The concept of a Decentralized Exchange (DEX) in the crypto market has been around for at least seven years, originating around the time Bitsquare was founded in 2014.
However, today the purpose of the market’s most renowned DEXes is entirely different from the original idea that defined the DEX in the first place.
While the DEX concept was conceived for privacy and security concerns, most platforms have been driven mainly by speculation derived from price deviations and arbitrage opportunities, especially during the massive flow of funds towards DEXes in 2020 where Ethereum smart contracts like Uniswap and Curve took the biggest share of the market.
Most DEXes operating today fail to provide convenient user experiences for real use cases and fail to satisfy users’ basic needs without compromising fundamental DEX values.
Mintlayer DEX solves the most pressing issues encountered in today’s decentralized exchanges, and at the same time provides the right incentives to motivate users to adopt it quickly.
Mintlayer DEX is the DEX we wanted all along
Unlike most of its counterparts, Mintlayer DEX is not meant for speculation on hyper-fast trading exchanges. Its primary aim is to provide a suitable environment for network participants who wish to retain their privacy and trade without trusting third-party custodians.
In essence, Mintlayer expresses the original idea of DEX, but at the same time strives to provide important features that all others currently lack: an easy onboarding process, friendly user experience, liquid markets, and minimal friction when exchanging assets - a combination that can make every crypto nerd drool.
The main and most promising use cases of the Mintlayer DEX are the following:
- Buy & hold for investors and casual traders;
- OTC trades and exchanges based on bilateral agreements;
- Low-frequency professional trades;
- Public offers of companies or individuals (crowdfunding);
- Settlements between services, such as exchanges (Lightning Network DEX).
For these use cases that Mintlayer shines at, Ethereum, which is also being used for the same purposes, has significant drawbacks as it introduces these frictions in the markets:
- High fees due to either the absence of a second layer over the blockchain or the fact that order books are written on-chain. Such high transaction fees almost completely exclude the possibility of exchanging assets for the smaller values.
- It is necessary to first exchange the standard monetary unit that everybody holds in the crypto ecosystem (Bitcoin) into the gas (ETH) for trading. This represents a major friction and disincentive for portfolio diversification which in many cases precludes investors from entering the world of decentralized finance.
- Technical expertise is required to safely make use of Ethereum’s DEX smart contracts. Sometimes, even to think out the financial implications of those contracts requires a lot of commitment. There are several famous examples of miscomprehension among users about the actual functioning of some contracts due to the complicated financial schemes behind them: for example the contract for the creation of DAI stablecoins and the “surprise” for investors when they discovered the risks these contracts were incurring.
- The importance of privacy has not been considered, given the account-based model of Ethereum and the absence of fungibility of transactions.
- Ethereum also poses a risk of systemic failure due to a large portion of the network being centralized, with most of its nodes running on Amazon cloud services. As it turns out, central services are needed even to query older states of the network and retrieve or audit the past’s financial balances. At this stage, only “big & scary nodes” can afford to run Ethereum archival nodes.
Mintlayer is fixing known flaws of Ethereum
One by one, here’s how Mintlayer solves these issues mentioned above:
Light nodes and low fees:
Mintlayer does not pollute the network as it has no on-chain order book. Instead, orders are collected in a Distributed Hash Table (or DTH, inspired by solutions like BitTorrent). Each node can prune the DHT in any way: either by order date, pairs or ranking (even provided by third party services to avoid spam). Every user will likely have a different DHT, like on a once-popular eMule software where every user shares a separate library.
It is worth noting that only Mintlayer users focused on DEX functionalities share the order book, meaning that fullnodes of users who are not interested in the exchanges need to sync only Mintlayer and Bitcoin blockchain, to which Mintlayer blocks are anchored, instead of also synchronizing DHT.
A native ranking system helps to avoid spam. It is also possible to rely on third-party services to filter out fake orders, spammers or inefficient nodes (those that finalize a tiny number of orders compared to the number of total orders broadcasted).
The direct swap with Bitcoin:
On Mintlayer DEX, there are only twoparticipants in each transaction, no intermediaries, and both users involved can be either makers or takers. Once the order is submitted, the ML chain processing nodes match a counterparty with a “complementary” order in the same pair but in the reverse direction (for the entire amount or even a partial amount). When a matching order is found, an atomic swap is executed.
Since Mintlayer is a Bitcoin sidechain, atomic swaps are possible by exchanging Bitcoin directly with any MLS-01 asset issued on Mintlayer. This kind of atomic swap is secure even in case of Bitcoin chain reorganization, since every Mintlayer block is linked to a Bitcoin block’s hash. In such a case, Mintlayer would also reorganize its chain alongside Bitcoin.
