Understanding the ERC 7265 Standard
The DeFi (decentralized finance) ecosystem spawns new innovations to combat the challenges faced by the industry on a regular basis. One such innovation is the ERC 7265 protocol, an addition to the Ethereum DeFi ecosystem.
In this guide, we’ll have a look at what ERC 7265 is, what it brings to Web3, and how it might impact the DeFi space.
Before we dive in, remember that you can access the thousands of Web3 dApps using Trust Wallet, including many of the popular and niche DeFi dApps.
What Is DeFi?
Decentralized finance (DeFi) is a new type of Internet-native finance that provides financial products and services to anyone with a crypto wallet and Internet connectivity.
The use of the blockchain as an underlying technology allows DeFi applications to achieve decentralization, security, and transparency.
You can directly borrow, invest, lend, and trade using DeFi applications without relying on any central authority. This aspect of peer-to-peer (P2P) transactions makes DeFi an important technology in Web3.
Are there risks in DeFi?
But just like with any emerging technology, DeFi protocols can have security issues. Some of the security issues in DeFi protocols include exploitation from malicious projects, hacks, a lack of regulation, and smart contract vulnerabilities, among others. And while the cons don't necessarily outweigh the benefits, using secure tools when accessing DeFi applications is important.
Trust Wallet features an inbuilt Security Scanner that automatically informs people of risky transactions and malicious dApps. This way, people can make informed decisions while still having full control of their digital assets.
However, in spite of the measures Trust Wallet puts in place, the larger DeFi industry still needs enhanced security measures to help address overall security issues. One such possible solution to the problems in DeFi security is the introduction of the ERC 7265 standard on Ethereum.
The Problems in DeFi Security
DeFi has helped to improve access to financial services. However, it has also witnessed an increase in security breaches which have significantly impacted its protocol’s integrity and, consequently, people’s funds.
According to a report by DefiLlama, a DeFi analytics platform, the total value hacked in DeFi currently stands at $5.44 billion, with over 40 DeFi attacks leading to the loss of more than $500 million in 2023. Some of these DeFi attacks have been due to logic errors, manipulation of oracles, and re-entrancy attacks.
DeFi is currently considered the financial ecosystem of the future because of its promising technology. However, its security challenges must be addressed to boost user confidence and trust especially since its mainstream adoption is heavily reliant on how effective its security measures are against DeFi attacks. To address the growing security concerns faced by DeFi technology, the Ethereum community has proposed a new standard called ERC 7265.
The next section of this article will help you understand the ERC 7265 standard and its proposed risk mitigation in DeFi. In addition, we’ll also discuss the standard’s possible role in boosting DeFi adoption and the concerns it faces around centralization.
Understanding the ERC 7265 Standard
ERC 7265 is a new standard proposed by members of the Ethereum community that aims to promote the introduction of a ‘circuit breaker’ mechanism into DeFi protocols to prevent them from cyberattacks. The circuit breaker is designed to stop token transfers before they happen in the event of a suspected attack.
The proposed standard has gained notable attention among DeFi enthusiasts, given its potential to enhance security measures. DeFi projects are aware of the urgent need to offer solutions against protocol exploits and hacks. As a result, some DeFi projects built on Ethereum have begun exploring the use of the ERC 7265 to protect their protocols.
The standard would feature a smart contract interface that the ERC 7265 circuit breaker would use. The circuit breaker will be designed with a predetermined threshold for a given metric. Once the threshold is exceeded, the circuit breaker would halt token outflows across a protocol, preventing losses. Moreover, the mechanism would only function as a channel for token outflows and wouldn’t assume the structure of the underlying protocol.
To achieve correct internal accounting for merged protocols and provide developers with maximum flexibility, the circuit-breaking mechanism offers two options: delay the settlement and hold temporary custody of outflows during the cooldown period or revert attempted outflows.
Simply put, a developer can autonomously choose whether the circuit breaker should delay the settlement of tokens and be the temporary custodian of the said tokens or revert the attempted outflow. This technique gives developers full autonomy while boosting protocol stability and maintaining control. By incorporating this safeguarded measure, DeFi protocols can enjoy enhanced security which then minimizes potential losses.
ERC 7265 and Risk Mitigation in DeFi
The ERC 7265 standard, if adopted, can help mitigate risks in DeFi protocols and boost security in the following ways:
Introducing a circuit breaker mechanism can greatly impact the security of decentralized finance protocols. The mechanism is designed to temporarily pause token outflows, detect when certain metrics are exceeded, and indicate potential hazards. This helps to protect the DeFi protocol, maintain its stability, and prevent potential loss of customer funds.
