudelskisecurity.com/2021/08/12/the-poly-network-hack- explained/ [https://perma.cc/6VEE-JXKP].
2. Zubin Pratap, Reentrancy Attacks and The DAO Hack, CHAINLINK BLOG (Aug. 31, 2022), https://blog.chain.link/reentrancy-attacks-and-the-dao- hack/ [https://perma.cc/63U4-ACX7].

3. Gertrude Chavez-Drey

   uss & Michelle Price, How Hackers Stole $613 Million in Crypto Tokens — rom Poly Network, REUTERS, https://www.reuters.com/technology/how-hackers-stole-613-million- crypto-tokens-poly-network-2021-08-12/ [https://perma.cc/VYD2-A7VN] (updated Aug. 12, 2021).

4. Id.
5. Id.

6. Tara Chang et al., A Risk Classi

   ication Framework — or Decentralized Finance Protocols: Exploring Emerging Risks — or Insurers and Reinsurers, SOC’Y OF ACTUARIES RES. INST. (Sep. 2022), https://www.soa.org/4aa5bb/globalassets/assets/ — iles/resources/research- report/2022/decentralized- — inance-protocols.pd — [https://perma.cc/9GR6- 2PWC]. 50 LOUISIANA LAW REVIEW [Vol. 86

Network exploit.257 These case studies reveal not only the potential

or devastating — inancial losses but also the systemic — ragility and en — orcement challenges unique to decentralized systems.258

 a. The ĐAO Hack: Lessons in Governance and Smart Contract
 Security

 The ĐAO hack marked one o ---  the earliest and most signi --- icant breaches in the history o ---  DeFi.259 The ĐAO was a pioneering experiment in blockchain-based governance, enabling token holders to collectively vote on investment decisions through smart contracts.260 Un --- ortunately, the ĐAO’s code contained a critical reentrancy vulnerability that allowed an attacker to repeatedly withdraw  --- unds be --- ore the contract could update its balances.261 The exploit resulted in the the --- t o ---  approximately $50 million worth o ---  Ether.262
 This incident highlighted multiple weaknesses.263 First, it demonstrated the dangers o ---  insu ---

icient smart contract testing and auditing.264 The immutability o — blockchain systems meant that the — law could not be corrected once the ĐAO was deployed, leaving the plat — orm vulnerable to exploitation.265 Second, the ĐAO’s decentralized

1. Kraken Security Labs, Abusing Smart Contracts to Steal $600 Million: How the Poly Network Hack Actually Happened, KRAKEN BLOG (Sep. 22, 2021), https://blog.kraken.com/product/security/abusing-smart-contracts-to- steal-600-million-how-the-poly-network-hack-actually-happened [https://perma.cc/BE6R-7SEW].
2. Id.

3. Artem Minaev, The DAO Hack: Understanding the In

   amous Attack., CRYPTODOSE, https://cryptodose.net/learn/the-dao-hack/ [https://perma.cc/6UZS-6323] (updated June 13, 2023).

4. Carlos Santana & Laura Albareda, Blockchain and the Emergence o

Decentralized Autonomous Organizations (DAOs): An Integrative Model and Research Agenda, 182 TECH. FORECASTING & SOC. CHANGE 121806, 2–5 (2022).

1. Id.
2. Klint Finley, A $50 Million Hack Just Showed That the DAO Was All Too Human, WIRED (June 18, 2016, 4:30 AM), https://www.wired.com/2016/06/50-million-hack-just-showed-dao- human/ [https://perma.cc/F7UL-7X2B].
3. Id.
4. Id.
5. What is blockchain immutability?, BITSTAMP (Aug. 18, 2022), https://www.bitstamp.net/learn/security/what-is-blockchain-immutability/ [https://perma.cc/DM69-K9C2]. 2025] FUNCTION OVER FORM 51

governance structure complicated responses to the breach.266 With no central authority to act decisively, the Ethereum community ultimately implemented a contentious hard — ork to reverse the hacker’s transactions, creating a split between Ethereum (ETH) and Ethereum Classic (ETC).267 This decision raised signi — icant questions about the immutability o —

blockchain technology and the role o

community governance in addressing crises.268

b. The Poly Network Exploit: Interconnected Risks and Cross-Chain
Vulnerabilities

In 2021, the Poly Network exploit demonstrated how vulnerabilities in cross-chain interoperability contracts could threaten not just a single plat --- orm but the broader DeFi ecosystem.269 Poly Network, designed to enable asset trans --- ers across multiple blockchains, su ---

ered a breach in which an attacker exploited a — law in the logic o — its EthCrossChainManager contract.270 This vulnerability allowed the attacker to manipulate contract permissions and trans — er over $600 million in assets across ETH, Binance Smart Chain, and Polygon.271

1. Sen Li & Yan Chen, Governing Decentralized Autonomous Organizations as Digital Commons, 2024 J. BUS. VENTURING INSIGHTS ( — orthcoming), https://doi.org/10.2139/ssrn.4684441 [https://perma.cc/55JT-JU9Q].
2. Andy Rosen, Ethereum What It Is and How It Works, NERDWALLET: INVESTING (Mar. 25, 2025), https://www.nerdwallet.com/article/investing/ethereum [https://perma.cc/2VKY-95LY].
3. Joon Ian Wong & Ian Kar, Everything You Need to Know About the Ethereum “Hard Fork”, QUARTZ (July 18, 2016), https://qz.com/730004/everything-you-need-to-know-about-the- ethereum-hard- — ork [https://perma.cc/92VJ-5LPT].
4. Gagliardoni, supra note 227.

5. Poly Network Improves Interoperability by Expanding Support

   or zkSync Asset Bridging, GLOBENEWSWIRE (Mar. 2, 2023), https://www.globenewswire.com/news- release/2023/03/02/2620488/0/en/Poly-Network-Improves-Interoperability-by- Expanding-Support- — or-zkSync-Asset-Bridging.html [https://perma.cc/75PE- YFBQ].

6. Turner Wright, Hackers Stole at Least $600M in Poly Exploit Across Three Chains, COINTELEGRAPH (Aug. 10, 2021), https://cointelegraph.com/news/hackers-stole-at-least-600m-in-poly- exploit-across-three-chains [https://perma.cc/N5UB-HHRE]. 52 LOUISIANA LAW REVIEW [Vol. 86

Unlike the ĐAO hack, the Poly Network exploit showcased the risks o ---  interconnected DeFi plat --- orms.272 By targeting a cross-chain contract, the attacker exposed the systemic  --- ragility o ---  an ecosystem where plat --- orms rely heavily on one another  --- or  --- unctionality.273 The incident had the potential to destabilize the broader DeFi market, eroding user trust and liquidity.274 Poly Network’s decentralized structure also highlighted the en --- orcement challenges o ---  DeFi: rather than relying on legal or regulatory mechanisms, the protocol was to appeal directly to the hacker, who ultimately returned most o ---  the stolen  --- unds.275

 c. The Need  --- or Proactive Sa --- eguards

Both the ĐAO hack and Poly Network exploit underscore the critical need  --- or proactive measures to address technical vulnerabilities in DeFi.276 Mandatory security audits could have identi --- ied the reentrancy  --- law in the ĐAO’s smart contract or the logic vulnerability in Poly Network’s cross-chain system, preventing these exploits  --- rom occurring.277 Similarly, governance standards and incident response protocols could have provided clearer pathways  --- or addressing breaches, reducing reliance on ad hoc or

1. Scott Chipolina & Liam J. Kelly, What the Poly Network Hack Reveals About DeFi, DECRYPT (Aug. 12, 2021), https://decrypt.co/78275/what-the-poly- network-hack-reveals-about-de — i [https://perma.cc/4P7F-X99G].

2. André Beganski, Poly Network Attack Conjures Billions o

   Dollars in Tokens That ‘Did Not Exist’, DECRYPT (July 2, 2023), https://decrypt.co/147059/poly-network-attack-conjures-billions-o — -dollars-in- tokens-that-did-not-exist [https://perma.cc/X9SW-Z5A9].

3. Martin Young, Poly Network urges users to withdraw a

   ter exploit a —

ects 57 crypto assets, COINTELEGRAPH (July 2, 2023), https://cointelegraph.com/news/poly-network-users-withdraw-bridge- exploit-a —

ects-57-crypto [https://perma.cc/7Z4E-DSKU].

1. Tom Wilson et al., Hackers return $260 mln to cryptocurrency plat

   orm a — ter massive the — t, REUTERS, https://www.reuters.com/technology/de — i- plat — orm-poly-network-reports-hacking-loses-estimated-600-million-2021-08- 11/ [https://perma.cc/LQ4S-GHZ7] (updated Aug. 12, 2021).

2. Jordan Cole, Case Studies o

   Blockchain Security Breaches and Lessons Learned, BLOCKAPPS BLOG (Apr. 17, 2024), https://blockapps.net/blog/case- studies-o — -blockchain-security-breaches-and-lessons-learned/ [https://perma.cc/2U8R-MFDU].

3. AstraKode, What is a Reentrancy Attack in Smart Contracts and How to Prevent It?, BLOCKCHAIN HACKS (Feb. 21, 2024), https://medium.com/blockchain-hacks/what-is-reentrancy-attack-in- smart-contracts-and-how-to-prevent-them-d65ad76dce5 —

[https://perma.cc/9XPG-LQYA]. 2025] FUNCTION OVER FORM 53

community-driven responses.278 These case studies also highlight the importance o — systemic protections, such as stress testing and liquidity bu —

ers, to ensure that interconnected plat — orms can withstand crises without cascading — ailures.279 By integrating these sa — eguards into a

unction-based sa — e harbor — ramework, regulators can strike a balance between — ostering innovation and ensuring plat — orm integrity.

2. Proposed Sa --- eguards: Audits, Bug Bounty Programs, and User
Education

The technical vulnerabilities highlighted by the ĐAO hack and Poly Network exploit demonstrate the urgent need  --- or a structured regulatory approach that not only identi --- ies and mitigates risks but also incentivizes proactive compliance.280 A  --- unction-based sa --- e harbor  --- ramework o ---

ers a solution, providing DeFi plat — orms with a clear regulatory pathway while requiring the implementation o — essential sa — eguards as a condition o —

participation. Under the sa — e harbor — ramework, plat — orms would be incentivized to adopt measures such as mandatory security audits, governance standards, and systemic sa — eguards to quali — y — or regulatory protection. This approach balances innovation with accountability, ensuring that plat — orms address vulnerabilities be — ore they escalate into crises. By linking sa — e harbor protections to speci — ic operational requirements, the — ramework creates an ecosystem where plat — orms internalize best practices, — ostering a culture o — security and resilience across the DeFi sector. The — ollowing sections outline the core sa — eguards integral to this

ramework. These measures aim to address risks at every level—technical vulnerabilities, governance challenges, and systemic — ragility—while aligning with the decentralized ethos o — DeFi.281 Together, the measures

1. Caroline Malcolm, DeFi Regulation: Practical Next Steps to Make the Industry Sa — er, CHAINALYSIS (Feb. 28, 2024), https://www.chainalysis.com/blog/de — i-regulation-practical-next-steps-to- make-the-industry-sa — er/ [https://perma.cc/4XQ2-QSDG].
2. TEDAO, Beyond Code Flaws: Economic Audits and DeFi Protocol Security, GATE.IO LEARN (Nov. 25, 2024), https://www.gate.com/learn/articles/beyond-code- — laws-economic-audits- and-de- — i-protocol-security/73092.
3. Rob Behnke, Explained: The Poly Network Hack (July 2023), HALBORN (July 4, 2023), https://www.halborn.com/blog/post/explained-the-poly-network- hack-july-2023 [https://perma.cc/42CN-ZVGG].
4. Sharma, supra note 22. 54 LOUISIANA LAW REVIEW [Vol. 86

provide a roadmap

or plat — orms seeking to build trust and stability within a rapidly evolving regulatory environment.

 a. Security Audits

Mandatory security audits are a  --- oundational element o ---  the

unction-based sa — e harbor — ramework, addressing the pervasive risk o —

smart contract vulnerabilities in DeFi. Incidents like the ĐAO hack and Poly Network exploit, where — laws in contract code led to multimillion-dollar losses, demonstrate the critical need — or rigorous pre-deployment evaluations.282 Under the sa — e harbor — ramework, plat — orms would be required to undergo independent third-party audits to identi — y and resolve technical vulnerabilities be — ore launch. These audits would assess contract security, access controls, and sa — eguards against common attack vectors, ensuring plat — orms meet high standards o —

technical integrity. Requiring security audits incentivizes compliance by linking regulatory protection to proactive risk management. Plat — orms that meet these standards not only reduce the likelihood o — breaches but also signal trustworthiness to users and investors. By embedding this requirement, the sa — e harbor — ramework promotes a culture o — security and resilience in the DeFi ecosystem.

 b. Incident Response Protocols

Incident response protocols are critical  --- or managing breaches and minimizing damage in DeFi, where centralized crisis management is o --- ten unavailable.283 High-pro --- ile incidents like the ĐAO hack and the Poly Network exploit reveal the inadequacy o ---  ad hoc responses, highlighting the need  --- or standardized procedures.284 Under the  --- unction-based sa --- e harbor  --- ramework, plat --- orms must establish clear protocols  --- or detecting, containing, and resolving breaches. Automated alerts and prede --- ined

1. Hack Track: An Analysis o

   Poly Network Hack and Latest Related Events, MERKLE SCI. (Aug. 12, 2021), https://www.merklescience.com/blog/hack-track-an-analysis-o — -poly- network-hack-and-latest-related-events [https://perma.cc/J7J9-ZFBU].

