The barriers to DEX adoption

There is a lot of talk about the decentralised exchange (DEX) concept and the attendant benefits and problems. The primary benefit of a DEX is that it cuts out the middlemen in all kinds of transactions, which tends to lower costs and speed up processes. In addition, there is no single, central entity that can impose regulations on a DEX on a sudden whim; this might include banning cryptocurrencies for example, or the DEX itself. This is quite important when you look at countries where exchanges and currencies have been banned, or their use restricted.

Furthermore, when this type of exchange does not exist, people wishing to invest in cryptocurrencies are subject to government regulations as applied to existing financial markets – so you end up having ‘more of the same’. A decentralised exchange also offers better security. In a DEX each user is in private control of their own funds, so there is no central point for hackers to attack, as they did with Mt Gox.

And, a DEX potentially has the means to facilitate faster and cheaper transactions than a centralised exchange, since there is no third party authenticator. However, this has yet to be tested out on a big scale.

What is stopping DEX adoption?

One of the biggest downsides of DEXs as we currently know them is that they lack the functionality of centralised exchanges. At the moment they only offer the most basic functions and don’t have any of the frills, like a stop-loss mechanism. The other issue that acts against them being more widely used is that they lack they can’t convert to fiat currencies due to existing KYC and AML regulations. If they did, they would become centralised exchanges. So, anyone using a DEX can only use cryptocurrency deposits.

And there are other barriers, at least in the eyes of governments and financial regulators. One of the most difficult to overcome is taxation.  Because a DEX doesn’t have any centralised function, authorities such as taxation and regulation bodies have no power over a DEX. If there was mass adoption of DEXs and they replaced centralised exchanges, hundreds of billions of dollars would be hidden from the view of taxation and regulation bodies. We’ve already seen countries like China and India banning crypto because the governments see this as a major issue.

There are some existing exchanges that claim to be shifting towards a decentralised model, saying that the fact they are currently centralised helps to speed up their development. That idea is one that causes heated debates, because we know that to truly be decentralised these exchanges will have to radically rewrite the platform protocols. But, while there may be barriers to wider adoption of decentralised exchanges right now, this is not to say it will remain this way forever – this is a sector of the blockchain world that will continue to be of interest to everyone involved in it.

 

 

 

The governments that are backing blockchain

Momentum has been growing in the cryptocurrency and blockchain space. After all the arguments over it during 2017, we have arrived at a point where we can see the seeds sown have taken root and the sense of ‘when’ has superseded ’if’ in the question about mass adoption.

During 2018, there has been further debate over it, but we have seen some very positive advances in blockchain use, quite apart from what we might call ‘the usual suspects’ — Facebook and Amazon –solidifying their activities in the new technology sphere.

When these companies use blockchain, it’s a bit like hanging out a neon sign, but when governments start to talk up blockchain, it’s more like a fully illuminated Times Square. Suddenly, everyone sits up and takes notice.

So, which governments are leading the battle charge for blockchain? Well, there are five that are of particular interest, and one or two might surprise you.

United States of America

Interestingly, the USA, where so many blockchain entrepreneurs are based, has been slow out of the starting blocks in relation to blockchain and crypto. According to Cointelegraph, the U.S. Treasury Department is “currently running a pilot program to determine whether Blockchain technology can be utilized for supply chain management,” and federal agencies are exploring the potential for using blockchain technology in government departments.

China

China has blown hot and cold over blockchain. It has been decidedly frosty about ICOs and cryptocurrency, but much warmer about the adoption of blockchain technology by government departments. We are also seeing cities like Nanjing announce billion dollar blockchain funds to support the development of blockchain-based enterprises and it seems clear that China will promote the use of this technology for business purposes.

Spain

In Europe, Spain may not be a crypto hub like its neighbou Gibraltar, but it is doing some interesting things with blockchain in the governmental and banking sectors. The Spanish government is supporting projects like Navibration, a Spain-based technology company aiming to create a social network of audio-guided tours, which will help its massive tourism sector. And BBVA bank, as well as Santander, are both using blockchain technology for loans and international money transfers.

Japan

Japan is crypto friendly and has made bitcoin legal tender. Also, in an effort to reel in even more investment capital, the Tokyo Metropolitan Government Accelerator Program started hosting the “Block Chain Business Camp Tokyo; the goal being to promote blockchain projects that have the potential to improve Tokyo residents’ quality of life.

