Decentralized Finance (DeFi) Risk Management Using Explainable AI and Blockchain Transparency

Abstract

Decentralized Finance (DeFi) has rapidly evolved into a key component of the financial ecosystem, offering open and permissionless access to financial services. However, this growth has also introduced substantial risks arising from complex smart contracts, volatile markets, and decentralized governance structures. This paper presents a comprehensive risk management framework that integrates Explainable Artificial Intelligence (XAI) and blockchain transparency to address these challenges. By incorporating XAI, the framework enhances interpretability and trust in risk assessments, while blockchain transparency ensures accountability and credibility in decision-making processes. The proposed approach is validated through a case study on liquidity pool management, demonstrating significant improvements in risk prediction accuracy and decision interpretability. The results indicate that the integration of XAI and blockchain transparency not only mitigates risks but also fosters a more resilient and trustworthy DeFi ecosystem.