2. AXEL WIEANDT & LAURENZ HEPPDING, THE FINTECH DISRUPTION: HOW FINANCIAL INNOVATION IS TRANSFORMING THE BANKING INDUSTRY, Centralized and Decentralized Finance: Coexistence or Convergence?, 11, 25 (Thomas Walker, Elaheh Nikbakht & Maher Kooli eds., Palgrave Macmillan 2023).
3. Gagliardoni, supra note 227. 2025] FUNCTION OVER FORM 55

actions can ensure swi

t responses, reducing reliance on improvised or community-driven approaches, as seen in the ĐAO’s hard — ork and Poly Network’s public appeals to the hacker.285 By requiring incident response protocols, the sa — e harbor — ramework — osters preparedness, enhances trust among users and investors, and ensures that plat — orms can manage risks e —

ectively while maintaining the integrity o — the DeFi ecosystem.

c. Governance Standards

Robust governance standards are essential  --- or accountability and e ---

ective decision-making in DeFi. The ĐAO hack and the Poly Network exploit exposed the dangers o — weak governance, where plat — orms relied on ad hoc solutions like contentious community debates or public appeals to resolve crises.286 Under the — unction-based sa — e harbor — ramework, plat — orms must adopt governance structures that balance decentralization with accountability. These governance structures include clear voting processes, de — ined roles, and transparent mechanisms — or managing disputes and upgrades. Such standards ensure coordinated and transparent responses to challenges, reducing reliance on improvised measures. By requiring governance standards, the sa — e harbor — ramework promotes operational resilience and builds trust among users, investors, and regulators, — ostering a more stable and reliable DeFi ecosystem.

d. Automated Compliance Tools

 Automated compliance tools address DeFi’s inherent en --- orcement challenges by embedding regulatory sa --- eguards directly into smart contract systems. The pseudonymous nature o ---  blockchain transactions, as seen in the ĐAO hack and Poly Network exploit, highlights the need  --- or sel --- -executing mechanisms to en --- orce compliance and prevent unauthorized actions.287 Under the  --- unction-based sa --- e harbor  --- ramework, plat --- orms would be required to integrate automated tools such as transaction  --- ilters, reporting systems, and rule-based alerts. These tools enable proactive en --- orcement, reducing reliance on external authorities and manual intervention. By mandating automated compliance, the sa --- e harbor  --- ramework ensures consistent and scalable en --- orcement, improving accountability, transparency, and trust across the DeFi ecosystem.

1. Id.
2. Id.
3. Id. 56 LOUISIANA LAW REVIEW [Vol. 86

 e. Systemic Sa --- eguards

 Systemic sa --- eguards are critical  --- or mitigating the interconnected risks inherent in DeFi.288 As plat --- orms increasingly rely on cross-chain interoperability and shared liquidity pools, vulnerabilities within one system can cascade across the broader ecosystem.289 The Poly Network exploit, which leveraged cross-chain vulnerabilities to siphon $600 million, underscores how a single breach can destabilize multiple plat --- orms and erode market con --- idence.290
 The  --- unction-based sa --- e harbor  --- ramework addresses these risks by requiring plat --- orms to implement systemic sa --- eguards such as stress testing and liquidity bu ---

ers. Stress testing allows plat — orms to simulate adverse conditions, identi — ying weaknesses in operations be — ore they result in widespread disruption.291 Liquidity bu —

ers provide a — inancial cushion during crises, ensuring plat — orms can handle sudden out — lows and maintain stability.292 Together, these sa — eguards enhance resilience and reduce the likelihood o — cascading — ailures. While these measures are critical — or individual plat — orm stability, they also serve a broader purpose: protecting the overall DeFi market. Systemic sa — eguards ensure that interconnected plat — orms are not only sel — -su —

icient but also contribute to the resilience o — the ecosystem as a whole.293 Even

1. Sirio Aramonte et al., DeFi risks and the decentralisation illusion, BIS Q. REV. 21, 33 (Dec. 2021), https://www.bis.org/publ/qtrpd — /r_qt2112b.pd —

[https://perma.cc/B6KS-VTXR].

1. Renuka Tahelyani, 10 Reasons Why Cross-Chain Interoperability Matters: A Look at Elys Network’s Paradigm Shi — t in DeFi, DROOMDROOM, https://www.droomdroom.com/articles/10-reasons-why- cross-chain-interoperability-matters [https://perma.cc/PRC7-FD6F] (updated Apr. 15, 2025, 12:59 PM).

2. Liam Frost, Poly Network Su

ers Record-Breaking $600.3 Million Hack, DECRYPT (Aug. 10, 2021), https://decrypt.co/78163/polynetwork-su —

ers- record-breaking-600-3m-hack [https://perma.cc/KEB6-PPGA].

1. The DeFi Risk Landscape, MOONDEFI ACAD., https://moonde — i.org/academy/intro-de — i/the-de — i-risk- landscape/ [https://perma.cc/PN85-8PA7] (updated May 17, 2024).

2. Q&A on the Use o

   Liquidity and Capital Bu —

ers, BANK OF ENG., https://www.banko — england.co.uk/-/media/boe/ — iles/prudential- regulation/publication/2020/qanda-on-the-use-o — -liquidity-and-capital- bu —

ers.pd — [https://perma.cc/P9CA-4RRM] (updated July 6, 2020).

1. Tim Weingärtner et al., Deciphering DeFi: A Comprehensive Analysis and Visualization o — Risks in Decentralized Finance, J. RISK FIN. MGMT. at 454 (Oct. 20, 2023), https://doi.org/10.3390/jr — m16100454 [https://perma.cc/65HL- DUKP]. 2025] FUNCTION OVER FORM 57

with these sa

eguards, broader market risks—such as volatility, regulatory uncertainty, and systemic shocks—extend beyond the scope o — individual plat — orms.294 The next section examines these broader market risks, exploring how the sa — e harbor — ramework can address challenges that a —

ect the entire DeFi ecosystem. By linking plat — orm-speci — ic protections to market-wide resilience, the — ramework lays the — oundation — or sustainable growth in the decentralized — inancial sector.

3. Broader Market Risks

 While systemic sa --- eguards address plat --- orm-speci --- ic vulnerabilities, broader market risks pose challenges that extend beyond individual DeFi plat --- orms.295 The interconnected nature o ---  DeFi exposes the entire ecosystem to external shocks, regulatory uncertainty, and cascading

ailures.296 These risks threaten not only individual participants but also DeFi’s long-term viability as an alternative — inancial system.297 A

unction-based sa — e harbor — ramework o —

ers tools to mitigate these risks, but e —

ective solutions will also require collaboration among regulators, plat — orms, and market participants.298

1. Id.

2. Eric Anziani et al., Examining the Rise o

   Decentralised Finance: Trends, Challenges, and Opportunities, ASIA-PACIFIC RES. EXCH. (June 15, 2021), https://www.arx.c — a/en/research/2021/06/soc150621-examining-the-rise- o — -decentralised- — inance [https://perma.cc/2X2B-AGPT].

3. For a detailed exploration o

   the economic mechanisms and risks associated with decentralized — inance (DeFi), see Anton Badev & Cy Watsky, Interconnected DeFi: Ripple E —

ects — rom the Terra Collapse, Finance and Economics Discussion Series 2023-044, BD. OF GOVERNORS OF THE FED. RSRV. SYS., https://doi.org/10.17016/FEDS.2023.044 [https://perma.cc/X7NX- CGP9]. The authors analyze how interconnected blockchain networks, especially through bridges, can propagate systemic risks and cause ripple e —

ects, highlighting the — ragility within DeFi ecosystems.

1. Thanos Tsavlis, Decentralized Finance: Risks And Rewards In The DeFi Ecosystem, FORBES TECH. COUNCIL (Mar. 11, 2024), https://www. — orbes.com/sites/ — orbestechcouncil/2024/03/11/decentralized - — inance-risks-and-rewards-in-the-de — i-ecosystem [https://perma.cc/WU35- E433].
2. Id. 58 LOUISIANA LAW REVIEW [Vol. 86

 a. Systemic Interdependence

DeFi’s interconnected nature creates risks that transcend individual plat --- orms.299 Protocols o --- ten rely on shared liquidity pools, cross-chain bridges, and interoperable smart contracts.300 When a  --- ailure occurs in one component, such as a liquidity pool becoming insolvent or a cross-chain bridge being exploited, the e ---

ects can ripple through the ecosystem.301 The TerraUSD (UST) collapse, which triggered billions in losses across multiple plat — orms, exempli — ies how interdependence ampli — ies risk.302 The sa — e harbor — ramework helps mitigate these risks by encouraging plat — orms to adopt systemic sa — eguards, such as stress testing and diversi — ied collateralization. Interdependencies also demand broader market coordination to prevent cascading — ailures.

 b. Regulatory Uncertainty

Regulatory  --- ragmentation itsel ---  poses another major challenge to DeFi’s stability.303 Varying rules across jurisdictions create compliance burdens  --- or plat --- orms and encourage regulatory arbitrage, where projects operate in lenient regions while serving global users.304 The absence o ---

1. Filippo Ferroni, How Interconnected Are Cryptocurrencies and What Does This Mean — or Risk Measurement?, FED. RSRV. BANK OF CHI.: CHI. FED. LETTER, NO. 466 (Mar. 2022), https://www.chicago — ed.org/publications/chicago-

ed-letter/2022/466 [https://perma.cc/AGJ6-TNG9].