Australia

This is another country that has been in favour of blockchain technology for some time. According to Cryptovest, “Australia’s federal government has decided to invest A$2.2 million ($1.6 million) in a blockchain initiative as a way to make its key sugar production more competitive, local media reported on Tuesday. Prime Minister Malcolm Turnbull’s coalition backed Sustainable Sugar Project, which targets Queensland, the major sugar export region of Australia.”

There are a significant number of blockchain companies in Australia, and this country is one to keep an eye on, because it could become a major blockchain influencer.

3 types of decentralised exchanges

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Cryptocurrencies are making steady progress in the traditional financial system. Their ascendance shines a spotlight on exchanges where people trade crypto assets and a number of them have been found wanting, due to a ‘single point of failure’ that allows hacks to occur.

The solution is decentralised exchanges (DEX), because this type of exchange allows users to keep control of their funds throughout the trading procedure. As might be expected there is more than one type of decentralised exchange to choose from, and there are three formats that are considered the most likely to be the exchange models of the future.

At the moment, decentralised exchanges are being developed in three modes:

  1. On-chain order books and settlements
  2. Off-chain order books with on-chain settlement
  3. Smart contract-managed reserves

On-chain order books and settlements

These are entirely blockchain based and are really the first generation model. With this DEX, every new order or adjustment to an existing order updates the state of the blockchain.

What’s the problem with this type of DEX?

Although it protects user privacy and security this form of DEX makes exchanges illiquid, slow, expensive and unable to operate with other DEX.

Off-chain order books and on-chain settlement

The Ox protocol is good example of this model. It is built on the Ethereum blockchain’s solution for off-chain orders. Execution of the trades happens on the Ethereum blockchain,which means users have control of their funds until the exchange takes place. The order books are hosted by a third party called Relayers. This enables the exchange to maintain liquidity and create a more robust infrastructure for traders. For example, after submitting an order to the Relayer, a market maker waits for an order to be filled, at which point the trade is trustlessly executed on the blockchain.

Smart contract-managed reserves

This model connects the buyer and seller function when there is low liquidity. With smart contract-managed reserves, instead of having to find a buyer for the bitcoin, a user can trade with an external reserve, depositing bitcoin into the reserve and receiving ether in return. Bancor is an example of this model.

Although the existing decentralised exchanges need work to bring them up to a comparable speed with the traditional centralised exchanges, there are several innovative entrepreneurs working on finding the best solutions, and hopefully we will see them next year, if not in 2018.

 

The case for decentralisation

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Centralisation came in the second phase of Internet development. In the first phase of the web, Internet services were built on open protocols, but by the time of the new millennium this was rapidly changing to centralised platforms. Firms like Google and Amazon, Facebook and Apple (GAFA) designed software that outpaced the open protocols, and once smartphones arrived, the trend picked up speed.

The centralisation effect

What then happened is that startups found it much harder to grow their businesses online, because of the dominance of centralised platforms that could change the rules at any moment and take away the newcomers’ audience. Innovation has been stifled and the Internet environment is less dynamic because of it. Furthermore, centralisation has aided the rise of fake news and the numerous debates over privacy and biased algorithms.

One response to centralisation might be to impose government regulation on the largest Internet companies, but the problem here is that the web is software based, which means the networks can be redesigned to exploit market forces. So, this type of solution is not of much benefit.

Decentralisation is the answer

Cryptonetworks are a decentralised solution. They are governed by communities and have the potential to outperform centralised platforms.  The reason they are an answer is that they behave in a different way to those platforms that are centralised. For example, when a  centralised platform starts up they do everything they can to recruit users and third-parties like developers, businesses, and media organisations to give the service added value. Facebook is a good example of this. As platforms like this move up the adoption S-curve, their power over users and third parties steadily grows. Again, look at Facebook.

Cryptonetworks operate in a very different way. These decentralised networks “ use consensus mechanisms such as blockchains to maintain and update state, 2) use cryptocurrencies (coins/tokens) to incentivize consensus participants (miners/validators) and other network participants,” as Chris Dixon suggests.

Other advantages are that they also stay neutral as they grow, and use open source protocols, whereas centralised platforms use a ‘bait and switch’ approach. Users have a voice via the community that governs the decentralised network and users work together towards a common goal – community growth and strengthening the token’s value.

Ultimately, the question of whether decentralized or centralized systems will win the third era of the Internet depends on who is going to build the most compelling products. The entrepreneurs working on decentralised platforms are up against the strong cash flow of Google etc, but on the other hand they also have a growing fan base that will provide robust support.  Decentralisation also provides a more level playing field for third-party developers and businesses, and that could well be one of its biggest advantages.