Decentralized vs Centralized Bitcoin Exchanges – Can They Co-Exist?
One of the most outstanding properties of cryptocurrency lies in its decentralization. Decentralizing is a way of involving all the members of a crypto network in the decision-making process of the network.
A decentralized Bitcoin exchange network means that the critical decisions are made by all network participants, and not a separate central authority. The advantages embedded within a decentralized network are numerous, as this form of exchange holds many prospects. One notable advantage of a decentralized Bitcoin exchange network is the security of investor funds. With a decentralized exchange network, a trader does not need to depend on any third party to facilitate Bitcoin exchanges. The removal of a third-party to the exchange process of Bitcoin on a decentralized network reduces the risks of a security breach in the crypto exchange process. Another distinct advantage of the decentralized exchange process is the fact that with a decentralized network, there is no need for infrastructural costs. With a network that operates on a peer-to-peer basis, the administrators do not have to rent buildings or set up offices, as the exchange network runs regardless of its administrators. However, the principles of decentralization, embodied in cryptocurrencies, are not yet implemented by cryptocurrency exchanges to the full extent. Most cryptocurrency trades take place within centralized exchanges, and not within decentralized ones.
Centralized Exchange: The Basics
Centralized cryptocurrency exchanges (CEX) are those exchanges that come to our minds when we think about buying or selling crypto assets (especially Bitcoin). And this is for a reason. 90% of exchanges available in the market are centralized. These are licensed and regulated businesses that provide financial asset services. Centralized exchange services offer a wide range of beneficial services in the crypto exchange world. For one, centralized exchange services offer a high liquidity rate, which makes it easy to thrive easily on its platform. Asset investors can make the best of a centralized exchange network by diversifying their asset investment portfolio. On centralized networks, crypto traders have the flexibility to trade on a wide liquidity range as a lot of other coins are also available to trade with on such platforms. In some sense, trading with centralized exchange networks holds a very stable investment prospect, because the factors that guide trading on centralized exchanges are guided by a central body who work towards upholding the flags of the network.
CEX acts as an intermediary between a buyer and a seller that ensures the efficiency of the performed trades. It offers a marketplace where users can buy, sell, or engage in Crypto trades at a specific cost. To perform any activity within a CEX, the user must register, verify their identity, and deposit money.
Centralized exchanges are excellent for beginners who want to delve into the world of crypto trading, and who need an interface that acts as a bridge between the traditional and cryptocurrency economy. This form of exchange offers a wide range of trading options that make it suitable for a wide range of traders as well as trading styles. Centralized exchanges usually have a lot of mouth-watering opportunities with which they intend to draw traders to their networks; this is because centralized exchanges exist in a very competitive environment. So, any centralized exchange whose offer doesn’t look very attractive may not get a lot of traders on its platform. This competitive environmental factor is why many centralized exchanges provide a variety to their services to allow traders of all classes on their platforms.
Since their inception, centralized exchanges have provided millions of users with access to Bitcoin, Ethereum, and other crypto coins.
Such platforms offer high liquidity, as many traders are using them. This leads to large trading volumes across various cryptocurrency pairs. Examples of CEXes are Binance, Bitfinex, Kraken, CEX.IO, Coinbase, etc.
Decentralized Exchange: The Basics
Decentralized exchanges (DEX) are designed so that there is no third party between the participants to the trade. As a rule, a decentralized exchange do not match orders based on the exchange order book; instead, it directly connects the traders who place buy and sell orders.
Decentralized exchanges provide significant benefits to their users and the absence of intermediary results in a low commission per transaction.
A decentralized exchange ensures greater privacy as it does not require personal data to verify the identity of users who trade on such platforms. Any disclosure of identity may be needed only at the stage of conducting transactions with the peer trader.
Security on decentralized exchanges is greatly enhanced because such platforms do not store users’ cryptocurrencies or fiat money. It means that there are no servers that can be hacked.
Despite their advantages, decentralized exchanges are not as famous as centralized platforms. Accordingly, they have fewer customers, lower trading volumes, and liquidity since it is more difficult to find a suitable deal at a DEX.
Also, decentralized exchanges have no options like margin trading or automated trading, which makes them less popular among professional traders. The absence of automated trading options makes the decentralized exchange a total responsibility of the trader. Examples of DEXes are Cryptobridge, EtherDelta, Waves DEX, Bisq, etc.
Critical differences between CEX and DEX
DEXes are considered to be more secure than CEXes since there are no central servers that support the platform. They do not store any of the user cryptocurrency or data, which makes them less susceptible to hacking and privacy breaches. Over the past nine years, more than 30 hacks of centralized cryptocurrency exchanges have taken place. Among them, the Mt.Gox, Coincheck, and BitGrail hacks are the most outstanding. Theft attempts occur every day, as fraudsters are still searching for ways to exploit centralized system vulnerabilities.
CEXes, on the other hand, have higher liquidity, better functionality, and more diverse marketplaces. Moreover, some of them provide insurance coverage to protect user funds kept within the platform. This is not the case with DEXes, as they are mostly based on trust between parties to the deal. These are indeed the features that lure customers away from decentralized exchanges.
Which model is better: CEX or DEX?
It is tough to tell which kind of cryptocurrency exchange is better as they were designed to solve different issues. The design and algorithm of each exchange offer a unique set of solutions that address various parts of the financial market. Choosing an exchange model for your trade actions requires scrutiny of your investment goals, your capital, risk allowance, et cetera. Working out these factors will guide as to which form of exchange best suits your investments, as there is no golden rule to choosing exchanges.
If the simplicity and flexibility of the trading process are essential for you — use centralized exchanges. If you worry about your data privacy and anonymity — trade within decentralized exchanges. In any case, before using a cryptocurrency exchange, read the news and customer reviews about it.
The commission for services is lower on decentralized exchanges. But it is unlikely that a large amount of money can be exchanged right away. Small transactions are more widespread here because they act as an additional method of protection against fraud.
When it comes to legality, most centralized cryptocurrency exchanges are regulated businesses and comply with the laws of each country they cover. Currently, operations with cryptocurrencies are officially allowed in Australia, Germany, Sweden, Switzerland, the USA, Canada, Japan, Finland, Denmark, Great Britain, Estonia, and Malta. Many countries, such as Indonesia, Bolivia, and China, prohibit the use of cryptocurrency.
Although these two kinds of exchanges differ, it is necessary to note that CEXes and DEXes can co-exist and even complement each other, resulting in so-called “semi-centralized” exchanges. Such exchanges function as CEXes, but they do not store cryptocurrency at online accounts or central servers. Many people believe that most cryptocurrency exchanges will switch to this model soon. Indeed, big cryptocurrency exchanges, such as Binance, have already announced the launch of their DEXes. Coinsquare has acquired a decentralized cryptocurrency exchange to optimize its operations further.
There are many exchange networks in the crypto investment world, and the choice of exchange can determine how far a trader can go in the world of crypto-asset trading. Choosing an exchange platform for one’s investment is a paramount choice, but it rests upon a series of other choices which the trader must have made. When all the parameters are set aright, it becomes easy to know which exchange network best suits your investments.