No technical expertise required:
It is not necessary to have any technical expertise to run a Mintlayer DEX node. It is even possible to exchange assets on the DEX directly using a mobile wallet by relying on third parties to provide order book and matchmaking. The good thing is this solution does not require you to trust third parties with custody of your funds or the execution of the atomic swap. Both users have to be online simultaneously, which is quite common for full node desktop wallets. For mobile wallets, on the other hand, it is recommended to use a third party service to notify one participant when the other is ready.
MLS-01 transactions on Mintlayer are UTXO-based, which is more oriented to privacy than an account-based model. Blockchain analysis cannot tell if several MLS-01 tokens are held in the same wallet, and the same applies to each specific transaction output that might use different addresses. Therefore, MSL-01 transactions are completely fungible (e.g., Bitcoin taproot) and an atomic swap DEX transaction is indistinguishable from a typical transaction.
Secure and independent, just like Bitcoin:
Mintlayer full nodes have low hardware requirements so that anyone can run a node. Even more so, pruned full nodes with the newest technology proposed for Bitcoin (utreexo, reducing the size of the unspent output set) require almost as little space on disk as a mobile light wallet. Also, Mintlayer blockchain is secured by checkpoints on the Bitcoin blockchain so that malicious users cannot perform POS long-range attacks. All these features make the network entirely decentralized.
How can Mintlayer DEX be successful and become adopted in the market?
As described earlier, the DEX can be successful only if users find enough liquidity and offers on it to satisfy their trading intentions. This means that ideally, there should always be an available match within a short time for each order pairing in the DHT table. For that to happen, market incentives are put in place.
For example, users who are willing to pay a premium price for the execution of such trade on a DEX are also given the benefit of privacy: using this solution, they can directly buy and sell bitcoin against stablecoins without ever involving centralized exchanges that require KYC/AML, unless ACL rules are enforced on particular Mintlayer tokens for regulatory requirements.
The premium price covers the transaction fee on the Mintlayer network, plus an additional cost calculated as the difference between the exchange rate at the time of trade execution and the price ratio of the corresponding pair on centralized markets.
The premium paid is an opportunity for the other party of the trade: when there is enough space to speculate, it will be perceived as an attractive and lucrative market for traders.
Let’s look at the incentive system in closer detail to figure out how it works exactly.
Mintlayer’s market incentives
Let’s say a user broadcasts an order on the DHT. This order also expresses the “priceRange” parameter, which is a percentage of deviation from the limit price defined in the order that helps increase the possibility of finding a right match (see more detailed explanation ).
Specialized entities (which we may call “liquidity providers”) can always inspect the DHT to individuate speculation opportunities from fulfilling orders on the DEX, since they can profiting making arbitrage between DEX and CEX prices
Once a new order appears, the liquidity provider can broadcast symmetric order with a limit price within the priceRange of the DHT order, but with a more convenient price ratio (for the liquidity provider) compared with a centralized exchange.
Suppose the DHT order book’s trading pairs are expressed in a token that is listed on major centralized exchanges (such as BTC or a stablecoin). In that case, it is plausible that liquidity providers will always have enough tokens to fulfill the match as they can instantly buy them on a centralized exchange through Lightning Network (platforms like Bitfinex already allow deposits and withdrawals through LN).
Lightning Network is yet another “killer feature” that Mintlayer introduces for the efficient functioning DEX environment. Assuming that liquidity providers will already have channels entering or exiting the centralized exchanges for all MLS-01 tokens with high liquidity, they will likely develop BOTs that would query prices and orders on the DHT and simultaneously operate DEX and CEX to profit from the arbitrage opportunities faster than competitors.
A win-win situation for all
To sum up, this is not only a completely new experience for speculators but also a double win for every participant involved because:
- Users buying assets on the DEX pay a premium fee over the same type of trade done on a centralized platform. In exchange, they get to maintain complete privacy, do not need to pass KYC/AML procedures, deal with legislation and authorities, nor trust any custodian third party service.
- Liquidity providers allow users to find a match for their orders immediately. In return, they can speculate by leveraging that premium price and simultaneously operating on DEX and CEX through Lightning Network.
- Competition between liquidity providers lowers the premium price paid by users.
This is just part of the picture of the benefits that Mintlayer will provide. There is much more to Mintlayer than a single article can unravel. Get familiar with it by exploring the Mintlayer Whitepaper.