The central bank of central banks is concerned about "decentralized finance".
The Bank for International Settlements, an umbrella organization of the central banks, said in a report this week that it feared a “decentralization illusion” in DeFi.
DeFi is a rapidly growing part of the cryptocurrency market that promises to provide traditional financial products like loans and savings accounts without the involvement of regulated middlemen like banks.
However, regulators are increasingly concerned about platforms that offer DeFi services that may not be as "decentralized" as advertised.
"We found that the decentralized aspect is firstly illusory," said Agustín Carstens, General Manager of the BIS, Julianna Tatelbaum of CNBC on Tuesday.
"There are some incentive issues related to the fact that this decentralization will eventually end up with some agents who play an important role, and not necessarily in the best [interests] of financial service users."
The central banking group did not provide specific names in response to their concerns.
The BIS said DeFi needed to be "properly regulated" to protect investors and build confidence in the market.
Timo Lehes, a co-founder of the decentralized crypto exchange Swarm Markets, accepted that there was progress to be made at DeFi, but said numerous institutions in the area are already working to address the systemic issues reported by the BIS.
"Ultimately, each protocol will have to decide whether to move to a compliant business model," Lehes said in an email on Tuesday.
"There is a lot to be gained from working within the regulatory framework that is designed to protect investors and maintain market access."
Many DeFi services are based on Ethereum, the blockchain network behind Ether, the second largest cryptocurrency in the world. Transactions are facilitated by so-called smart contracts, which automate various processes with lines of code.
According to data from crypto news and research firm The Block, more than $ 100 billion worth of money is currently sitting on Ethereum-based DeFi protocols. The largest platforms in this area include Maker, Curve and Compound.
DeFi sites lure investors with the promise of huge returns on their loans and savings. However, they are increasingly being targeted by hackers and scammers. Over $ 10 billion has been lost to DeFi fraud and theft so far in 2021, according to blockchain analytics firm Elliptic.
The BIS said it believes that the risks surrounding DeFi are currently contained for crypto markets, but that "DeFi’s growth raises concerns about financial stability in the future".
The group pointed to "serious" weaknesses in the industry, including heavily indebted trades, liquidity problems and the lack of shock absorbers such as banks.
"It is important that we as authorities do not feel complacent," said Carstens. "There may be aspects that are safe, but there are also aspects that are not and I think that should make us think about it seriously."