1. Arpan Mondal, Blockchain Bridges: A Deep Dive into Cross-Chain Interoperability, MEDIUM (Mar. 8, 2024), https://medium.com/@accesstoarpan/blockchain-bridges-a-deep-dive- into-cross-chain-interoperability-67150c12c5ce [https://perma.cc/A5E4- HFEF].
2. Will Kenton, Understanding Liquidity Risk in Banks and Business, With Examples, INVESTOPEDIA (Aug. 22, 2024), https://www.investopedia.com/terms/l/liquidityrisk.asp [https://perma.cc/5BWW-B9CY].
3. Chainalysis Team, The Trades That Triggered TerraUSD’s Collapse, CHAINALYSIS (June 9, 2022), https://www.chainalysis.com/blog/how-terrausd- collapsed/#:~:text=Summary,o — %20both%20LUNA%20and%20UST [https://perma.cc/535W-PVS5].
4. Uzougbo, supra note 11, at 116–29.
5. Naballa Blesson, Understanding Blockchain Compliance and Regulations A —

ecting DeFi, NABALLA (Nov. 27, 2024), https://naballa.hashnode.dev/understanding-blockchain-compliance-and- regulations-a —

ecting-de — i [https://perma.cc/ZYP2-WGG2]. 2025] FUNCTION OVER FORM 59

consistent oversight also exacerbates risks, as en

orcement mechanisms di —

er widely and leave gaps in accountability.305 A — unction-based sa — e harbor — ramework provides a pathway to address this uncertainty by o —

ering clear, activity-based standards that plat — orms can — ollow regardless o — jurisdiction. Aligning this — ramework with international e —

orts, such as the EU’s Markets in Crypto-Assets Regulation (MiCA), would — urther promote global regulatory consistency and reduce the risks o —

ragmentation.

c. Market Volatility

 DeFi operates within highly volatile cryptocurrency markets, where rapid price swings can destabilize protocols and undermine user trust.306 Stablecoins, a cornerstone o ---  DeFi, are particularly vulnerable to volatility when they are algorithmically pegged or inadequately collateralized.307 The collapse o ---  algorithmic stablecoins like UST reveals how unchecked volatility can trigger cascading  --- ailures across interconnected plat --- orms.
 The sa --- e harbor  --- ramework addresses these risks by promoting collateralized stablecoins and requiring stress testing to evaluate plat --- orm resilience during periods o ---  extreme volatility.308 Encouraging plat --- orms to adopt such measures  --- osters user con --- idence and reduces the likelihood o ---  market-wide disruption.309

1. Id.

2. Will Daniel, Cryptocurrencies have had a wild

   ew weeks. Here’s how the volatile price swings have a —

ected investors, traders, miners, and DeFi companies, INSIDER (May 31, 2021, 8:45 AM), https://markets.businessinsider.com/currencies/news/cryptocurrency- volatility-price-swings-a —

ect-investors-traders-miners-de — i-2021-5-1030478847 [https://perma.cc/G2J9-2UDF].

1. Cristina Polizu et al., Stablecoins: A Deep Dive into Valuation and Depegging, S&P GLOB. (Sep. 7, 2023), https://www.spglobal.com/en/research- insights/special-reports/stablecoins-a-deep-dive-into-valuation-and-depegging [https://perma.cc/6NUX-BXHV].
2. Sumedha Deshmukh et al., Crypto Crash: How the Algorithmic Stablecoin UST Failed and What We Can Learn — rom It, WORLD ECON. F. (May 25, 2022), https://www.we — orum.org/stories/2022/05/crypto-crash-ust- luna/ [https://perma.cc/P4TY-2UFQ].
3. Shengchen Ling et al., SoK: Stablecoin Designs, Risks, and the Stablecoin LEGO, ARXIV (Jun. 21, 2025), https://arxiv.org/html/2506.17622v1 [https://perma.cc/VFC9-FTZK] (analyzing how DeFi market stability relies on an e —

ective interplay between market con — idence and continuous liquidity). 60 LOUISIANA LAW REVIEW [Vol. 86

 d. Liquidity Crisis

Liquidity crises occur when plat --- orms are unable to meet withdrawal demands or collateral requirements during market shocks.310 Such crises can lead to insolvency, asset  --- reezes, or cascading liquidations,  --- urther destabilizing the ecosystem.311 The Poly Network exploit demonstrated how sudden out --- lows o ---

unds could undermine a plat — orm’s ability to maintain liquidity, while broader market panic exacerbates the problem.312 Under the sa — e harbor — ramework, plat — orms would be required to maintain liquidity bu —

ers and adopt mechanisms to manage liquidity crises.313 These measures would help prevent systemic contagion and ensure plat — orms can continue operating during times o — stress.314

 e. Solving Systemic Problems

 Solving systemic market risks requires collective action beyond individual sa --- eguards.315 While the  --- unction-based sa --- e harbor  --- ramework equips plat --- orms with tools to address their own vulnerabilities, broader resilience depends on collaboration between regulators, plat --- orms, and the wider crypto ecosystem. Measures such as shared liquidity insurance,

1. Kate Kurbanova, Understanding and Mitigating Economic Risks in DeFi Lending Plat — orms, THE DAILY HODL (Nov. 20, 2023), https://dailyhodl.com/2023/11/20/understanding-and-mitigating- economic-risks-in-de — i-lending-plat — orms/ [https://perma.cc/YV2R-828K].

2. Liquidity risk re

   ers to losses or operational disruptions arising when a plat — orm cannot meet payment obligations in a timely — ashion—or without incurring unacceptable losses—due to insu —

icient liquid assets or — unding sources. In the crypto context, this o — ten mani — ests through inability to honor withdrawals, asset — reezes, or swi — t liquidations triggered by collateral calls. See Federal Reserve Bank o — New York, The Financial Stability Implications o —

Digital Assets, 30:2 ECONOMIC POLICY REVIEW (Nov. 2024), https://www.newyork — ed.org/medialibrary/media/research/epr/2024/EPR_2024_ digital-assets_azar.pd — [https://perma.cc/8X8E-B2X6]

1. Nina Bambysheva, Why DeFi’s Woes May Be Existential, FORBES, https://www. — orbes.com/sites/ninabambysheva/2023/08/31/why-de — is- woes-may-be-existential/ [https://perma.cc/W5VV-A6TU] (updated Aug. 31, 2023).
2. Tarun Chitra et al., DeFi Liquidity Management via Optimal Control: Ohm as a Case Study, (Feb. 2022), https://cdn.prod.website-

iles.com/648bdc0d4b8ce322 — 27da0a — /66d88 — 6 — 53a5aa1a8ce45 —

7_Research%2 012.pd — [https://perma.cc/PBS6-9Z63].

1. Id.
2. Crenshaw, supra note 71. 2025] FUNCTION OVER FORM 61

coordinated stress testing, and international regulatory alignment are crucial to protect the DeFi market — rom systemic shocks.316 The sa — e harbor — ramework also creates incentives — or plat — orms to adopt best practices, reducing risks while maintaining DeFi’s innovative spirit. By aligning plat — orm-level sa — eguards with market-wide stability e —

orts, the — ramework can help build a resilient decentralized — inancial ecosystem.

4. Risk Mitigation Strategies

As the DeFi ecosystem continues to grow, it becomes more interconnected and complex, increasing the potential  --- or systemic risks that could a ---

ect multiple plat — orms.317 While the — unction-based sa — e harbor — ramework aims to promote innovation and market stability, e —

ective mitigation strategies are necessary to address the inherent risks associated with DeFi’s decentralized nature.318 A sa — e-harbor whose protections are conditional on implementing risk mitigation strategies can incentivize sa — er DeFi systems.319 Two critical strategies — or managing these risks are stress testing and the establishment o — liquidity bu —

ers. These strategies provide a proactive approach to managing risk, ensuring that DeFi plat — orms remain solvent and resilient in the — ace o — market volatility and potential shocks.320

1. Felix Bekemeier, A Primer on the Insurability o

   Decentralized Finance (DeFi), DIG. FIN. 643, 644, 648, 654, 674–76 (2023), https://doi.org/10.1007/s42521-023-00093-x [https://perma.cc/4KNM- AR2T].

2. The

   inancial stability risks o — decentralised — inance – Executive Summary, supra note 217.

3. Sirio Aramonte, Wenqian Huang & Andreas Schrimp

   , DeFi Risks and the Decentralisation Illusion, BIS Q. REV. (Dec. 2021), https://www.bis.org/publ/qtrpd — /r_qt2112b.pd — .

4. Brendan Cochrane, Is DeFi Ready

   or Mass Adoption, or Will Regulation Slow It Down?, CRYPTOSLATE (Oct. 5, 2024), https://cryptoslate.com/is-de — i-ready- — or-mass-adoption-or-will- regulation-slow-it-down/ [https://perma.cc/YZ65-6TCK].

5. Responding to the Evolving Risks that Straddle TradFi, DeFi, and CeFi: Some Lessons and Observations, DELOITTE (Mar. 2023), https://www2.deloitte.com/content/dam/Deloitte/us/Documents/audit/us- digital-asset-risk-management.pd — [https://perma.cc/JR9X-GWBX]. 62 LOUISIANA LAW REVIEW [Vol. 86

 a. Stress Testing: Assessing Resilience Under Pressure

Stress testing is a widely recognized tool in traditional  --- inancial regulation, designed to assess  --- inancial institutions’ ability to withstand extreme but plausible adverse conditions, such as market crashes or liquidity crises.321 For DeFi plat --- orms, stress testing is equally critical, given the lack o ---  centralized oversight and the potential  --- or cascading e ---

ects across interconnected protocols.322 Stress testing allows DeFi plat — orms to simulate extreme market scenarios—such as a sharp decline in asset prices, a liquidity — reeze, or a large-scale exploit—and assess how these events would impact plat — orms’ solvency, liquidity, and operations.323 Under the — unction-based sa — e harbor — ramework, stress testing would be an essential requirement — or DeFi plat — orms seeking sa — e harbor protection. Plat — orms that conduct regular stress tests would be incentivized to identi — y vulnerabilities in their protocols be — ore the vulnerabilities could be exploited in real-world conditions.324 By evaluating how plat — orms respond to a range o — stress scenarios, regulators can ensure that DeFi projects are prepared — or potential market shocks, reducing the likelihood o — plat — orm — ailures that could trigger broader systemic risks.325

1. Will Kenton, What Is Stress Testing?, INVESTOPEDIA (Aug. 31, 2024), https://www.investopedia.com/terms/s/stresstesting.asp [https://perma.cc/N57C-MWPK].
2. Igor Makarov & Antoinette Schoar, Cryptocurrencies and Decentralized Finance (DeFi), LOND. SCH. OF ECON. & MIT SLOAN, NBER & CEPR (Apr. 24, 2022), https://mitsloan.mit.edu/sites/de — ault/ — iles/2022- 06/DeFi_Brookings_Web%20%281%29.pd — [https://perma.cc/YQ82-B6BX].
3. Zahara Nisa Fadila, What Is Stress Testing in Crypto: A Complete Guide to Understanding the Concept and Implementation, BITTIME HELP CTR. (Apr. 2024), https://support.bittime.com/hc/en-us/articles/9550211184271-What-Is- Stress-Testing-in-Crypto-A-Complete-Guide-to-Understanding-the-Concept- and-Implementation [https://perma.cc/EE2P-ASW4].
4. What Are the Security Risks Faced by DeFi Protocols and How to Ensure Protocol Security?, BLOCKSEC BLOG (June 12, 2024), https://blocksec.com/blog/what-are-the-security-risks- — aced-by-de- — i- protocols-and-how-to-ensure-protocol-security [https://perma.cc/G5QZ- HBQM].
5. Marijo Radman, Reducing Systemic Risk in DeFi: A Comprehensive Approach, ALTERSCHOPE (Sep. 21, 2023), https://www.alterscope.org/insights/reducing-systemic-risk [https://perma.cc/L4SC-AZ99]. 2025] FUNCTION OVER FORM 63

 Moreover, stress testing provides a transparent assessment o ---  plat --- orm resilience that can be shared with users and investors.326 Publicly accessible stress test results help to build trust as users will have con --- idence that the plat --- orm has been rigorously evaluated under challenging conditions.327 These tests would also allow investors to make more in --- ormed decisions by assessing the potential risks associated with particular plat --- orms.328

b. Liquidity Bu ---

ers: Ensuring Stability During Crises

DeFi plat --- orms rely on liquidity to  --- unction smoothly, particularly in DEXs and lending protocols.329 In the event o ---  a market downturn or liquidity crisis, however, plat --- orms may  --- ace shortages o ---  available liquidity, making it di ---

icult to meet withdrawal demands or settle transactions.330 The rapid growth o — DeFi and its interconnectedness means that a liquidity crisis in one protocol can cascade through the broader ecosystem, potentially triggering a market-wide crash.331 To mitigate this risk, the — unction-based sa — e harbor — ramework incorporates the requirement — or liquidity bu —

ers—reserves o —

unds set aside to ensure that plat — orms can meet liquidity needs during periods o —

1. Stress Testing and Scenario Analysis, AMPLIFIED PROTOCOL, https://docs.ampli — ied. — i/security-and-risk-assessment-report/stress- testing-and-scenario-analysis (last updated Dec. 3, 2024).
2. Rachel Lin, How to Build Trust and Transparency in DeFi — and Why It Matters More Than Ever, SYNFUTURES (July 10, 2023), https://medium.com/syn — utures/how-to-build-trust-and-transparency-in- de — i-and-why-it-matters-more-than-ever-6882d011163c [https://perma.cc/THX2-JKD4].
3. Id.
4. Dexa, DEX Liquidity Pools Explained: How They Work and Why They Matter, MEDIUM (Oct. 24, 2023), https://medium.com/@dexa_exchange/dex- liquidity-pools-explained-how-they-work-and-why-they-matter-87c0db5 — d383 [https://perma.cc/392L-PY3V].
5. Liquidity in Crypto Markets: What It Is and Why It Matters, CRYPTO.COM UNIV. (May 7, 2024), https://crypto.com/en/university/liquidity-in- crypto-markets [https://perma.cc/UX9E-WSYK].

