by Faith Obafemi
7 months ago
Cryptocurrency has gained a large mindshare throughout the world. Especially Bitcoin, with its underlying philosophy of decentralized exchange of value, is widely known. But will DEX go mainstream?
After going from a worthless digital asset to a value of tens of thousands of dollars, Bitcoin looks predestined to help DEX go mainstream. A little over a decade ago, someone or a group of persons identified as Satoshi Nakamoto created virtual money that changes hands on a peer-to-peer (P2P) basis, effectively sidestepping intermediaries. Ironically, the biggest players in the crypto ecosystem are exchanges, which serve as intermediaries for investors trading cryptocurrency. In recent years, decentralized exchanges (DEXs) have been showing up with the sole aim of maintaining Satoshi’s original philosophy of disintermediation. They desire to offer all the features of centralized exchanges (CEXs), except the centralized control of funds.
This all sounds great, right? But when will DEX go mainstream?
We’ll come to that, but first, why the clamor for decentralized exchanges? At least 99% of crypto buying and selling happens on centralized exchanges. Usually, investors and traders deposit their funds in a central wallet controlled by the exchanges. Such an arrangement raises issues of security evident in the over US$ 1.74bn worth of crypto lost to exchange hacks. This is why Trace Mayer of Proof of Keys says, “Not your keys; not your bitcoin.” In addition, a centralized exchange could simply disappear overnight or halt withdrawals, like the IDAX story.
Further advantages of DEX include premium privacy, as no registration or KnowYour Customer (KYC) is required. This means investors can go about their crypto business anonymously. To use a CEX, users need to first deposit their funds in a central wallet provided by the exchange. When finished trading, they can then withdraw funds to their own wallet. On decentralized exchanges, there are no deposits or withdrawals, as users trade directly with others. This means there is no central wallet, and no single point of vulnerability usually enticing to hackers. Decentralized exchanges usually operate with low or zero transaction fees.
Despite these obvious and potentially costly risks of CEX and advantages of DEX, why do the majority still trade on centralized exchanges? Although contrary to the no-third-party principles of Satoshi, centralized exchanges offer certain advantages over DEX such as speedy transactions, huge volume of trades, more crypto-to-crypto pair varieties, including crypto-to-fiat pairs, smooth interfaces for an appealing user experience (UX) and are generally regulated.
UX and slow adoption
Unlike the smooth user interface of centralized exchanges, DEX have clunky UX and requires above novice knowledge to navigate. Otherwise, users risk losing their funds to errors. At the moment, there is no alternative to acquiring the technical skills and knowledge if users want to remain in sole control of their funds.
Here is how a decentralized exchange works in brief. User visit the DEX Website. Remember, they do not have to provide any personal information about themselves. Visiting the DEX simply gives users a possibility of trading their crypto without registration or KYC. Users then place their sell order, usually in a crypto-to-crypto pair of tokens available on the DEX, with a time limit for bidding. Other users who wish to buy can then place their bids. When the time limit for bidding ends, the bids are reviewed, and the selected bid is executed by both parties. This is obviously a very slow process, unlike centralized exchanges where trades are instant and happen in real time.
Crypto-to-crypto pairs only
Decentralized exchanges allow for crypto-to-crypto pairs only. And even at that, only limited varieties are available. Exchange from fiat to crypto or vice versa can only happen on centralized exchanges.
Because users are in control of their funds, they have a higher responsibility to take all appropriate steps to keep their cryptos safe. One little mistake could lead to the loss of funds forever! Many crypto traders and investors do not wish to saddle themselves with such inconvenience and choose the lower-hassle option with centralized exchanges. Yes, decentralized exchanges advance the trustless system, however, users need to first trust themselves to be responsible for safeguarding their funds.
Liquidity and low volume
This should have been listed first, as it is the main reason decentralized exchanges are yet to go mainstream. As mentioned above, 99% of trades are attributed to centralized exchanges, leaving DEX to scramble for a stake in the low volume 1% remnant. Liquidity refers to the ease and speed with which crypto pairs can be traded. Riding on the tails of liquidity and low volume is the issue of volatility. Recall the slow transaction process? Coupling this with a market price that swings wildly at short intervals means someone could be at a loss by the time the trade is executed. Although these problems can also be found with centralized exchanges, they are more pronounced with DEX.
One way regulators maintain oversight on crypto activities is through KYC policies in order to curb money laundering activities using crypto. Incidentally, DEX major strength is the non-requirement of KYC or the provision of personal information during registration. This was the Achilles Heel causing the downfall of Ether Delta, charged by US SEC for not adhering to KYC policies as an entity trading securities. This could have probably been avoided by prohibiting the use of the DEX by American citizens.
Although there is no easy answer to the question, “When will DEX go mainstream?” there is a general consensus that DEX is are on the path. Popular cybersecurity expert and crypto enthusiast John McAfee corroborated this when he tweeted: “Decentralized exchanges, when fully functional, will mark the end of any potential control by governments and will be the beginning of the largest economic boom in human history.”
About the author
Faith Obafemi is a Tech Lawyer and Digital Content Consultant who focuses on innovative businesses using emerging technologies like blockchain and artificial intelligence.