Balancing Privacy and Compliance in DeFi: A Zero-Knowledge-Based Auditable Cross-Chain Framework

2026-08-15

AI Summary

This study addresses the fundamental conflict between privacy preservation and regulatory compliance in decentralized finance (DeFi) cross-chain transactions by proposing a novel auditable cross-chain protocol paradigm. By systematically integrating zero-knowledge proofs, light client verification, and threshold view key mechanisms, the framework enables trustless compliance verification while safeguarding user privacy. This approach effectively satisfies regulatory standards, including those mandated by the Financial Action Task Force (FATF), thereby resolving critical challenges in compliant interoperability. Consequently, this work establishes a new benchmark for synergizing privacy with regulation, offering a secure and practical technical pathway for RegTech and compliant DeFi ecosystems that balances confidentiality with necessary oversight.

Abstract

With the rise of decentralized finance (DeFi), cross-chain transactions, transfers of assets across different blockchain networks, face a fundamental conflict between user privacy and regulatory compliance. Unlike single-chain systems, cross-chain environments must balance privacy and auditability across heterogeneous architectures. Existing solutions, from transparent ledgers to anonymous cryptocurrencies, fail to reconcile these two requirements, hindering regulatory adoption. This research proposes an auditable cross-chain framework that integrates three building blocks. First, zero-knowledge proofs (ZKPs) verify transaction compliance (e.g., amount non-negativity, signature validity) without revealing transaction details. Second, a light-client mechanism enables trust-minimized cross-chain verification without relying on third-party relayers. Third, a threshold view-key mechanism based on distributed key generation (DKG) ensures that audit access is granted only to authorized entities under legal triggers such as the FATF Travel Rule and MiCA Regulation. For cross-border investigations, the framework adheres to national laws and the EU Directive on Mutual Legal Assistance. This work systematically combines ZKPs, threshold cryptography, and light-client verification into an auditable, privacy-preserving cross-chain protocol. It contributes to Regulatory Technology (RegTech) and provides a viable path toward compliant, interoperable decentralized finance.

Problem

• DeFi
• Cross-chain
• Privacy
• Regulatory Compliance
• Auditability

Innovation

• Zero-Knowledge Proofs
• Auditable Cross-Chain
• Threshold View-Key
• Light-Client Verification
• RegTech