6. Amanda Blanco, In Crypto, DeFi Could O

er 24/7 Access to Financial Services. But Could It Disrupt the Economy?, FED, RSRV. BANK OF BOS. (Oct. 31, 2022), https://www.boston — ed.org/news-and-events/news/2022/10/in- crypto-de — i-could-o —

er-24-7-access-to- — inancial-services-but-could-it-disrupt- the-economy.aspx [https://perma.cc/R5P3-2A4P]. 64 LOUISIANA LAW REVIEW [Vol. 86

market instability.332 These bu

ers can be in the — orm o — collateralized assets, stablecoins, or other liquid assets that are easily accessible when needed.333 By ensuring that plat — orms hold adequate reserves, liquidity bu —

ers serve as a protective cushion, preventing a temporary market disruption — rom escalating into a broader liquidity crisis.334 Liquidity bu —

ers also act as a market stabilizer, helping to maintain plat — orm solvency and con — idence in times o — heightened volatility.335 DeFi plat — orms that maintain liquidity bu —

ers demonstrate their commitment to responsible risk management and market integrity, which are essential to the continued growth o — the ecosystem. For plat — orms that adhere to these standards, the sa — e harbor — ramework provides clear incentives, rewarding them with regulatory certainty and legal protection.336 In addition to sel — -imposed liquidity bu —

ers, the — ramework suggests the development o — community-driven liquidity pools as a means to pool resources across multiple plat — orms, o —

ering an additional layer o —

protection against market shocks.337 These community bu

ers can be peer- — unded, where users voluntarily contribute to a collective reserve, ensuring that liquidity is available to the broader DeFi ecosystem in times o — crisis.338 By aligning plat — orm incentives with community stability, the

1. Risks in Decentralized Finance: A Founders’ Guide to Mitigation, UNVEST BLOG (Aug. 22, 2023), https://www.unvest.io/blog/risks-in- decentralized- — inance-a- — ounders-guide-to-mitigation [https://perma.cc/2W6X- RVW4].
2. Id.
3. Sankrit K, What Are Liquidity Pools and Crypto Market Liquidity in DeFi, COINGECKO, https://www.coingecko.com/learn/liquidity-pools-crypto-de — i [https://perma.cc/RA8M-U2NM] (updated Apr. 22, 2024).

4. Market Maker X, The Role o

   Market Makers in Enhancing Liquidity in DeFi, MEDIUM (Sep. 10, 2024), https://medium.com/@marketmakerx/the-role- o — -market-makers-in-enhancing-liquidity-in-de — i-2bc665c5933b [https://perma.cc/AQA5-GVJE].

5. Id.

6. Liquidity pools in DeFi—community‑sourced pools o

unds locked in smart contracts—enable plat — orms and users to access collective liquidity, reducing reliance on any single reserve and mitigating stress during shocks. See xCritical, What Are Crypto Liquidity Pools? How Do They Work in DeFi? (Oct. 16, 2023) [https://perma.cc/W85N-AG8F].

1. Antonis Kazoulis & Shilpa Lama, DeFi Community Building: A Step- by-Step Guide, BEINCRYPTO, https://beincrypto.com/learn/de — i-community- building-guide/ [https://perma.cc/QJ82-9DAS] (updated Dec. 19, 2024). 2025] FUNCTION OVER FORM 65

ramework encourages decentralized participants to play an active role in risk mitigation.339

c. Integrating Stress Testing and Liquidity Bu ---

ers within the Framework

 The integration o ---  stress testing and liquidity bu ---

ers into the

unction-based sa — e harbor — ramework provides a comprehensive approach to risk management that addresses both individual plat — orm vulnerabilities and systemic market risks.340 Stress testing allows plat — orms to assess their resilience in adverse conditions, while liquidity bu —

ers provide a — inancial cushion to weather unexpected market downturns.341 Together, these strategies contribute to a more stable and secure DeFi ecosystem, reducing the likelihood o — market disruptions and

ostering trust among users and investors.342 By making stress testing and liquidity bu —

ers mandatory requirements

or plat — orms seeking sa — e harbor protection, the — ramework ensures that these critical sa — eguards are integrated into the — abric o — DeFi.343 In doing so, the — ramework aligns innovation with responsibility, ensuring that the DeFi ecosystem can continue to evolve while maintaining market stability and investor protection.344 This proactive approach — osters a sustainable and secure environment where DeFi plat — orms can thrive without posing a systemic risk to the broader — inancial ecosystem.345

B. Addressing Stablecoin Risks

Stablecoins play a central role in the DeFi ecosystem by providing a stable medium o ---  exchange that allows  --- or the  --- acilitation o ---  transactions

1. Building High-Integrity DeFi Markets, CHAINLINK BLOG (Oct. 23, 2023), https://blog.chain.link/credibly-neutral-in — rastructure/ [https://perma.cc/EVJ2-S7XK].
2. Tim Weingärtner et al., Deciphering DeFi: A Comprehensive Analysis and Visualization o — Risks in Decentralized Finance, J. OF RISK AND FIN. MGMT. 16, NO. 10 (2023): 454, https://doi.org/10.3390/jr — m16100454 [https://perma.cc/2AC2-V6A7].
3. Id.
4. Id.
5. DeFi Risk Assessment Guidelines - Version 1, ENTER. ETHEREUM ALLIANCE (July 17, 2024), https://entethalliance.org/specs/de — i-risks/v1 [https://perma.cc/AZ62-GUN5].
6. Id.
7. Id. 66 LOUISIANA LAW REVIEW [Vol. 86

and value storage without the volatility typically associated with cryptocurrencies like Bitcoin (BTC) or Ethereum (ETH).346 These digital assets are typically pegged to a stable re — erence, such as the U.S. dollar, and are designed to maintain a one-to-one value ratio with the pegged asset.347 While stablecoins provide substantial bene — its — or DeFi plat — orms, they also introduce a range o — risks that require care — ul regulatory oversight and management.348 These risks include de-pegging, reserve transparency, and regulatory arbitrage, which could destabilize the broader DeFi ecosystem and undermine trust in stablecoins as a reliable — inancial instrument.349 The — unction-based sa — e harbor — ramework seeks to address these risks by establishing regulatory incentives that encourage stablecoin issuers to adhere to sound governance, transparency, and accountability practices. By — ocusing on the — unctionality o — stablecoins, rather than their legal — orm or classi — ication, the — ramework o —

ers a more adaptable approach to regulating these digital assets and ensuring their sa — e use within DeFi applications.

 1. The Role o ---  Stablecoins in DeFi

Stablecoins serve as the backbone o ---  many DeFi plat --- orms, providing liquidity, enabling seamless transactions, and o ---

ering a stable store o —

value in volatile markets.350 These coins are critical

or DEXs, lending plat — orms, and liquidity pools, where they allow users to interact with the plat — orm while minimizing exposure to price volatility.351 Furthermore, stablecoins — acilitate cross-border transactions, enabling users around the world to engage with DeFi without relying on traditional — inancial

1. Yevhen Rudenko, Stablecoins in DeFi: Overview, Usage and Risks, MEDIUM (July 19, 2024), https://rudenko-yevhen.medium.com/stablecoins-in- de — i-overview-usage-and-risks- — 365514a5486 [https://perma.cc/S62G-VDGX].
2. Id.
3. Id.
4. Id.
5. Andrey Sergeenkov, What Are Stablecoins and How Can One Use Them — or Payments?, FORBES, https://www. — orbes.com/sites/digital- assets/article/what-are-stablecoins-how-to-use-them/ [https://perma.cc/3S2Q- DGWM] (updated June 21, 2025, 3:19 PM).
6. Jesse Anglen, Stablecoins in DeFi: Everything You Need to Know, RAPID INNOVATION, https://www.rapidinnovation.io/post/stablecoins-in-de — i- everything-you-need-to-know [https://perma.cc/MX4A-CZCH] (last visited July 3, 2025). 2025] FUNCTION OVER FORM 67

intermediaries or

iat currency systems.352 The risks inherent in stablecoins go beyond their value peg.353 In some instances, the — ailure to maintain that peg, the lack o — transparency about collateral reserves, and the potential

or regulatory arbitrage have exposed vulnerabilities within the system, prompting regulatory scrutiny and raising concerns about stablecoins’ long-term viability.354

2. Speci --- ic Risks: De-pegging, Reserve Transparency, and
Regulatory Arbitrage

One o ---  the most signi --- icant risks  --- acing stablecoins is the potential  --- or de-pegging, where the stablecoin’s value diverges  --- rom its intended peg—

or example, 1 U.S. dollar.355 This de-pegging can occur because o — a variety o —

actors, including market volatility, insu —

icient collateral reserves, or loss o — investor con — idence.356 The UST collapse in 2022, where the algorithmic stablecoin lost its peg to the U.S. dollar, is a stark example o — the consequences o — a stablecoin de-pegging.357 The — ailure o —

UST triggered a broader crisis within the DeFi space, with widespread liquidations and a dramatic loss o — investor capital.358

1. Brandon Zemp, The Power o

   Stablecoins - Enabling Fast and E —

icient Cross-Border Transactions, FORBES (Apr. 5, 2023, 3:25 PM), https://www. — orbes.com/sites/ — orbesbooksauthors/2023/04/05/the-power- o — -stablecoinsenabling- — ast-and-e —

icient-cross-border-transactions/ [https://perma.cc/M8MD-A67F].

1. Re

   lexivity Research, General Risks — or All Stablecoins, COINGECKO, https://www.coingecko.com/learn/general-risks- — or-all-stablecoins [https://perma.cc/9N5A-3Q92] (updated Dec. 7, 2023).

