UniSwap is the missing link that token ecosystems needed. A discussion.
There are a lot of cryptographic tokens, and every day more are created. It started with flavors of Bitcoin, then it became ERC 20 coins, then for a while EOS ecosystem coins, but there are others: Tezos, Stellar, Algorand etc.. There are also whole ecosystems of special NFT tokens, like WAX collectables and ERC 721 coins on open sea.
One of the key problems is how do users trade all of these coins for each other. The first solution was centralized exchanges with centralized order books like CoinBase and Binance. But adding your coins to these exchanges, claiming your “shelf space” on the exchange, and getting your coins off these exchanges is an area of high friction — both cost, time and regulatory friction.
A few years ago, DEXs became the talked about thing. In DEXs, bids and asks were placed on order books and orders were matched without all the coins being placed in a central exchange. It sounded great, but the reality is DEXs suffered the same problems as smaller exchanges: insufficient order books, and low liquidity.
DEXs also hit a regulatory hurdle. Because they matched buys and sells, they were viewed as unregulated exchanges and were in some cases fined (Etherswap) and in other cases forced to KYC (IDEX). But even when they did work, and even in the case of big efforts like EOSFinex and Binance DEX, they basically did not work out. Too little volume.
Now, along the way an interesting idea came in 2017. A completely automated, curve based approach or “automated market maker” called Bancor. Bancor did not have an order book like IDEX. It just had a formula (“the bancor formula” for how bids and asks should move subject to price.
Bancor rolled out on ETH, but had issues. You had to buy a separate Bancor token, and creare a standalone pool of that token, together with your token to provide liquidity,. Once you did, you could then offer automated swaps like ETH ←> SENSE or ETH <-> WAX using Bancor.
The system “sort of worked” but it didn’t scale well. The token originator was required to also be a liquidity provider, effectively buying back their own tokens in the case they dropped in price. That was a tough sell for tokens that wanted to sell tokens to raise money. And they were also forced into this BNT token, which provided Bancor with a “raison d’etre”, and was the original impetus behind Bancor’s 2017 massive ICO.
So up till now in the story we have three models: (a) the centralized model, Binance. (b) the DEX model, IDEX and the automated market maker model, Bancor.
A fourth model has emerged in the last year that is KILLING all of these models. It’s an automated model that uses pools called UniSwap. It now has higher volume than Coinbase and is making everybody money in DEFI. It’s just a fantastic critical breakthrough and I will explain it next.
In the UniSwap model, like the Bancor model, you start with a pool of two tokens, token A and token B. But instead of having B be a specific “BNT token” and token A be controlled by the token issuer, you just let the pool be started by anybody.
So to make things more concrete, lets assume you are minting a new coin called “FOO” and you want to provide a market against a stablecoin called “USD”. Anybody can start the market by placing *both* FOO and USD into a pool that uses the automated market making rule.
So let’s assume you start with the idea of FOO being worth 10 cents. You place 10,000 FOO and 1,000 USD in your “vault”, and you allow automated trading between FOO and USD.
This automated trading changes the price of FOO relative to USD as the FOO leaves the pool. For example, if you price a 1 FOO buy it will be 10 cents, but buying 500 FOO will be 11.08 cents.
Lets not get too caught up in the math. The Uniswap curve is one example of these curves (and different from the Bancor curve). The CRV model is different — but the key is the curve allows automated pricing of buys or sells relative to the pool.
Now here is where the magic comes in. Instead of being issued by Bancor, these Uniswap pools are decentralized. Anyone can make one. And ANYONE CAN ADD TO ONE.
This last point is critical. In the Bancor model, only Bancor makes the market. You have to buy Bancor tokens to participate, and there is no way to grow the pool.
But in the UniSwap model there are also AUTOMATED trading fees, that get distributed to the Pool. So every trade is charged 0.3%, and that fee is paid in tokens to the pool.
Anybody can add to a pool by adding a pro-rated amount of the tokens in the pool. So if there are 10,000 FOO and 1,000 USD in the pool, you can grow the pool by 33% by adding 5,000 FOO and 500 USD.
By growing the pool, you earn a pro-rata amount of the tokens as people trade. So you have “decentralized” the cash machine that is a successfull exchange.
Now this is being used in ETH DEFI over the last 2 months by Yearn and others to rack up amazing returns. The more volatility, the more fees. And it works like wonders for stablecoin only pools like CRV.
But the bottom line is this actually DRAMATICALLY SIMPLIFIES the exchange. Uniswap is the simplest possible UX. There is always a bid and an ask.And for small amounts they are exactly 30 bps apart.
Anways, this really has nothing to do with ETH and has everything to do with the UNISWAP core idea and Pools. We can build this on Proton or any chain
But it can be the breakthrough that token systems need. Not only for utility coins but for tradeable wax collectibles, taylor swift concert tickers etc