DeFi Risk Curation Failures and Investor Trust Erosion: A Governance and Accountability Crisis

The decentralized finance (DeFi) sector, once hailed as the future of open financial systems, has faced a series of high-profile collapses in 2023–2025 that have exposed critical flaws in institutional accountability and governance. From algorithmic stablecoin depegging to smart contract exploits, these failures have not only wiped billions in value but also eroded investor confidence in the sector's promise of transparency and decentralization. As the total value locked (TVL) in DeFi protocols plummeted from $150 billion to $130 billion in 2025, the question of how governance structures and accountability mechanisms failed to prevent these crises has become urgent for investors and developers alike, according to a BeInCrypto report.

Case Study 1: Balancer's $120M Exploit and Smart Contract Governance Gaps

In 2025, the Balancer protocol suffered a $120 million exploit due to a rounding error in its batchSwap function, allowing attackers to manipulate pool balances, according to the BeInCrypto report. This incident highlighted a critical governance failure: the lack of rigorous auditing for edge cases in complex smart contract logic. Despite post-attack measures like pausing affected pools and collaborating with cybersecurity firms to recover funds, the protocol's inability to prevent the exploit underscored a reliance on reactive rather than proactive governance. According to the BeInCrypto report, the attack was described as "one of the most sophisticated in 2025," revealing systemic vulnerabilities in DeFi's code-first governance model.

Case Study 2: Stream Finance's xUSD Collapse and Centralized Mismanagement

Stream Finance's xUSD stablecoin lost $93 million in value in 2025 due to mismanagement by an external fund manager, triggering a chain reaction that depegged interconnected stablecoins like deUSD and USDX, according to a CoinoTag analysis. This collapse exposed a paradox in DeFi: the use of centralized entities to manage decentralized assets. As the CoinoTag analysis noted, the incident led to over $42 billion in outflows from DeFi protocols, with Ethena's Staked USDe losing $400 million in redemptions. The failure here was not just technical but institutional-a lack of oversight and accountability in governance decisions that allowed a single point of failure to destabilize the entire ecosystem.

Case Study 3: Gauntlet's Risk Curator Model and Liquidity Crises

Risk curators, introduced by protocols like Morpho, enabled flexible lending vaults but also created systemic risks. Gauntlet, a prominent risk curator, paused withdrawals on a Compound vault after exposure to the depegged deUSD stablecoin, leaving users unable to retrieve funds, according to a Cryptorank report. This event, linked to the Elixir protocol's collapse, demonstrated how governance models prioritizing innovation over risk mitigation can backfire. As the Cryptorank report reported, the risk curator boom in 2025 led to a 25% drop in TVL for these protocols within days, from $10 billion to $7.5 billion. The absence of robust governance frameworks to vet collateral or enforce liquidity safeguards proved catastrophic.

Governance Models: Dual Governance vs. Fragmented Accountability

While some protocols, like Lido, have experimented with accountability mechanisms such as "Dual Governance"-which splits decision-making authority between token holders and Ethereum stakeholders-these models often struggle to balance efficiency with inclusivity, according to a Policy Review analysis. For instance, Lido's proposal allows stETH holders to veto governance decisions that threaten Ethereum's stability, but critics argue this slows down critical responses to security threats, as noted in the Policy Review analysis. Meanwhile, protocols like Balancer and Stream Finance lacked such checks, relying instead on token-holder-centric governance that marginalized end users. This imbalance between technical complexity and stakeholder representation has left many DeFi systems vulnerable to exploitation.

Investor Trust Erosion and the Path Forward

The cumulative impact of these failures has been a sharp decline in investor trust. A 2025 analysis by Policy Review noted that while on-chain governance ensures transparency, it often fails to address fairness, inclusivity, or the needs of non-technical users, as noted in the Policy Review analysis. For DeFi to recover, protocols must adopt hybrid governance models that integrate human oversight with code-based accountability. This includes mandatory third-party audits, stricter collateral requirements for risk curators, and mechanisms to involve end users in decision-making.

Conclusion

The DeFi sector's recent crises are not isolated incidents but symptoms of a deeper governance and accountability crisis. As the Balancer, Stream Finance, and Gauntlet cases demonstrate, the absence of robust institutional frameworks has left protocols exposed to both technical and operational risks. For investors, the lesson is clear: DeFi's promise of decentralization must be paired with accountability structures that prioritize stability and transparency. Without such reforms, the sector risks repeating its failures-and further eroding the trust it needs to thrive.