centralized and decentralized exchange

Centralized vs Decentralized Cryptocurrency Exchanges - What's the difference?

By ChangellyOfficial | Changelly blog | 10 Mar 2020

For the past few years, the term cryptocurrency is well known to everyone. Cryptocurrencies are of interest due to their security and reliability, moreover, they can not be faked. With the popularity of coins, the demand for exchanges where they can be traded has also grown. Today, crypto exchanges play a crucial role in the development of the blockchain industry.

Typically, cryptocurrency exchanges support trading in more than 20 different currencies. Accordingly, people get the opportunity to use their cryptocurrency assets as profitably as possible and exchange them with each other. Nowadays, we have both centralized and decentralized cryptocurrency exchanges. What is the difference? Are decentralized exchanges more popular? Let’s find out in Changelly’s comparison.

What’s the Difference

centralized vs decentralized exchanges Centralized VS Decentralized Crypto Exchanges. via: Hackernoon

Cryptocurrency platforms have two types – centralized and decentralized. A centralized exchange functions like traditional banks and exchanges:

  • it has an owner;
  • it is responsible for security;
  • it adheres to the rules and laws.

Despite the existence of many centralized exchanges, one can increasingly hear about the concept of decentralized exchanges. You could even say that a real war broke out against centralized exchanges.

A decentralized exchange is a platform that allows users to fully control their own funds. In addition, there are no intermediaries on such an exchange. Decentralized peer-to-peer exchanges have emerged to solve the problems associated with centralized platforms. Peer to peer means that users can trade with each other directly, transferring cryptocurrencies between their wallets.

You may have heard about the concept of Proof of Key that was proposed by the famous crypto enthusiast Trace Mayer. He believes that everyone who holds bitcoins on centralized exchanges should transfer them to their own wallets. 

As you all know, coins that are stored in a third-party service do not actually belong to you. For example, storing your bitcoins on the exchange and without having a private key to access them or recover in the event of theft, you expose yourself to a huge risk of being left with nothing.

You need to be prepared for the risks associated with centralized exchanges:

  • they can be easily hacked, and as a result, the funds will be lost;
  • exchange owners may suddenly disappear with clients’ money.

The real risks of centralized exchanges are obvious. Decentralized crypto exchanges are considered by some traders to be the real solution to this problem. They allow users to own their assets. Here are the key features of decentralized exchanges:

  • improved confidentiality due to lack of registration or personal identification requirements;
  • no need to deposit and withdraw funds to a third-party service. All transactions are conducted directly and processed through secure smart contracts;
  • lack of a single point of failure (vulnerability), control or regulation.

A few years ago, decentralized cryptocurrency exchanges often faced various problems, and people lost money due to minor errors. Now it is an intuitive platform for the direct exchange of cryptocurrencies.

In addition, to prevent fraud, decentralized exchanges offer escrow services, that is, the ability to reserve and be guaranteed to receive funds under certain conditions.

How Does a Decentralized Exchange Work?

A decentralized exchange works as follows:

  • the token holder places an order for the exchange of his assets for another asset available on the exchange;
  • if a sell order is placed, then other users can place their purchase orders;
  • when the time set by the seller expires, all purchase orders are reviewed and executed by both parties.

If you look at the stages from the point of view of the user placing the order:

  • You use your wallet address to enter the decentralized exchange on the blockchain;
  • You can apply for a purchase or sale;
  • Smart contracts are executed and assets are being transferred.

How to Choose a Cryptocurrency Exchange

In addition to the foregoing, the following should also be taken into account.

Low Fees

Trading commissions are what most crypto traders pay attention to. In the case of traditional platforms, customers pay a fixed commission for each transaction. Crypto exchanges are different in this case.

Centralized crypto exchanges typically charge a percentage on each transaction. Commissions on decentralized exchanges resemble traditional transaction fees, only you pay to confirm your transaction on the blockchain. Typically, such a commission does not exceed one dollar in equivalent.

Trader Anonymity

Decentralized exchanges usually do not have a central governing body. Therefore, they have no requirements regarding additional identity checks. You can simply register and start trading. In addition, anonymity gives users access to tools that are otherwise not available.

You can give an example of BitMEX – a crypto-exchange that allows you to trade using leverage but does not allow traders from the United States to use their services. On the other hand, the dYdX decentralized exchange allows everyone to use all the services.

Crypto Asset Liquidity

One of the advantages inherent in centralized exchanges is liquidity, that is, the presence of good demand and supply for various cryptocurrencies. Without liquidity, it is difficult to achieve adequate pricing. 

Cryptocurrency liquidity can be ensured by linking crypto assets to traditional assets as if combining cryptocurrency and fiat markets. Higher liquidity leads to faster transactions, stable prices and, consequently, to a greater number of players in the market. This contributes to the widespread adoption of blockchain technology and crypto tools and the maturity of the industry. 

Are Decentralized Bitcoin Exchanges Popular Now?

In general, no. Judging by the centralized exchanges – Binance, Coinbase, Bittrex – they account for 99 percent of the total volume of cryptocurrency transactions. However, today a large number of startups are interested in creating decentralized exchanges, as they can become popular and profitable. At the moment when the largest number of crypto investors entered the market, only centralized exchanges were available.

If we compare the characteristics of centralized and decentralized exchanges, then decentralized exchanges are a priority in many respects. Moreover, as people are more and more inclined toward exchanges of this type, it may be worth considering as a new direction in business.

Bottom Line

As the crypto world improves and turns into a fully functional ecosystem, crypto exchanges will continue to play a central role. Currently, coins and tokens are mainly used in investment speculation, which means that the platforms where they can be traded determine the development of the industry. Many startups are now developing their own options for exchanges.

The choice between centralized and decentralized exchanges is entirely up to you and your goals. If you choose a decentralized exchange, you always need a higher level of responsibility to protect your assets. In the case of centralized, you should be prepared for hacking and loss of funds. Although large sites will obviously compensate for possible damage.

Decentralization gives us a new world where there is no need to trust intermediaries, but you still need to trust yourself and your responsibility.

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