Decentralized Exchange discussion

What are Decentralized Exchanges?

The first successful cryptocurrency, Bitcoin, was invented at least in part as a way to prove that centralized control of money was no longer necessary. Since fiat currencies like the dollar are no longer backed by tangible resources like gold all you have to do is get enough people to agree that your new currency has value for it to have value. And the best way to do that is to establish trust.

The blockchain and its incorruptible ledger was how that trust was established, and as a result, a brand new form of decentralized currency was created; one freed of the machinations and manipulations of central banks and other powerful, corruptible players.

The Different Types of Exchanges

btc with dollars side by side

Today, Bitcoin and its 1,400 imitators are redefining finance and attracting the interest of investors, speculators and merchants the world over. Most of those investors and speculators enter the world of the cryptocurrency through exchanges, of which there are two types in operation today: the centralized exchange and the decentralized exchange.

While both have their merits, most crypto purists are drawn to the decentralized model simply because its structure is more in keeping with the regulation-free, fee-free ethos behind the rise of the cryptocurrency.

How They Work: The Centralized Exchange

A centralized exchange is a for-profit private company that facilitates the procurement and trading of cryptocurrencies. Its main benefits are convenience related. Essentially, all you have to do is open an account, and you can begin buying and selling cryptocurrencies. You're also able to buy them with most fiat currencies like the dollar and the euro.

Centralized exchanges tend to run afoul of crypto purists because they charge fees for their services.

using centralized exchange platform

This is in direct opposition to the guiding principle behind the invention of the cryptocurrency that money would finally be free of institutions like the Fed that install themselves as a kind of toll plaza between money and the people. It's this relinquishing of control to a 3rd party that may or may not have your best interests at heart that gauls many and is behind the popularity of decentralized exchanges.

How They Work: The Decentralized Exchange

graph showing the current value of cryptos

Unlike the centralized model that requires you relinquish control of your transactions to a third party, the decentralized exchange is a peer to peer service where all transactions are direct. There are no fees and no having to turn over assets to a centralized authority before a transaction can be completed. This type of exchange aspires to uphold the ideals behind the creation of cryptocurrencies. And for the most part, it does so. But, besides being more idealistically pure what are its other, practical benefits?

