China’s Bitcoin Ban May Be Bullish for DeFi – But Only Briefly

DeFi token prices surged amid the recent crackdown, but some insiders doubt it will last.

Sep 29, 2021
CoinDesk Insights

A price rally for the native tokens of leading decentralized finance (DeFi) protocols came as no surprise after China tightened its crackdown on crypto trading, because DeFi trading platforms are, in theory, resistant to censorship

But according to Chinese DeFi founders, investors and legal experts, the bullish view on DeFi amid the ban on crypto-related activities could be short term, as they note that DeFi innovation in China will be killed in its infancy and capital flows from China to DeFi will gradually die down.

A Sept. 24 notice – which was co-signed by 10 Chinese government agencies, including the three main bodies of China’s judicial system – made it clear for the first time that China’s government forbids crypto-to-crypto trading and that individuals who live in China but work for offshore crypto exchanges are subject to legal prosecution. That set boundaries on what had previously been gray legal areas.

“The Sept 24 notice clarified the exercise of territorial jurisdiction over relevant employees from overseas virtual currency exchanges,” a note by Shanghai-based law firm Zhihe Partners published on Monday said. “By analogy, this territorial jurisdiction is also applicable to relevant employees based in China who work for decentralized finance (‘defi’) that has not established a legal entity.”

China’s authorities also warned crypto projects that have issued tokens that if their actual controllers are Chinese residents, it would be “necessary” to “carefully assess” new risks.

The crackdown prompted centralized exchange Huobi to begin to stop providing its service in China, and similarly, many Chinese DeFi projects are giving up their market in China, according to sources who agreed to speak to CoinDesk on condition of anonymity because of the sensitive nature of the subject.

“Everyone is devastated,” one Chinese DeFi investor and project founder told CoinDesk. “Some good projects have moved overseas, and many WeChat groups for projects have disbanded in the past few days.”

“We are doing everything we can, but we still don’t know if it’s enough,” said a second DeFi founder, who told CoinDesk that their project is leaving the China market.

China-based projects won’t be the only ones that are suffering in the DeFi sector.

As over-the-counter (OTC) desks in China become more constrained, Bobby Lee, the former head of what was once the biggest bitcoin exchange in China, BTCC, pointed out any new capital flows into DeFi from the lucrative Chinese market will slow down.

OTC desks, which facilitate peer-to-peer trades, are a popular way for investors in China to buy and sell crypto, especially after China banned fiat-to-crypto transactions in 2013.

“The speed of any new capitals into DeFi will slow down in China,” the first DeFi investor said. “It’s like a water pipe that’s forced to become thinner … in that way, the latest crackdown in China is also having a major [negative] impact on DeFi.”

Nevertheless, some remain positive that the crackdown will be a bullish catalyst for DeFi in the long run.

DeFi tokens like UNI, PERP and DYDX all rose in price after the crackdown was announced.

Ben Yorke, vice president of marketing at decentralized exchange (DEX) WOO Network, which is powered by Taiwan-based market maker Kronos Research, said that the ban will mainly affect the retail money from China, because most institutional Chinese crypto traders have moved abroad already.

China’s latest ban, which aims to protect retail investors, according to Yorke, is likely to push more Chinese crypto OGs (original gangsters) who are overseas to look into the DeFi market.

According to a tweet from WOO Network on Tuesday, its daily trading volume has hit multiple all-time highs in the past few days. Yorke said the rapid growth is because Kronos is a liquidity provider for dYdX, a popular DEX that’s seeing an explosive growth on both its token’s value and trading volume in the wake of China’s ban.

“The regulation is fragmenting liquidity away from market leaders and pushing it into DeFi and tier two exchanges … this round of regulation … is making it less attractive for users to rely on being in legal gray areas,” Yorke said. “At the moment, DeFi seems like a proactive way to minimize custodial or platform risk.”

DISCLOSURE

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Muyao is a reporter on the markets team. She is based in Brooklyn, New York. She holds less than one BTC.