How KYC became the norm in finance

Know Your Customer (KYC) systems existed long before cryptocurrencies. They were created to combat financial crimes. In 1970, the U.S. Bank Secrecy Act (BSA) mandated financial institutions to record large transactions.

Later, global regulators emerged. In 1989, the G7 established the Financial Action Task Force (FATF), which recommended countries implement anti-money laundering measures (AML). After the September 11 attacks, the U.S. introduced the PATRIOT Act, which tightened customer identification requirements.

By the 2020s, KYC became a widely accepted standard. In traditional finance, it is indispensable. Now these rules apply to crypto exchanges, DeFi platforms, and the tokenization of real assets (RWA).

Why is KYC important?

Regulators demand transparency. If cryptocurrency wants to integrate into the global financial system, it must comply with accepted norms.

KYC reduces fraud risks. There are still many scam projects and fraudsters in cryptocurrency. Verifying users helps establish a baseline level of trust and simplifies working with real assets, such as tokenized real estate or securities.

How does KYC harm the crypto market?

Opponents of KYC see it as a threat to privacy and financial freedom. Blockchain was created as an anonymous system, and KYC makes users vulnerable. Databases with passports and addresses regularly leak online. Criminals still find loopholes. KYC restricts law-abiding users but does not always stop fraudsters.

In DeFi, intermediaries are not needed, which means the traditional KYC model is ineffective. Code cannot 'run away with the money' like the owners of centralized exchanges do.

A new approach to user verification

Instead of KYC, we can switch to the Know Your Peer (KYP) concept — 'know your counterparty.' In DeFi, users interact directly, without intermediaries. They do not need to reveal their identity, but key data can be verified using Zero-Knowledge (ZK) proofs.

Examples of such solutions:

  • Privado.ID or zkPassports allow proving one's creditworthiness without revealing identity.

  • Chainalysis is already tracking suspicious addresses.

  • On-chain reputation can replace a passport. If a wallet has a clean transaction history, it is trustworthy.

How will this change the market?

Regulators are not yet ready to abandon KYC. But if the crypto industry shows that the DeFi community can filter risks on its own, the rules may change.

Instead of full identification, selective checks, cryptographic proofs, and reputation systems can be used. This will help find a balance between legal compliance and privacy protection.

If the crypto market can prove its safety without KYC, regulators may eventually accept new models. This will give users more freedom without compromising anonymity and accountability.