On The Quality Of Cryptocurrency Markets

Centralized Versus Decentralized Exchanges

Working Paper

Despite the growing adoption of decentralized exchanges, little is known about their market quality. Using a novel and comprehensive dataset, we compare decentralized blockchain-based venues (DEXs) to centralized crypto exchanges (CEXs) by assessing two key aspects of market quality: price efficiency and market liquidity. We find that CEXs provide better market quality overall and identify the main friction dampening DEX efficiency as the high gas price stemming from proof-of-work blockchains. We propose and empirically validate a stylized model of DEX liquidity provision, linking trading volume, protocol fees, and liquidity in equilibrium. Our theory identifies the quantitative conditions needed for DEXs to overtake CEXs in the future.

Last Revision: 2022-04-19

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