Decentralized and centralized crypto exchanges: a comparison
A crypto exchange can be either decentralized (DEX) or centralized (CEX). The purpose of this post is to analyze the differences between these two approaches, as well as their advantages and disadvantages.
Centralized exchange
The centralized exchange, also known as CEX, is a system that is controlled by a centralized authority. Trading organizations control order execution and act as intermediaries between traders who purchase and sell cryptocurrencies. It is common for them to operate under regulatory oversight, although this is not always the case. Binance, Bybit, and Coinbase are some of the best known CEXs, and they have far larger user bases and a much higher trading volume than DEXs.
CEX: how does it work?
Buying and selling orders are recorded and verified in an order book, which includes all open orders. A trader places an order for the purchase or sale of a cryptocurrency at a specified price. Once the trader who placed the order has offered the offer, it remains open until another trader accepts it. Limit orders have a minimum or maximum price above or below which a trader is willing to make the transaction, so they may take longer to find someone who will accept them. Market orders are meant to be executed quickly at the current market price. For novice investors, CEXs are considered the most user-friendly option, since it is relatively simple to place an order.
Crypto wallets are available on all centralized exchanges, allowing users to store the cryptocurrency they purchase, but they do not hold the private keys that secure their funds.
In order to avoid unsuccessful projects or scams, a CEX will strictly select the coins it lists, and new cryptocurrencies must meet tough criteria in order to be listed.
Anonymity is not ensured on centralized exchanges as well. Know Your Client (KYC) and anti-money laundering (AML) procedures are generally required for them to verify the identity of their clients.
Benefits of CEX
· Easy-to-use interface makes crypto trading accessible to even the most inexperienced investors
· Due to the increased number of users, the liquidity of the market is higher, making it easier and faster to locate buyers and sellers
· Ensure that criminal activity is prevented by complying with regulations
· Offering a wide range of trading options, including futures, lending, staking, spot and NFT trading
· Assisting users in performing trading activities when they require assistance
Disadvantages of CEX
· Users are not able to remain anonymous due to the requirement for ID verification documentation
· Your assets will remain in custody, which exposes you to the risk of fraud or failure of the exchange
DEXs are decentralized exchanges.
Decentralized exchanges do not have a single entity that manages all orders. A smart contract and a decentralized application (dapp) are used instead to automate transactions. DEXs allow users to trade directly with one another without the involvement of any third parties. UniSwap, SushiSwap, and PancakeSwap are examples of popular DEXs.
In what way does a DEX operate?
DEXs use automated market makers or algorithmized order books to place orders.
As part of the AMM model, smart contracts pool liquidity from users and use algorithms to price assets within them. As a result, the liquidity provider receives a fee for each swap executed in the pool by a trader. There is a risk of slippage when liquidity is low in the pool and a trader wishes to execute a large swap. This means that the cost of purchase will exceed the market price. At the time of submission, the cost of the transaction will be lower than at the time of execution, so they will pay more than they anticipated.
In addition to providing total anonymity, decentralized exchanges do not require identification, increasing access to financial services. Furthermore, DEXs do not discriminate against the coins and tokens they list. Thus, one will have a greater selection of opportunities and will have a greater chance of participating in emerging opportunities, although one may also be exposed to possible scam projects. Decentralized exchanges do not offer FIAT, however.
The absence of a centralized authority controlling activities, freezing assets, and a custodian holding the keys to your wallet also implies the absence of any support or recourse in the event of theft or other criminal activity.
Advantages of DEX
· User transactions are not controlled, monitored, or interfered with by a central authority
· The ability to remain anonymous with no ID verification requirements, as well as access to all content
· In addition to transaction fees, there are no additional costs associated with the purchase and sale of crypto
· Private keys belong to users, and they maintain control over their funds as custodians
· Crypto assets are available in a variety of forms, making them a great investment for early adopters
Disadvantages of DEX
· Since there is a lower level of liquidity, it is harder and slower to find buyers and sellers
· The transaction price differs between when the transaction is submitted and when it is confirmed, which is known as slippage
· There is no FIAT trading available, only cryptocurrency trading
Combining features of CeFi with DeFi
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