2. Id.
3. Polizu, supra note 283.
4. Garth Baughman et al., The Stable in Stablecoins, BD. OF GOVERNORS OF THE FED. RSRV. SYS.: FEDS NOTES (Dec. 16, 2022), https://doi.org/10.17016/2380-7172.3224 [https://perma.cc/GRT3- QVUW].
5. Rahul Rai, The Death Spiral: How Terra’s Algorithmic Stablecoin Came Crashing Down, FORBES (May 17, 2022, 4:38 PM), https://www. — orbes.com/sites/rahulrai/2022/05/17/the-death-spiral-how- terras-algorithmic-stablecoin-came-crashing-down/ [https://perma.cc/243Z- JBUR].
6. Id. 68 LOUISIANA LAW REVIEW [Vol. 86

 Another key concern  --- or stablecoins is the lack o ---  transparency regarding the assets backing these coins.359 While  --- iat-backed stablecoins like Tether (USDT) and Circle (USDC) claim to be  --- ully collateralized, questions have been raised about the adequacy and transparency o ---  their reserves.360 Without clear and veri --- iable in --- ormation about the reserve assets that back stablecoins, users are le --- t uncertain about the actual stability and reliability o ---  the currency.361 This uncertainty undermines trust and can contribute to panic during periods o ---  market stress.362
 Stablecoins are o --- ten issued by entities based in jurisdictions with looser regulatory requirements, enabling them to bypass stricter  --- inancial regulations in other countries.363 This practice can lead to regulatory arbitrage, where stablecoin issuers relocate to more lenient jurisdictions to avoid compliance with higher standards, creating a  --- ragmented global regulatory landscape.364 This inconsistency makes it di ---

icult to ensure that all stablecoin issuers adhere to the same standards o — sa — ety, security, and transparency, thus increasing the risk o — regulatory evasion.365

 3. Mitigation Strategies: Audits, KYC and AML, and Decentralized
 Governance

To address these risks, the  --- unction-based sa --- e harbor  --- ramework proposes a set o ---  mitigation strategies that  --- ocus on transparency, security, and accountability.366 Stablecoin issuers would be required to undergo regular third-party audits to veri --- y their collateralization and ensure that

1. Christian Catalini & Jai Massari, Stablecoins and the Future o

   Money, HARV. BUS. REV. (Aug. 10, 2021), https://hbr.org/2021/08/stablecoins-and-the-

uture-o — -money [https://perma.cc/SBN6-FA37].

1. Id.
2. Id.
3. Id.

4. Stablecoins: A Global Overview o

   Regulatory Requirements in Asia Paci — ic, Europe, the UAE and the US, CLIFFORD CHANCE (Sep. 2019), https://www.cli —

ordchance.com/content/dam/cli —

ordchance/brie — ings/20 19/09/stablecoins-a-global-overview-o — -regulatory-requirements-in-asia-paci — ic- europe-the-uae-and-the-us.pd — [https://perma.cc/U6YM-JUG2].

1. Joseph Jasperse & Sarah Hammer, The State o

   Stablecoin Regulation and Emergence o — Global Principles, AM. BAR ASS’N BUS. L. TODAY (Sep. 20, 2024), https://www.americanbar.org/groups/business_law/resources/business- law-today/2024-september/state-stablecoin-regulation-emergence-global- principles/ [https://perma.cc/LEZ9-4G4A].

2. Id.
3. Id. 2025] FUNCTION OVER FORM 69

their reserves are su

icient to maintain the peg.367 These audits would be publicly disclosed, o —

ering greater transparency and providing assurance to users that the stablecoin is backed by real, veri — iable assets.368 Regular audits would also help prevent issues related to over-leveraging or under-collateralization that could jeopardize the peg or the DeFi plat — orm’s overall stability.369 As part o — the regulatory oversight, stablecoin issuers would be required to implement KYC and AML protocols.370 These measures ensure that stablecoins are not used to — acilitate illicit activities, such as money laundering or terrorism — inancing.371 By requiring these compliance procedures, the — ramework ensures that stablecoin transactions align with global — inancial standards and enhance user protection within the DeFi space.372 To — urther ensure the integrity and reliability o — stablecoins, the

ramework encourages the adoption o — decentralized governance structures — or stablecoin issuers. This structure would give the community a say in decision-making processes, including how reserves are managed, how the peg is maintained, and how governance decisions are made. Decentralized governance helps to mitigate the risk o — the issuer abusing centralized control and ensures that the interests o — the broader DeFi community are considered.373 This governance structure aligns with the decentralized ethos o — DeFi, making the system more resilient to regulatory or market shocks.

1. Stablecoin Regulatory Update and Enhanced Framework, DELOITTE (Feb. 2022), https://www2.deloitte.com/content/dam/Deloitte/us/Documents/risk/us- stablecoin- — eb-2022.pd — [https://perma.cc/KY68-YW55].
2. Id.
3. Id.

4. Chainalysis Team, What is AML and KYC

   or Crypto?, CHAINALYSIS BLOG (Dec. 14, 2021), https://www.chainalysis.com/blog/what-is-aml-and-kyc-

or-crypto/ [https://perma.cc/6QXF-E88T].

1. Id.
2. Id.
3. Anna Szentgyorgyi-Siklosi, Centralization vs Decentralization Data Governance: The Key Di —

erences, LEPIDE BLOG, https://www.lepide.com/blog/decentralized-vs-centralized-data- governance/ [https://perma.cc/7GAH-UMAF] (updated Feb. 4, 2025). 70 LOUISIANA LAW REVIEW [Vol. 86

 4. Integrating Stablecoin Regulation into the Function-Based
 Framework

 The  --- unction-based sa --- e harbor  --- ramework integrates these sa --- eguards to ensure that stablecoins continue to serve their essential role in DeFi while minimizing the risks they pose to the broader ecosystem.374 By requiring audits, transparency, and compliance with KYC and AML regulations, the  --- ramework creates a regulatory environment that encourages stablecoin issuers to operate responsibly.375 Moreover, the incorporation o ---  decentralized governance mechanisms enhances transparency and accountability, aligning stablecoin issuers with the broader goals o ---  market integrity and user protection.376
 This regulatory approach recognizes that stablecoins, like other DeFi assets, must be regulated based on their  --- unctionality—as a store o ---  value, medium o ---  exchange, or instrument  --- or value trans --- er—rather than their legal  --- orm. By prioritizing the economic role o ---  stablecoins within the DeFi ecosystem, the  --- ramework ensures that stablecoins remain a stable, reliable, and secure tool  --- or decentralized  --- inance while minimizing the risks that could undermine the broader market’s stability.377

PART IV. ENFORCEMENT MECHANISMS IN A DECENTRALIZED CONTEXT

En --- orcing regulations within the DeFi ecosystem presents unique challenges that are not typically encountered in traditional  --- inancial markets.378 Unlike conventional  --- inancial institutions, DeFi plat --- orms

1. Roger Mitchell, DeFi-ing the Rules: Five Opportunities and Five Risks o — Decentralized Finance, CFA INST. ENTERPRISING INV. (June 7, 2022), https://blogs.c — ainstitute.org/investor/2022/06/07/de — i-ing-the-rules- — ive- opportunities-and- — ive-risks-o — -decentralized- — inance/ [https://perma.cc/7EM9- ZV5G].
2. Stablecoin Regulation: Addressing Risks and Compliance Challenges, MERKLE SCI. (June 6, 2024), https://blog.merklescience.com/general/stablecoin- regulation-addressing-risks-and-compliance-challenges [https://perma.cc/MR66-MSFR].
3. Id.
4. Stablecoins’ Role in Crypto and Beyond: Functions, Risks and Policy, EURO. CENT. BANK (July 2022), https://www.ecb.europa.eu/press/ — inancial- stability-publications/macroprudential- bulletin/html/ecb.mpbu202207_2~836 — 682ed7.en.html [https://perma.cc/2RHG-2K3G].

5. Kamlesh Kumar, The Legal Challenges o

   Decentralized Finance (DeFi) in 2024, HACKERNOON (Oct. 4, 2024), https://hackernoon.com/the-legal- 2025] FUNCTION OVER FORM 71

operate without a central authority, making it di

icult — or regulators to impose oversight or hold individual actors accountable.379 Furthermore, the pseudonymous or anonymous nature o — blockchain transactions adds complexity to identi — ying bad actors or en — orcing compliance with regulatory requirements.380 In light o — these challenges, developing e —

ective en — orcement mechanisms that are both practical and aligned with the decentralized ethos o — DeFi is crucial to ensuring the integrity and security o — the ecosystem.381 This section explores the challenges o — en — orcement in a decentralized context and proposes solutions that leverage sel — -regulation, international collaboration, and specialized regulatory units. By implementing these mechanisms, regulators can more e —

ectively manage DeFi’s inherent risks while supporting innovation in a secure, transparent, and accountable manner.

A. En

orcement Challenges in DeFi

 Traditional  --- inancial en --- orcement o --- ten relies on identi --- ying and targeting centralized entities, such as banks, brokers, or exchanges.382 Regulators can issue subpoenas, conduct on-site inspections, and impose penalties on these entities to ensure compliance.383 Conversely, DeFi protocols o --- ten lack a central authority or a clearly de --- ined legal entity responsible  --- or their operations.384 This lack o ---  authority makes it di ---

icult

or regulators to serve legal documents: Who do you serve a subpoena to when a DeFi protocol is governed by a ĐAO or operates autonomously

challenges-o

-decentralized- — inance-de — i-in-2024 [https://perma.cc/XW7K- ZKB3].

1. Michael Flannelly, CeFi vs DeFi: Similarities and Di

erences Compared, SOFI (Mar. 30, 2023), https://www.so — i.com/learn/content/de — i-vs- ce — i/ [https://perma.cc/N49C-V936].

1. The Future o

   Compliance: AML Procedures in DeFi Transactions Unleashed, FIN. CRIME ACAD. (May 20, 2025), https:// — inancialcrimeacademy.org/aml-procedures-in-de — i-transactions/ [https://perma.cc/7KLL-YKYU].

2. Id.
3. Lorenz, supra note 55.
4. Annual Report - 2021: Supervision and Regulation, BD. OF GOVERNORS OF THE FED. RSRV. SYS., https://www. — ederalreserve.gov/publications/2021-ar- supervision-and-regulation.htm [https://perma.cc/GCC8-9HH9] (last updated Aug. 12, 2022).

5. Luc Muhizi, Code is Law in the Wild West o

   DeFi, MEDIUM (Dec. 27, 2023), https://medium.com/@luc_muhizi/code-is-law-in-the-wild-west-o — -de — i- 2 — d51 — 5b0 — 47 [https://perma.cc/57WR-AQAV]. 72 LOUISIANA LAW REVIEW [Vol. 86

through smart contracts?385 This question is addressed in part where states like Wyoming or Tennessee allow LLC’s to — orm as ĐAOs.386 It is also di —

icult — or en — orcement to conduct inspections: How do you conduct an on-site inspection o — a protocol that exists as code on a distributed network? And it is di —

icult to impose — ines or penalties: Who is held liable when a DeFi protocol violates regulations—the developers, the token holders, or the users?387

 1. Decentralization and Anonymity

One o ---  the central challenges in regulating DeFi plat --- orms is their decentralized nature.388 Unlike centralized  --- inancial institutions, which have clearly de --- ined ownership and accountability structures, DeFi plat --- orms operate through smart contracts on blockchains, o --- ten with pseudonymous or even anonymous developers and participants.389 The lack o ---  a central entity complicates the identi --- ication o ---  responsible parties in the event o ---

raud, non-compliance, or other illicit activities.390 The absence o — identi — iable intermediaries or — iduciary actors makes it di —

icult

or regulators to en — orce compliance with legal standards, as they traditionally rely on en — orcing rules against speci — ic individuals or entities.391 Moreover, the anonymity a —

orded by many blockchain plat — orms presents an additional barrier to en — orcement.392 Although transactions are transparent on the blockchain, the identities o — the actors behind these transactions can be di —

icult to trace, leading to a lack o — accountability in the event o — a violation.393 This gap makes it hard — or traditional

1. Salami, supra note 61.
2. Id.
3. Id.

4. Daisy Thomas, Regulatory Challenges in the Age o

   DeFi: Balancing Innovation and Consumer Protection, THE GEOPOLITICAL ECONOMIST (July 16, 2024), https://medium.com/the-geopolitical-economist/regulatory-challenges-in- the-age-o — -de — i-balancing-innovation-and-consumer-protection-19a4cd071ce7 [https://perma.cc/L6AX-FQKE].