  • You don't need to grant trust to an entity that may or m​ay not deserve it - With a centralized exchange, you must trust that the controlling entity always has your best interests at heart. This trust is essential if you are to give them control of your financial assets. But many of these exchanges have proven themselves unworthy of that trust.
  • ​You retain a degree of autonomy - The idea that all your personal transactions must be monitored and approved by a third party understandably gets under the skin of a lot of people. Using the centralized model you typically need to fork over personal information in order to open an account. Everything you do is then tracked and recorded. Much like when you surf the Internet. With a decentralized exchange, you don't need to provide personal information to conduct transactions. As such it's like a VPN, in that your business remains your business and nobody else's.
  • ​The risk of downtime is minimized - Because this type of exchange is distributed through a collection of individual nodes, there is little if any risk of downtime. Centralized exchanges which are hosted by a single entity are far more susceptible to crashing or simply being down to perform system maintenance or upgrades.
  • ​The risk of hacking is minimized - Decentralized exchanges allow you to keep your cryptocurrency in "cold storage." That means they're stored in your own crypto wallet that is not directly linked to the Internet. As such, your public and private keys are not at risk of being hacked. While you will still be vulnerable to malicious downloads seeking to steal your keys you can minimize this risk by having robust antivirus and antimalware protection and following common sense rules about opening unsolicited emails and attachments.
  • No fees - Perhaps the biggest benefit is that you don't get fleeced by a third party player. All transactions on the decentralized exchange are direct, between you to the other person or entity. There's no one in between telling you that you can proceed if you cough up a payment or simply lifting that payment from your wallet without asking.
What are Centralized Exchanges?Cryptocurrencies have sent shock waves through the old economy not seen since the invention of the personal computer. Every day brings tales of fortunes made and lost, more businesses adapting to the virtual currency model and more stories about pending regulation and contradictory stories about a rosy, regulation free future. It's tough to know what to believe, but one thing is certain: at the moment crypto is the hottest commodity on earth. And in spite of some rough patches, it doesn't seem like it's going to cool down anytime soon. As such one of the most common questions swirling around the cryptocurrency revolution is this: How do I get some?Obtaining Bitcoin and Other CryptocurrenciesThere are two ways you can acquire Bitcoin or any of the nearly 1,400 copycat cryptocurrencies in circulation today. You can either ?mine? them, or you can acquire them through an exchange. Mining is an incredibly involved process that requires you to:Purchase one of the latest ?mining rigs? (computer hardware built especially for the job).Obtain a ?wallet? where you?ll be able to store the public and private keys that both protect your coins and enable their use.Find a ?mining pool? to join so you can combine your processing power with others to harvest more Bitcoins (you could go it alone but believe us you don?t want to).Pick up the latest mining software and install it on your computer.Hook the rig up to your computer and get to work.The thing about mining is that it devours electricity like anteaters devour ants. You may even find that you?re spending so much on electricity that it?s impossible for you to mine enough Bitcoin or other cryptocurrency to make your efforts profitable. On the plus side, you get to keep what you mine without having to pay any fees or join any exchanges.Exchanges, on the other hand, are like a warm summer breeze compared to mining. Just set up a wallet, open an account and start buying and trading. The advantage of the exchange is its simplicity. The disadvantage is that you'll be charged fees and exchanges are vulnerable to hacks, which could wind up cleaning you out.The Decentralized ExchangeA decentralized exchange is the more complex to interact with but also more secure. With this type of exchange, the private and public keys never leave your computer until the transaction commences. There's no reason to have a third party act as an intermediary holding your crypto: all transactions are person to person. As such it's much less likely you'll lose money to a hack although transactions, as we said, tend to be more complex and take longer to process.ProsLess prone to hacks these days than centralized exchanges.The user maintains direct control over their crypto funds.A fairly high degree of anonymity (though this may be changing).No trading fees so more in keeping with the crypto guiding principles.Typically no personal identification needed.ConsA pretty steep learning curve for the uninitiated.A small number of features.Not able to accommodate fiat currencies.Your personal computer is more vulnerable to being hacked.The Centralized ExchangeAt the other end of the spectrum are centralized exchanges. Centralized exchanges are popular for a very simple reason: they?re easy to use and incorporate traditional fiat currencies into the equation. You can exchange your dollars or euro directly for Bitcoins or Litecoins or whatever and vice versa; you can exchange your Bitcoins for dollars or whatever currency you prefer. The problem most cryptocurrency users have with centralized exchanges are that they tend to be contrary to the anything goes, no fee principles behind the birth of cryptocurrencies.Centralized exchanges are openly for-profit enterprises that charge transaction fees for among other things, providing access to the blockchain. Still, if people didn't appreciate how convenient they made transactions, they'd fold up pretty quick. But they don't because less orthodox crypto fans don't really give a tinker's cuss about egalitarianism. They want to turn a profit. And centralized exchanges provide them with more ways to do that than decentralized exchanges, which only allow crypto to crypto transactions. So until something better comes along the centralized exchange is likely to slog on, absorbing criticism while they count their money.ProsPlenty of ways to trade including the use of fiat currencies.Relatively easy to use for the average tech-savvy person.Lots of advanced tools.Plenty of liquidity.Most will assume at least some liability for hacked funds.ConsThe exchange exerts control over your funds.You?ll probably have to produce identification to join.Fees, fees, feesA low level of anonymity.More prone to hacking these days than decentralized exchanges.Possibility of downtime because of the centralized structure.Did we mention fees?The Security IssueThere?s one significant downside to centralized exchanges that calls out for more elaboration it is their troublesome habit of being hacked and losing everyone's money. For instance, in January 2018 a centralized exchange in Japan called ?Coincheck? acknowledged it had been hacked and that approximately $500 million worth of a cryptocurrency called NEM was stolen from customers. The company has said it is investigating and has suspended some services on the site.In fairness though, it?s not just centralized exchanges that have been hacked. For instance, a Bitcoin exchange called Mt. Gox was hacked in 2014 with the cyberthieves making off with $450 million worth of the cryptocurrency ($7 billion using today?s valuations). The Mt. Gox hack was a wakeup call for many decentralized exchanges and since then security has been significantly tightened with most hackers now going after centralized exchanges, personal wallets and even mining hardware via malicious downloads.ConclusionThe centralized exchange will likely linger as a fixture of the crypto universe for some time, especially if they can get their security act together. By providing the ability to exchange crypto for fiat they provide a means of acquiring cryptocurrency decentralized exchanges simply can't. Not yet anyway.

Risks and Disadvantages:

cryptocurrencies value plum down on the market

Nothing is without its downside and that goes for decentralized exchanges too. Here are some of the risks associated with this type of exchange.

