Vega, a blockchain project that is building a decentralized protocol to run infrastructure for programmable financial markets, released its research Market-Based Mechanisms for Incentivising Exchange Liquidity Provision. Low liquidity is a major known problem for decentralized exchanges (DEXs). In its paper, Vega introduces an improved solution using a mechanism for sustainable and highly scalable liquidity markets that optimises for liquidity and low cost of trading.
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“With the integration of liquidity aggregator and market making bot, DEXs will grow [at] a much faster pace in 2020, however centralised exchanges will still dominate the market.”
At present, the trade volume of the largest DEX, Uniswap, stands at about $18 million, a far cry from the $1.3 billion in trade activity on the popular centralized exchange Binance. Despite recent surges in decentralized exchange activity, DEXs still only account for less than 1% of all crypto trading. There is a glaring gap in performance between centralized and decentralized exchanges, and liquidity is a significant part of the problem.
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A recent survey from Encrybit asked more than 1,000 traders, “What are the biggest problems that you see in currently available exchanges?” Thirty-six percent identified “lack of liquidity” as the most significant issue.
Below is an excerpt from Vega’s latest research:
“A key problem for exchanges is how to attract liquidity providers and retain their support in all market conditions. This is commonly approached through individual business agreements with market makers whereby a bespoke contract is negotiated for specific obligations and rewards. Such approaches require a central intermediary that profits from liquidity provision to administer, and typically fails to align the incentives of exchanges and liquidity providers as markets grow. This is costly, slow, and scalability is limited by the exchange’s resources, contacts, and expertise.”