5. Nicole Willing, Centralized Finance (CeFi), TECHOPEDIA (Oct. 3, 2023), https://www.techopedia.com/de — inition/centralized- — inance-ce — i [https://perma.cc/D285-3QJM].
6. Id.
7. Id.
8. Salman Saleem Virani, Blockchain end user adoption and societal challenges: Exploring privacy, rights, and security dimensions, IET (May 7, 2024), https://doi.org/10.1049/blc2.12077 [https://perma.cc/5EYW-EYNB].
9. Id. 2025] FUNCTION OVER FORM 73

en

orcement mechanisms, such as the SEC or FinCEN, to e —

ectively monitor and regulate these plat — orms.394

2. Jurisdictional Hurdles

 DeFi plat --- orms, by their nature, are global and operate across multiple jurisdictions. Participants can engage with DeFi protocols  --- rom anywhere in the world, and these protocols do not have a physical headquarters, which makes them di ---

icult to regulate under traditional national legal

rameworks.395 Jurisdictional challenges arise when plat — orms or their users are spread across di —

erent countries with varying regulatory approaches to digital assets.396 This disparity complicates e —

orts to create a uni — ied global regulatory standard — or DeFi and can lead to regulatory arbitrage, where actors move operations to jurisdictions with more lenient laws.397 Furthermore, when a DeFi plat — orm experiences a problem, such as a security breach or a — raudulent scheme, it is o — ten unclear which jurisdiction has the legal authority to address the issue.398 This lack o —

clarity in en

orcement jurisdiction poses signi — icant risks to the stability and legitimacy o — DeFi plat — orms and complicates international e —

orts to address cross-border — inancial crimes or market manipulation.399

B. Proposed Solutions

 To address the en --- orcement challenges inherent in the decentralized nature o ---  DeFi, several solutions can be implemented, which include sel --- -regulation through ĐAOs, international collaboration, and specialized regulatory units designed to oversee the DeFi space.400

1. Id.
2. A Report on Decentralized Finance (DeFi), GRAYSCALE INV., https://www.grayscale.com/research/reports/a-report-on-decentralized-

inance-de — i [https://perma.cc/M83B-KDZ6] (updated Oct. 27, 2021).

1. Id.
2. Id.

3. David Balaban, The Dark Side o

   DeFi: Fraud, Hacks, and Regulatory Uncertainty, FORBES (May 11, 2023, 4:03 AM), https://www. — orbes.com/sites/davidbalaban/2023/05/11/the-dark-side-o — - de — i- — raud-hacks-and-regulatory-uncertainty/ [https://perma.cc/CQS3-KDVG].

4. Id.
5. Salami, supra note 61. 74 LOUISIANA LAW REVIEW [Vol. 86

 1. Incentivizing Sel --- -Regulation through ĐAOs

 ĐAOs represent a promising tool  --- or sel --- -regulation in DeFi.401 A ĐAO is a type o ---  organizational structure where decision-making is distributed among participants rather than centralized in a single entity.402 Within DeFi, ĐAOs can be used to manage governance, ensure compliance with legal and ethical standards, and en --- orce community-driven rules.403 By incentivizing sel --- -regulation, ĐAOs enable a more community-driven approach to en --- orcement that aligns with DeFi’s decentralized ethos.404
 For instance, ĐAOs can implement governance protocols to en --- orce the plat --- orm’s rules, including voting on key decisions—such as how

unds are allocated—whether to suspend certain activities, or how to deal with any plat — orm breaches.405 Moreover, ĐAOs can be empowered to audit plat — orm activity, en — orce dispute resolution, and impose penalties

or non-compliance.406 This decentralized model places responsibility on the community to monitor and regulate itsel — , creating a more — lexible and sel — -sustaining system — or en — orcement.407 By integrating sel — -regulation mechanisms within DeFi protocols, the

unction-based sa — e harbor — ramework — osters accountability within decentralized ecosystems.408 This integration would help mitigate

1. Aaron Wright, The Rise o

   Decentralized Autonomous Organizations: Opportunities and Challenges, STAN. J. OF BLOCKCHAIN L. & POL’Y (June 30, 2021), https://stan — ord-jblp.pubpub.org/pub/rise-o — -daos/release/1 [https://perma.cc/GAL8-KJX9].

2. Nathan Rei

, Decentralized Autonomous Organization (DAO): De — inition, Purpose, and Example, INVESTOPEDIA, https://www.investopedia.com/tech/what-dao/ [https://perma.cc/YL8Y-YUGS] (updated Apr. 14, 2025).

1. Jesse Anglen, DAO Governance Models Explained: Token-Based vs. Reputation-Based Systems, RAPID INNOVATION, https://www.rapidinnovation.io/post/dao-governance-models- explained-token-based-vs-reputation-based-systems [https://perma.cc/D9R5- YZ56] (last visited July 3, 2025).
2. Id.
3. Lea Lobanov, Implementing Governance and DAOs on the Solana Network: The ULTIMATE Guide, MEDIUM (May 16, 2023), https://medium.com/coinmonks/implementing-governance-and-daos-on- the-solana-network-the-ultimate-guide-c3d9a — b5 — 7ec [https://perma.cc/7DWA- E3VA].
4. Id.
5. Id.
6. Id. 2025] FUNCTION OVER FORM 75

en

orcement challenges, o —

ering a pathway — or DeFi plat — orms to align with regulatory expectations while maintaining decentralization.

2. International Collaboration

 Given the global nature o ---  DeFi, it is critical  --- or regulators to cooperate and establish cross-border en --- orcement protocols that can address jurisdictional hurdles.409 International collaboration between regulators can create a more cohesive regulatory  --- ramework that ensures DeFi plat --- orms are held accountable regardless o ---  their geographic location.410 This collaboration could involve the establishment o ---  global standards  --- or compliance, security, and market conduct, which all jurisdictions can agree upon.411
 For example, international bodies like the Financial Action Task Force (FATF) or the International Organization o ---  Securities Commissions (IOSCO) could work together to create global guidelines  --- or DeFi plat --- orms.412 These guidelines could include best practices  --- or ensuring transparency, managing risk, and maintaining legal compliance.413 Additionally, international regulators could establish  --- rameworks  --- or in --- ormation sharing, allowing the regulators to identi --- y and respond to regulatory violations that span multiple jurisdictions.
 Cross-border en --- orcement protocols would reduce the risk o ---

regulatory arbitrage, where DeFi plat

orms might migrate to jurisdictions with weaker regulatory oversight. By — ostering a uni — ied international approach, this solution ensures that DeFi plat — orms — ace consistent regulatory standards and en — orcement, regardless o — where they operate or where their users are located.

1. E. Napoletano, What Is DeFi? Understanding Decentralized Finance, FORBES ADVISOR (Apr. 28, 2023, 2:14 PM), https://www. — orbes.com/advisor/investing/cryptocurrency/de — i- decentralized- — inance/ [https://perma.cc/VD4Z-5WRL].
2. Rahul Advani & Caren Tso, Bridging the Gap: Public-Private Collaboration in Digital Asset Innovation, RIPPLE INSIGHTS (Sep. 13, 2024), https://ripple.com/insights/bridging-the-gap-public-private-collaboration- in-digital-asset-innovation/ [https://perma.cc/KW3V-ZUKA].
3. Id.

4. IOSCO Crypto-Asset Roadmap

   or 2022-2023, Executive Summary, INT’L ORG. OF SECS. COMM’NS (July 7, 2022), https://www.iosco.org/library/pubdocs/pd — /IOSCOPD705.pd —

[https://perma.cc/RV79-ESXF].

1. Id. 76 LOUISIANA LAW REVIEW [Vol. 86

 3. Specialized Regulatory Units

 Given the unique nature o ---  DeFi, traditional regulatory bodies may struggle to keep pace with the rapid innovation in the space.414 As such, there is a growing call  --- or the establishment o ---  specialized regulatory units dedicated to overseeing the DeFi ecosystem.415 These units would be sta ---

ed by experts in blockchain technology, smart contract auditing, and cryptocurrency regulations, providing targeted oversight — or the unique challenges posed by DeFi plat — orms.416

C. Balancing Decentralization with E

ective En — orcement

 Ultimately, the key challenge  --- or en --- orcing regulation in the DeFi space is balancing the inherent value o ---  decentralization with the need  --- or e ---

ective en — orcement.417 While the decentralization o —

inance o —

ers many bene — its, it can also create risks that, i — le — t unchecked, could threaten the stability o — the — inancial ecosystem. The solutions proposed here— sel — -regulation through ĐAOs, international cooperation, and specialized regulatory units—o —

er a comprehensive approach to en — orcement that allows DeFi plat — orms to maintain their decentralized nature while still adhering to essential regulatory requirements.418 The — unction-based sa — e harbor — ramework can be a key tool in achieving this balance by incentivizing plat — orms to implement these sel — -regulation mechanisms, ensuring cross-border compliance, and

ostering collaboration with specialized regulatory bodies. By creating a cohesive, — lexible regulatory system, the — ramework can help sa — eguard the integrity o — DeFi while allowing it to continue evolving and innovating within a secure and well-regulated environment.

1. Ivanontech, Decentralized Finance: What Is DeFi and Why Do We Need It?, ACAD. (Jan. 17, 2021), https://academy.moralis.io/blog/decentralized-

inance-what-is-de — i-and-why-do-we-need-it [https://perma.cc/C6U8-ANU8].

1. Benjamin Whitby, How Should We Regulate DeFi?, TECHCRUNCH (Dec. 8, 2021, 11:30 AM), https://techcrunch.com/2021/12/08/how-should-we- regulate-de — i/ [https://perma.cc/3KGM-L46T].
2. Id.
3. Victoria Chynoweth, Decentralization Vs. Regulation: The Crypto Community’s Crossroads, FORBES (Feb. 20, 2024, 11:25 AM), https://www. — orbes.com/sites/digital-assets/2024/02/20/decentralization- vs-regulation-the-crypto-communitys-crossroads/ [https://perma.cc/B89C- 7Y2E].
4. Id. 2025] FUNCTION OVER FORM 77

Specialized units could be created within existing regulatory bodies, such as the SEC or CFTC, or as standalone entities with the sole  --- ocus on decentralized  --- inance.419 These units would be responsible  --- or monitoring the DeFi space, ensuring compliance with the  --- unction-based sa --- e harbor

ramework, and coordinating with international bodies to ensure global consistency in en — orcement. Specialized regulators would also be able to provide guidance to DeFi plat — orms on compliance best practices, helping to avoid unintended legal violations and ensuring that innovation continues within a secure, well-regulated environment.

    PART V. DRAWBACKS AND MITIGATION STRATEGIES FOR THE
                       FRAMEWORK

While the  --- unction-based sa --- e harbor  --- ramework o ---

ers an innovative approach to regulating DeFi, it is not without potential drawbacks. As with any regulatory system, there are inherent risks o — misapplication, over-simpli — ication, or unintended consequences. Addressing these drawbacks is crucial to ensuring that the — ramework achieves its goals o —

ostering innovation, protecting investors, and maintaining market integrity. This section outlines the primary drawbacks o — the — ramework and proposes mitigation strategies that can ensure its continued e —

ectiveness and adaptability.

A. Potential Drawbacks

While the  --- unction-based sa --- e harbor  --- ramework o ---

ers signi — icant advantages — or regulating DeFi, it is essential to acknowledge potential drawbacks and propose mitigation strategies to ensure the — ramework’s e —

ectiveness.

1. Abuse or Exploitation

A potential drawback o ---  the sa --- e harbor  --- ramework is that some DeFi plat --- orms might exploit the regulatory bene --- its o ---  the sa --- e harbor without

ully committing to the intended sa — eguards or compliance measures. Plat — orms could potentially use the sa — e harbor provision as a loophole,

1. Statement o

   Commissioner Christy Goldsmith Romero on CFTC’s Digital Assets and Blockchain Technology Subcommittee Release o —

Decentralized Finance Report, COMMODITY FUTURES TRADING COMM’N (Jan. 8, 2024), https://www.c — tc.gov/PressRoom/SpeechesTestimony/romerostatement01 0824b [https://perma.cc/3LLE-ERNQ]. 78 LOUISIANA LAW REVIEW [Vol. 86

taking advantage o

its protections while — ailing to meet the security, transparency, and governance requirements that are integral to maintaining market integrity. This exploitation could undermine the trust and sa — ety that the — ramework aims to build. For example, DeFi plat — orms could circumvent the more stringent requirements — or security audits, reserve transparency, or governance standards by claiming sa — e harbor status without implementing meaning — ul re — orms. Such exploitation could lead to situations where the — ramework encourages minimum compliance or negligence, instead o —

ostering innovation responsibly.