Flexibility for Developers
The circuit breaker’s contract features two options that offer developers maximum flexibility to customize the mechanism based on their unique requirements. Developers can select an option that best suits the needs of their protocol, enabling them to maximize control and stability. This customization feature is important for protocols designed for different risk profiles, tokenomic designs, and use cases.
The ERC 7265 can help DeFi protocols achieve stability. Usually, DeFi market conditions are unpredictable, leading to anomalies in the system. During such times, the circuit breaker can help achieve stability in a DeFi protocol by assessing and immediately addressing possible issues by temporarily halting the outflow of tokens.
Halting token outflows helps to reduce the possibility of catastrophic failures, thus enabling protocols to be proactive instead of reactive. Moreover, the security offered by the ERC 7265 standard can boost people’s confidence and trust, further helping to boost the adoption of DeFi.
The ERC 7265 standard gives developers the flexibility to choose an option that suits their protocol. Because of this, developers can opt to either postpone a token settlement or regress an attempted outflow. Both options, by design, provide an additional layer of risk reduction. This versatility allows protocols to promptly tackle any unforeseen problems or risks. With such a fail-safe measure in place, DeFi protocols can reduce their overall risk profile or any potential losses.
The circuit breaker can be described as a safety feature that can help to reduce possible losses. It can, therefore, protect against the loss of people’s funds. But arguably, its most notable benefit is that it can prevent additional funds from being at risk in extreme conditions like a sudden market meltdown or a smart contract vulnerability. The preventive nature of the circuit breaker can also aid in the widespread adoption of DeFi applications and platforms.
ERC 7265's Possible Role in Boosting DeFi Adoption
A key question within the decentralized finance community is whether implementing the proposed ERC 7265 standard will boost DeFi adoption.
Currently, the ERC 7265 standard is the closest to a possible solution to common DeFi security flaws.
By implementing the standard, DeFi protocols can enjoy reduced risks caused by protocol weaknesses or potential losses due to unexpected market changes. The strengthened protocol security could leave people feeling a lot more secure, which can lead to the widespread adoption of decentralized finance.
In addition, the ERC 7265 standard has various use cases that can benefit DeFi projects. Developers who adopt the standard can do more than customize thresholds and mitigate losses. For instance, the standard has been built for protocols that can easily be upgraded by collective user governance. ERC 7265 can smoothly integrate with such DeFi projects since the protocol requires community buy-in, allowing them to enjoy the security benefits linked to it.
DeFi projects that proactively adopt the ERC 7265 standard can help rebuild user trust by showing people they want to protect their funds and are dedicated to addressing the vulnerabilities of their DeFi projects.
In addition, the development and implementation of the ERC 7265 standard is also a collaborative community effort. As a result, people can trust that the communities behind DeFi projects are keen on continuously innovating with the aim of enhancing their security measures.
Still, the success of the proposed ERC 7265 standard depends on several factors. Some of these factors include community support, successful implementation, and technical viability. However, since decentralized finance technology is an emerging technology that is rapidly evolving, new proposals and standards will continue to pop up over time.
Concerns About Centralization
The ERC 7265 is being primed as a potential solution to the security issues facing decentralized finance. However, there are some concerns that the introduction of the new standard would go against Ethereum’s principle of decentralization.
The main concern is that if developers are able to create the ERC 7265 protocol to suit their needs, they would be able to gain control of how transactions on a DeFi app on Ethereum operate. This implies that if a DeFi protocol isn’t entirely decentralized, the standard could be restricted to stop a DAO from having the majority of the decision-making power.
It’s important to remember, however, that the ERC 7265 standard is still a proposal that is yet to be approved by the Ethereum community. Adoption can only commence once the standard is passed.
Whether or not it will actually live up to its potential is something that DeFi enthusiasts globally will have to wait and see if the standard is accepted onto the Ethereum network.
The ERC 7265 standard is still in its proposal state and will need approval from the Ethereum community. However, its ability to address the security issues facing the DeFi protocol is something that is gaining momentum. The inclusion of a circuit breaker mechanism in DeFi protocols could potentially help improve security and reduce risks.
All in all, if adopted, the ERC 7265 standard can provide a safer environment for both individuals and investors thanks to the extra layer of security it offers. However, the standard heavily relies on community support for the proposal to be approved and then, eventually, implemented successfully.
In conclusion, DeFi, just like many other emerging innovations, is still evolving. Because of this, there may be newer proposals and standards that will come up as developers look to improve the entire DeFi ecosystem. With an innovative community backing it, the decentralized finance space is primed to become even more resilient and robust.