  • You just never know - Decentralization is all about staying one step ahead of Big Brother. As such exactly who owns these kinds of exchanges is often unclear. The danger with mysterious ownership is that the exchange could just be a scam, set up to steal your public and private keys without you ever knowing who robbed you.
  • ​No liability - Since everything is peer-to-peer and who owns the exchange may be unclear the only thing we can say if you're seeking restitution from one of these exchanges is "good luck." Basically, if no one is in charge, no one is responsible.
  • ​A bare-bones experience - Whereas a centralized exchange will let you buy crypto for dollars or yen or euros or let you sell your crypto for one of the major fiat currencies, you can't do this with a decentralized exchange. At least not as of this writing.
What are Centralized Exchanges?Cryptocurrencies have sent shock waves through the old economy not seen since the invention of the personal computer. Every day brings tales of fortunes made and lost, more businesses adapting to the virtual currency model and more stories about pending regulation and contradictory stories about a rosy, regulation free future. It's tough to know what to believe, but one thing is certain: at the moment crypto is the hottest commodity on earth. And in spite of some rough patches, it doesn't seem like it's going to cool down anytime soon. As such one of the most common questions swirling around the cryptocurrency revolution is this: How do I get some?Obtaining Bitcoin and Other CryptocurrenciesThere are two ways you can acquire Bitcoin or any of the nearly 1,400 copycat cryptocurrencies in circulation today. You can either ?mine? them, or you can acquire them through an exchange. Mining is an incredibly involved process that requires you to:Purchase one of the latest ?mining rigs? (computer hardware built especially for the job).Obtain a ?wallet? where you?ll be able to store the public and private keys that both protect your coins and enable their use.Find a ?mining pool? to join so you can combine your processing power with others to harvest more Bitcoins (you could go it alone but believe us you don?t want to).Pick up the latest mining software and install it on your computer.Hook the rig up to your computer and get to work.The thing about mining is that it devours electricity like anteaters devour ants. You may even find that you?re spending so much on electricity that it?s impossible for you to mine enough Bitcoin or other cryptocurrency to make your efforts profitable. On the plus side, you get to keep what you mine without having to pay any fees or join any exchanges.Exchanges, on the other hand, are like a warm summer breeze compared to mining. Just set up a wallet, open an account and start buying and trading. The advantage of the exchange is its simplicity. The disadvantage is that you'll be charged fees and exchanges are vulnerable to hacks, which could wind up cleaning you out.The Decentralized ExchangeA decentralized exchange is the more complex to interact with but also more secure. With this type of exchange, the private and public keys never leave your computer until the transaction commences. There's no reason to have a third party act as an intermediary holding your crypto: all transactions are person to person. As such it's much less likely you'll lose money to a hack although transactions, as we said, tend to be more complex and take longer to process.ProsLess prone to hacks these days than centralized exchanges.The user maintains direct control over their crypto funds.A fairly high degree of anonymity (though this may be changing).No trading fees so more in keeping with the crypto guiding principles.Typically no personal identification needed.ConsA pretty steep learning curve for the uninitiated.A small number of features.Not able to accommodate fiat currencies.Your personal computer is more vulnerable to being hacked.The Centralized ExchangeAt the other end of the spectrum are centralized exchanges. Centralized exchanges are popular for a very simple reason: they?re easy to use and incorporate traditional fiat currencies into the equation. You can exchange your dollars or euro directly for Bitcoins or Litecoins or whatever and vice versa; you can exchange your Bitcoins for dollars or whatever currency you prefer. The problem most cryptocurrency users have with centralized exchanges are that they tend to be contrary to the anything goes, no fee principles behind the birth of cryptocurrencies.Centralized exchanges are openly for-profit enterprises that charge transaction fees for among other things, providing access to the blockchain. Still, if people didn't appreciate how convenient they made transactions, they'd fold up pretty quick. But they don't because less orthodox crypto fans don't really give a tinker's cuss about egalitarianism. They want to turn a profit. And centralized exchanges provide them with more ways to do that than decentralized exchanges, which only allow crypto to crypto transactions. So until something better comes along the centralized exchange is likely to slog on, absorbing criticism while they count their money.ProsPlenty of ways to trade including the use of fiat currencies.Relatively easy to use for the average tech-savvy person.Lots of advanced tools.Plenty of liquidity.Most will assume at least some liability for hacked funds.ConsThe exchange exerts control over your funds.You?ll probably have to produce identification to join.Fees, fees, feesA low level of anonymity.More prone to hacking these days than decentralized exchanges.Possibility of downtime because of the centralized structure.Did we mention fees?The Security IssueThere?s one significant downside to centralized exchanges that calls out for more elaboration it is their troublesome habit of being hacked and losing everyone's money. For instance, in January 2018 a centralized exchange in Japan called ?Coincheck? acknowledged it had been hacked and that approximately $500 million worth of a cryptocurrency called NEM was stolen from customers. The company has said it is investigating and has suspended some services on the site.In fairness though, it?s not just centralized exchanges that have been hacked. For instance, a Bitcoin exchange called Mt. Gox was hacked in 2014 with the cyberthieves making off with $450 million worth of the cryptocurrency ($7 billion using today?s valuations). The Mt. Gox hack was a wakeup call for many decentralized exchanges and since then security has been significantly tightened with most hackers now going after centralized exchanges, personal wallets and even mining hardware via malicious downloads.ConclusionThe centralized exchange will likely linger as a fixture of the crypto universe for some time, especially if they can get their security act together. By providing the ability to exchange crypto for fiat they provide a means of acquiring cryptocurrency decentralized exchanges simply can't. Not yet anyway.

​Although they can't compete with the trading options provided by their centralized cousin, decentralized exchanges continue to attract fans because they tend to express the spirit behind the creation of the cryptocurrency better.

About the Author Aaron Grubbs

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