 2. Over-Simpli --- ication o ---  Complex Risks

Another challenge is the oversimpli --- ication o ---  the complex risks associated with DeFi. While the  --- ramework is designed to address a wide array o ---  DeFi-speci --- ic risks, including technical vulnerabilities, market manipulation, and jurisdictional issues, there is a risk that it could  --- ail to

ully account — or the nuanced and evolving nature o — the space. For instance, as new — inancial products or innovative mechanisms emerge within DeFi, the — ramework may need to adapt quickly to accommodate novel risks that were not — oreseen during development. Moreover, certain risks, such as counterparty risk, plat — orm insolvency, or data breaches, may be inherent to DeFi and di —

icult to address through regulatory

rameworks alone. Attempting to create a one-size- — its-all approach might lead to regulatory oversight gaps or a — alse sense o — security that — ails to adequately protect users.

 3. Jurisdictional Challenges

 DeFi operates in a borderless, global ecosystem, which presents signi --- icant jurisdictional challenges  --- or regulators.420 The decentralized nature o ---  DeFi plat --- orms means that they o --- ten lack a physical presence in any single jurisdiction, making it di ---

icult to determine which laws or regulatory bodies should have authority.421 The absence o — centralization allows DeFi to bypass existing national regulatory structures, leading to jurisdictional con — licts and inconsistent en — orcement.422 This decentralized aspect o — DeFi could lead to regulatory arbitrage, where plat — orms or their users move operations to jurisdictions with more lenient regulations, undermining e —

orts to establish consistent, global

1. Uzougbo, supra note 11.
2. Id.
3. Id. 2025] FUNCTION OVER FORM 79

standards.423 The

ramework might not — ully address these challenges, as it operates primarily within individual jurisdictions, potentially leading to uneven application across di —

erent regions.424

B. Mitigation Strategies

Several strategies are crucial to mitigate the  --- unction-based sa --- e harbor  --- ramework’s potential drawbacks, such as abuse, oversimpli --- ication o ---  risks, and jurisdictional challenges. These strategies include implementing mechanisms  --- or periodic reviews and updates to ensure the  --- ramework remains relevant and e ---

ective. Additionally, promoting transparency and disclosure among participating DeFi plat — orms can help mitigate abuse and enable regulators to assess compliance. Lastly, — ostering international cooperation and regulatory harmonization can address jurisdictional challenges and prevent arbitrage, ensuring accountability regardless o — plat — orm location.

1. Periodic Reviews and Updates

To mitigate the potential  --- or abuse or exploitation, the  --- ramework should include periodic reviews and updates to ensure that plat --- orms continue to meet the sa --- e harbor’s requirements over time. These reviews would assess whether plat --- orms are adhering to security protocols, transparency standards, and governance practices. Regular evaluations would help prevent plat --- orms  --- rom exploiting the  --- ramework by ensuring that they are consistently improving their practices in line with the evolving risks and challenges in the DeFi space.
Additionally, updates to the  --- ramework could incorporate new insights and technological advancements, ensuring that the regulatory approach remains relevant and e ---

ective as DeFi continues to innovate. By requiring plat — orms to undergo annual audits and sel — -assessments, the — ramework would ensure continuous alignment with best practices, promoting a culture o — ongoing compliance.

2. Enhanced Transparency and Disclosure

To address the risk o ---  oversimpli --- ication o ---  complex risks, the

ramework could require enhanced disclosure and reporting requirements. For example, plat — orms seeking sa — e harbor status could be required to

1. Thomas, supra note 364.
2. Id. 80 LOUISIANA LAW REVIEW [Vol. 86

provide detailed risk assessments, disclose smart contract vulnerabilities, and show proo — o — resilience against potential systemic risks. This disclosure would ensure that the — ramework re — lects the complex nature o —

DeFi by providing regulators and users with comprehensive insights into a plat — orm’s operations. Furthermore, the — ramework should encourage plat — orms to engage in sel — -reporting and third-party audits to veri — y that they are maintaining high standards o — security, liquidity, and governance. By mandating these robust disclosure practices, the — ramework ensures that plat — orms remain accountable — or the risks they pose to users and the broader ecosystem.

 3. International Cooperation and Harmonization

To mitigate the challenges posed by jurisdictional  --- ragmentation, the

ramework should promote international cooperation and harmonization o — DeFi regulations. Regulatory bodies across di —

erent jurisdictions should collaborate to establish global standards — or DeFi plat — orms, ensuring that the plat — orms meet consistent requirements related to security, market conduct, and investor protection. The — ramework could encourage cross-border regulatory agreements that create uni — ied guidelines — or DeFi, making it easier to address jurisdictional challenges and prevent regulatory arbitrage. By — ostering collaboration between international regulators, the — ramework would help align en — orcement standards and create a more cohesive, global regulatory environment — or DeFi plat — orms. This collaboration would prevent plat — orms — rom exploiting weaker regulatory jurisdictions and ensure that DeFi remains a stable and reliable part o — the global — inancial system.

 PART VI. IMPLEMENTATION OF THE SAFE HARBOR FRAMEWORK

The  --- unction-based sa --- e harbor  --- ramework represents a novel approach to regulating DeFi, o ---

ering a balanced solution that encourages innovation while ensuring the stability, transparency, and security o — the ecosystem. Its success — ul implementation requires care — ul planning and coordinated e —

orts between DeFi plat — orms, regulators, and other stakeholders. This section outlines the steps necessary to e —

ectively implement the sa — e harbor — ramework, emphasizing the importance o —

phased rollouts, collaboration with DeFi plat

orms, and ongoing monitoring and adaptation. 2025] FUNCTION OVER FORM 81

A. Phased Implementation Approach

 A gradual phased rollout o ---  the sa --- e harbor  --- ramework will allow both regulators and DeFi plat --- orms to evaluate the  --- ramework’s e ---

ectiveness and make necessary adjustments be — ore — ull implementation. The initial phase could — ocus on early adopters—DeFi plat — orms that are already committed to best practices in governance, security, and transparency. By starting with a select group o — plat — orms, regulators can collect valuable

eedback and assess how well the — ramework works in practice. Initially, pilot programs can launch with a select group o — DeFi plat — orms that volunteer to participate and meet the sa — e harbor criteria. These pilot programs will provide valuable insights into the practical implementation o — the — ramework and allow — or adjustments based on real-world experience. Pilot programs can also be launched to test key components o — the

ramework, such as security audits, stress testing, and liquidity bu —

er requirements. These programs would allow regulators to identi — y challenges and re — ine the — ramework’s provisions be — ore scaling it to the broader DeFi ecosystem. Moreover, these pilots could serve as a proo — o —

concept, demonstrating the

easibility and bene — its o — the sa — e harbor

ramework to the broader industry.

B. Collaboration with DeFi Plat

orms

The success o ---  the  --- unction-based sa --- e harbor  --- ramework depends on the cooperation o ---  DeFi plat --- orms. To incentivize compliance, regulators should engage in collaborative partnerships with DeFi plat --- orms,  --- ostering an environment o ---  trust and mutual understanding. Plat --- orms seeking sa --- e harbor protection will need to meet speci --- ic standards  --- or security, governance, and transparency, and regulators can help guide plat --- orms through this process by providing clear guidelines, educational resources, and technical support.
As the pilot programs demonstrate success and regulatory con --- idence grows, the sa --- e harbor  --- ramework can gradually expand to include a broader range o ---  DeFi plat --- orms. This gradual expansion will allow regulators to monitor the  --- ramework’s impact on the DeFi ecosystem and make any necessary adjustments along the way. Moreover, regulators and DeFi plat --- orms should work together to develop best practices  --- or security audits, risk management, and compliance reporting. This partnership will help create a  --- ramework  --- or continuous improvement, where DeFi plat --- orms can proactively address risks while bene --- iting  --- rom regulatory certainty and reduced legal exposure.

82 LOUISIANA LAW REVIEW [Vol. 86

C. Incentivizing Compliance and Participation

 To encourage widespread participation in the sa --- e harbor  --- ramework, DeFi plat --- orms should be provided with clear incentives  --- or compliance. These incentives can include legal certainty and regulatory clarity, which allow plat --- orms to operate within a de --- ined legal  --- ramework and avoid the risk o ---  en --- orcement actions. Additionally, plat --- orms that comply with the sa --- e harbor requirements could be eligible  --- or expedited approval  --- rom regulators or receive market recognition through certi --- ication or branding that demonstrates the plat --- orm’s commitment to regulatory standards.
 Incentives can also take the  --- orm o ---  reduced regulatory burden  --- or plat --- orms that meet high compliance standards. For example, plat --- orms that demonstrate strong governance practices, transparent  --- inancial reporting, and e ---

ective risk mitigation strategies might be exempt — rom certain regulatory requirements or enjoy — aster approval processes — or new products and services.

D. Continuous Monitoring and Adaptation

The DeFi ecosystem is evolving rapidly, with new technologies and

inancial products emerging regularly. As such, the sa — e harbor — ramework must remain adaptive to new developments and challenges. Continuous monitoring and adaptation will be crucial to ensure that the — ramework remains relevant and e —

ective in the — ace o — ongoing innovation. To — acilitate this evolution, the — ramework should include mechanisms

or regular reviews and updates. This process could involve periodic assessments o — the e —

ectiveness o — the — ramework’s provisions, taking into account — eedback — rom industry participants, regulators, and other stakeholders. These reviews could also analyze emerging risks and assess how the — ramework can adapt to address new challenges. Moreover, regulators should stay in — ormed about technological advancements and market trends, ensuring that the — ramework evolves alongside the DeFi space. This dynamic regulatory approach will help DeFi plat — orms continue to innovate while maintaining the sa — eguards needed to protect users and maintain market integrity.

E. Collaboration with Existing Regulatory Bodies

While the  --- unction-based sa --- e harbor  --- ramework represents a signi --- icant step  --- orward in regulating DeFi, it should not be implemented in isolation. Collaboration with existing regulatory bodies such as the

2025] FUNCTION OVER FORM 83

SEC, CFTC, and FinCEN is essential to ensuring that DeFi plat

orms are held to consistent standards across di —

erent areas o — regulation. To address these challenges, an inter-agency task — orce could provide a uni — ied approach to DeFi regulation, coordinating en — orcement actions and harmonizing regulatory standards. This model would align with the

unction-based sa — e harbor — ramework, enabling agencies to assess DeFi plat — orms based on their economic roles while minimizing jurisdictional con — licts. Regulators — rom di —

erent sectors—securities, commodities, banking, and AML—must work together to create a cohesive regulatory approach

or DeFi. This collaboration could involve cross-agency task — orces or interdisciplinary panels to coordinate en — orcement e —

orts and address complex regulatory issues. International cooperation will also be crucial, as many DeFi plat — orms operate globally, transcending national borders. Given the global nature o — DeFi, international regulatory cooperation is essential. Drawing inspiration — rom — rameworks like the EU’s MiCA, the U.S. could work with global regulators to establish consistent standards — or DeFi plat — orms, reducing regulatory arbitrage and — ostering a stable, trustworthy ecosystem.

