Decentralized exchanges (DEXs) first appeared in the cryptocurrency industry in 2014, allowing users to trade a large number of assets peer-to-peer.
However, the first iterations of these platforms could be difficult to use. But since their inception, developers have worked to make them easier and more accessible for users.
Decentralized exchanges use smart contracts to execute orders placed by traders, allowing users to trade directly with each other rather than relying on a centralized platform. Unlike a centralized exchange (CEX), when traders interact with a DEX, their funds are not stored on the exchange. Instead, users initiate trades directly, with the tokens being withdrawn and deposited in their non-custodial wallets.
Historically, most DEXs used order books, a system that records all open buy and sell orders on an exchange. While many decentralized exchanges still use order books today, Automated Market Maker (AMM) DEXs have enjoyed tremendous popularity due to their simplicity and increased liquidity.
AMMs use smart contracts and liquidity pools to improve the liquidity of decentralized exchanges while managing a token’s price whenever a trade is made. When traders access an AMM-based DEX, they interact with liquidity pools that store multiple token pairs.
For example, when a trader wants to exchange Ether (ETH) for USD Coin (USDC), they interact with a pool that stores equal amounts of both tokens.
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These pools are filled by liquidity providers who receive a portion of the fees generated by the DEX in exchange for providing liquidity. This makes it possible to settle trades directly without having to wait for an order to be executed.
Disadvantages of previous DEXs
Trading on a DEX initially came with several significant downsides, including delayed transactions, lack of liquidity, and generally a pretty poor user experience (UX). Cryptocurrency veterans have been the most common users of decentralized exchanges, undeterred by the do-it-yourself aspect of trading on specialty platforms. However, in order for them to grow, some changes were required.
Trading on a DEX can be just as easy as trading on a centralized exchange in today’s market. Significant additional work has been done on the user interfaces to make them easier to use for cryptocurrency traders of different expertise. Since the advent of decentralized finance (DeFi), liquidity has increased significantly on major cryptocurrency exchanges.
Are decentralized exchanges user-friendly?
Many early DEXs used order books, a system where users placed orders and waited for other traders to fill them. However, this system was not user-friendly for several reasons. Firstly, since it is a decentralized exchange, users cannot store their tokens on the platform.
Instead, they must trade directly through their non-custodial wallets. Because of this, users have to pay gas fees every time they place an order. So if they make a mistake, they lose money in the form of wasted gasoline. This is an issue that current decentralized exchanges still face, but the improved user interfaces make it easier for traders to place orders without errors.
Another issue is that early DEXs required users to manually enter the number of tokens they wanted to trade and the price in ETH. For example, if a user wanted to buy 53,451 Token A for 0.0037 ETH each, he would type or copy it exactly. Entering values manually increased the likelihood of fat finger errors occurring as users entered incorrect values.
If users enter the wrong value, they may overpay for a token. For example, the price of token A is 0.0037 ETH per coin, and if a user accidentally enters 0.037 ETH for a buy order, they will pay 10 times the actual price.
Low liquidity was another problem common to early DEXs. It was common for users to have to wait a long time for large orders to be executed as other traders mainly provided liquidity. Modern DEXs leverage liquidity providers and AMMs to allow traders to exchange tokens near-instantaneously.
Today’s decentralized exchanges also use a much more minimalistic user interface that differs from the clunky and complicated order-book style DEXs of the past. The ease of use of modern DEXs is also reflected in the fact that in the 2021 bull market, a larger number of crypto investors are using them to buy small-cap coins.
However, some decentralized exchanges have additional requirements for user access. For example, regulated DEXs like Soma require users to perform a “Know Your Customer” check, as well as “Counter Terrorism Financing” and “Anti-Money Laundering” checks. This process is necessary because the platform has regulated assets such as tokenized shares and exchange-traded funds.
The most prevalent type of decentralized exchange is swap-style DEXs, which are growing in popularity as of 2020, with platforms like Uniswap attracting both experienced and new traders. Swap DEXs use AMMs and work by the user connecting their wallet to the decentralized application (DApp), which selects the coins they want to trade and the amount they want to swap, with the tokens being swapped directly into their wallet . The simplicity of Uniswap’s DEX spawned similar projects like PancakeSwap for BNB Smart Chain projects.
Modern DEXs are easier to use than their predecessors, offer better liquidity and a simpler trading interface, and experts in the DeFi space agree.
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Andrei Grachev, managing partner at DWF Labs — a Web3 investment firm — told Cointelegraph, “DEXs are much more user-friendly than before. While the initial process of setting up digital wallets can be tedious, users can connect to the platforms through mobile apps or desktop browser extensions.”
“Connecting your own wallet to DEXs only takes a few seconds and the clear interface allows for uncomplicated trading. The user experience of DEXs today is very similar to the user experience of CEXs.”
Decentralized exchanges have changed a lot in recent years and continue to evolve as more projects and teams emerge in the DeFi space. As the blockchain industry matures and decentralized finance becomes more popular, we can expect DEXs to become even more intuitive and user-friendly.
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