F. Stakeholder Engagement and Education

For the sa --- e harbor  --- ramework to be e ---

ective, stakeholder engagement and education will be key. Regulators must engage with DeFi plat — orms, investors, and users to ensure they understand the — ramework’s requirements and bene — its. This education can be achieved through programs, webinars, and guidance documents that clari — y the compliance process and promote best practices in governance, transparency, and security. In addition to educating plat — orms, it is equally important to raise awareness among users o — DeFi protocols. Users must understand the risks and protections a —

orded by the sa — e harbor — ramework, enabling them to make more in — ormed decisions when interacting with DeFi plat — orms. By engaging with both industry participants and end-users, regulators can ensure that the — ramework is widely understood and embraced. Public-private collaboration can play a pivotal role in bridging the gap between DeFi’s decentralized ethos and the centralized oversight required

or market integrity. Industry stakeholders, regulators, and developers could co-create guidelines that align with the principles o — the sa — e harbor

ramework, ensuring that regulation remains adaptable and innovation- — riendly. 84 LOUISIANA LAW REVIEW [Vol. 86

                           CONCLUSION

The emergence o ---  DeFi presents both immense opportunities and unprecedented challenges  --- or the  --- uture o ---

inance. While DeFi o —

ers the potential — or greater — inancial inclusion, innovation, and economic empowerment, it also necessitates a regulatory approach that can e —

ectively address DeFi’s unique characteristics and mitigate its inherent risks. As the DeFi ecosystem evolves rapidly, the need — or a dynamic,

lexible regulatory — ramework becomes increasingly clear. This Article has proposed a — unction-based sa — e harbor — ramework as a solution to the regulatory challenges posed by DeFi. By shi — ting the — ocus

rom the — orm o — DeFi instruments to their economic — unction, this

ramework o —

ers greater clarity and certainty — or both regulators and market participants. The sa — e harbor provision incentivizes compliance and — osters innovation, while the — ramework’s — ocus on technical sa — eguards, en — orcement mechanisms, and cross-border considerations addresses the speci — ic risks associated with DeFi. To ensure the success — ul implementation o — this — ramework, a phased approach is crucial. The initial phase should involve pilot programs with select DeFi plat — orms, — ollowed by gradual expansion as experience and con — idence grow. These pilot programs would allow regulators to

ine-tune the — ramework, gather — eedback, and establish a clear understanding o — its practical impact. Collaboration between regulators, DeFi plat — orms, and industry stakeholders will be essential, — ostering open dialogue, providing clear guidance, and establishing robust — eedback mechanisms to ensure the — ramework remains adaptable to the rapidly evolving DeFi landscape. Additionally, the — ramework’s success hinges not only on domestic e —

orts but also on international cooperation. Global harmonization o —

regulatory approaches is critical to preventing regulatory arbitrage and ensuring consistent standards across borders. This collaborative e —

ort will

oster a level playing — ield — or DeFi plat — orms while promoting responsible innovation on a global scale. Addressing jurisdictional challenges in this decentralized environment requires that regulators — rom di —

erent nations actively engage in creating standards that both protect consumers and ensure that DeFi plat — orms can scale globally. While the — unction-based sa — e harbor — ramework provides a robust regulatory solution, challenges remain. These challenges include the risk o — abuse o — the sa — e harbor provisions, the oversimpli — ication o — complex DeFi risks, and the inherent jurisdictional challenges o — applying traditional regulatory approaches to decentralized plat — orms. To mitigate these risks, ongoing periodic reviews, enhanced transparency, and 2025] FUNCTION OVER FORM 85

international cooperation are essential. These strategies ensure that the

ramework remains responsive and adaptable to emerging risks, balancing the — reedom to innovate with the need to protect investors and ensure market stability. Looking — orward, the — unction-based sa — e harbor — ramework o —

ers a promising path to regulate DeFi in a manner that balances innovation, market integrity, and investor protection. This — ramework is not a static solution but a dynamic tool that must evolve with the ecosystem. Continuous dialogue and collaboration between regulators, DeFi plat — orms, and international bodies will be essential to — ine-tune the

ramework, address emerging risks, and maintain its relevance over time. By embracing this approach, regulators can — oster a thriving DeFi ecosystem that bene — its all stakeholders while sa — eguarding against systemic risks and ensuring the responsible growth o — this trans — ormative technology. This is ultimately a legislative task. Agency guidance and case-by- case settlements are use — ul pilots, but they cannot reset the boundary o —

“securities” or supply a uni

orm rule across jurisdictions and administrations. A — unction-based sa — e harbor should be enacted by Congress so that its scope and sa — eguards are — ixed in law, agencies are bound, discretion is cabined, and the result is durable, national clarity — or innovation and consumer protection.425

425 Public-choice theory predicts agency expansion and jurisdictional entrenchment. See William A. Niskanen, BUREAUCRACY AND REPRESENTATIVE GOVERNMENT (1971); George J. Stigler, The Theory o — Economic Regulation, 2 BELL J. ECON. & MGMT. SCI. 3 (1971); Sam Peltzman, Toward a More General Theory o — Regulation, 19 J.L. & ECON. 211 (1976); Jonathan R. Macey, Administrative Agency Obsolescence and Interest Group Formation: A Case Study o — the SEC at Sixty, 15 CARDOZO L. REV. 909 (1994); Daniel P. Carpenter, REPUTATION AND POWER: ORGANIZATIONAL IMAGE AND PHARMACEUTICAL REGULATION AT THE FDA (2010). Courts, by contrast, are institutionally slow and incremental. See Neil K. Komesar, IMPERFECT ALTERNATIVES: CHOOSING INSTITUTIONS IN LAW, ECONOMICS, AND PUBLIC POLICY (1994); Cass R. Sunstein, ONE CASE AT A TIME: JUDICIAL MINIMALISM ON THE SUPREME COURT (1999); Alexander M. Bickel, THE LEAST DANGEROUS BRANCH (1962); Admin. O —

ice o — the U.S. Courts, Federal Judicial Caseload Statistics, Table C-5: U.S. District Courts—Median Time — rom Filing to Disposition o — Civil Cases (Dec. 31, 2024; Mar. 31, 2025). Token litigation has borne this out. See, e.g., SEC v. Kik Interactive Inc., 492 F. Supp. 3d 169 (S.D.N.Y. 2020); SEC v. LBRY, Inc., No. 21-cv-260-PB, 2022 WL 16744741 (D.N.H. Nov. 7, 2022); SEC v. Ripple Labs Inc., No. 20 Civ. 10832 (AT), 2023 WL 4507900 (S.D.N.Y. July 13, 2023). Meanwhile, the SEC can halt distribution early via injunctions under a public- interest standard. See SEC v. Telegram Grp. Inc., 448 F. Supp. 3d 352 (S.D.N.Y. 2020); SEC v. Uni — und SAL, 910 F.2d 1028, 1036–38 (2d Cir. 1990); SEC v. Mgmt. Dynamics, Inc., 515 F.2d 801, 808–09 (2d Cir. 1975). And post–Loper 86 LOUISIANA LAW REVIEW [Vol. 86

As the DeFi space continues to mature,  --- uture research and policy development will be critical in re --- ining this  --- ramework, especially as new technologies and  --- inancial instruments emerge. Further studies on the real-world application o ---  the sa --- e harbor  --- ramework, as well as comparative international regulatory models, will provide valuable insights into how the  --- ramework can be enhanced and adapted to meet the evolving needs o ---  the DeFi ecosystem. This iterative process will ensure that DeFi can thrive responsibly within a secure, transparent, and well-regulated environment,  --- ostering innovation while sa --- eguarding the integrity o ---  the global  --- inancial ecosystem.

                             ACRONYMS

AML – Anti-Money Laundering: Laws and regulations designed to prevent criminals — rom disguising illegally obtained — unds as legitimate income. O — ten used together with KYC requirements.

CBDC – Central Bank Digital Currency: A digital

orm o — a country’s — iat currency issued and backed by its central bank, o — ten designed to combine state backing with programmable transaction — eatures.

CFTC – Commodity Futures Trading Commission: A U.S.

ederal agency regulating derivatives markets, including — utures, swaps, and certain cryptocurrencies.

CDO – Collateralized Debt Obligation: A structured

inancial product backed by a pool o — loans or other assets, with tranches that have varying risk and return pro — iles.

CeFi – Centralized Finance: Financial services

or cryptocurrencies provided by centralized entities (e.g., exchanges, lenders) that retain custody o — user assets.

CLARITY Act – Digital Asset Market Clarity Act o

2025: U.S. legislation passed by the House in July 2025 to clari — y regulatory jurisdiction between the SEC and CFTC. It de — ines “digital commodities,” grants CFTC oversight — or mature blockchain systems, creates preliminary registration categories — or exchanges, brokers, and dealers, and streamlines the regulatory treatment o — digital assets.

Bright, agency guidance is a potentially unstable vehicle

or a durable national rule. See Loper Bright Enters. v. Raimondo, 144 S. Ct. 2244 (2024). 2025] FUNCTION OVER FORM 87

DAO – Decentralized Autonomous Organization: An organization governed by smart contracts on a blockchain, allowing members to vote on proposals without centralized control. Stylized here as ÐAO in the text.

dApps – Decentralized Applications: Applications built on blockchain technology that operate without a central authority, typically powered by smart contracts.

DeFi – Decentralized Finance: A

inancial system built on blockchain technology that operates without intermediaries like banks or — inancial institutions.

DEX – Decentralized Exchange: A peer-to-peer plat

orm that allows users to trade cryptocurrencies without relying on a central authority.

ETH – Ethereum: A blockchain plat

orm that supports smart contracts and decentralized applications. Also used to re — er to the native cryptocurrency o — the Ethereum blockchain, the second-largest cryptocurrency by market capitalization.

ETC – Ethereum Classic: A blockchain plat

orm created as a result o — a hard — ork o — Ethereum — ollowing the ÐAO hack. It maintains the original Ethereum blockchain without reversing the ÐAO exploit transactions.

FATF – Financial Action Task Force: An intergovernmental body that develops policies and sets standards to combat money laundering, terrorist

inancing, and other — inancial crimes.

FinCEN – Financial Crimes En

orcement Network: A U.S. bureau tasked with en — orcing laws against money laundering and — inancial crimes.

GENIUS Act – Guiding and Establishing National Innovation

or U.S. Stablecoins Act o — 2025: U.S. — ederal law establishing a comprehensive

ramework — or payment stablecoins. Requires 1:1 reserves in low-risk assets, mandates regular audits and disclosures, restricts issuance to permitted entities, and subjects issuers to — ederal oversight to ensure stability and consumer protection.

IOSCO – International Organization o

Securities Commissions: An international body that sets global standards — or securities regulation and promotes e —

icient markets. 88 LOUISIANA LAW REVIEW [Vol. 86

KYC – Know Your Customer: Processes used by

inancial institutions and plat — orms to veri — y the identity o — users, ensuring compliance with AML regulations.

MiCA – Markets in Crypto-Assets Regulation: An EU regulation providing a comprehensive — ramework — or the regulation o —

cryptocurrencies and digital assets.

NFT – Non–Fungible Token: A unique digital asset that represents ownership o — a speci — ic item, artwork, or collectible on a blockchain.

P2P – Peer-to-Peer: A decentralized network structure in which two or more computers (peers) share resources and data directly, without going through a centralized server.

PoW / PoS – Proo

-o — -Work / Proo — -o — -Stake: Consensus mechanisms used by blockchains to validate transactions and secure the network. PoW requires computational work; PoS requires validators to stake tokens.

SEC – U.S. Securities and Exchange Commission: A

ederal agency responsible — or en — orcing securities laws and regulating securities markets in the United States.

Stablecoin – A type o

cryptocurrency designed to maintain a stable value, typically pegged to a re — erence asset such as the U.S. dollar ( — iat-backed stablecoins) or maintained through algorithmic mechanisms (algorithmic stablecoins). Used in trading, payments, and decentralized — inance to reduce volatility.

USD – United States Dollar: The o

icial currency o — the United States, o — ten used as a benchmark — or stablecoins in the cryptocurrency ecosystem.

USDC – USD Coin: A

iat-backed stablecoin pegged to the U.S. dollar, issued by regulated — inancial institutions.

USDT – Tether: A

iat-backed stablecoin pegged to the U.S. dollar, widely used in the cryptocurrency market — or liquidity and trading.

Wrapper – A legal entity, such as a limited liability company (LLC) or

oundation, used to give a decentralized organization or blockchain-based 2025] FUNCTION OVER FORM 89

project a recognized legal

orm. Wrappers can provide limited liability, tax treatment, and regulatory compliance while the underlying governance remains decentralized.

UST – TerraUSD: An algorithmic stablecoin that lost its peg to the U.S. dollar and collapsed in 2022, resulting in signi — icant losses and regulatory attention in the DeFi ecosystem.

                                 ***