The future of digital asset liquidity: centralized or decentralized?

Last month, Bitcoin (Bitcoin) Reach over $60,000, Which highlights the current enthusiasm surrounding digital currencies. Following BTC, the value of altcoins has also risen sharply.All of this is music for long-term and short-term bull market investors looking to increase returns, even with the current pullback and support of Bitcoin Hovering around $40,000.

However, despite all the hype during the current bull market, the lack of liquidity of digital assets is still a major challenge for exchanges, traders, token issuers and market makers. The reality of today’s market is that professional cryptocurrency traders cannot effectively obtain global liquidity or find the best global price to increase profits.

For token issuers, the current situation forces them to list tokens on many exchanges in order to reach their target customer base. It raises business development costs and forces issuers to enter niche markets. In order for the digital currency market to move forward, these categories must be understood.

Fragmentation and market forces

One of the main reasons for insufficient liquidity is market fragmentation. The idea behind crypto is not just a sexy stock investment. Encryption is a new way of managing money. However, due to all the different coins (even successful coins) and the lack of businesses that accept cryptocurrency payments, users are not using cryptocurrencies as originally intended.

related: Professional traders need a global ocean of cryptocurrencies, not hundreds of lakes

Of course, this is the inevitable result of the destruction of the legal world. This type of fragmentation is the only possible way for consumers to transition to the world of cryptocurrency. And because exchanges are usually localized, they tend to only serve one or a few fiat currencies. Third, consumers only have a fragmented market and a slow adoption curve.

This situation is not bad, because users are free to choose, but it does bring consequences.

Two of these consequences are lack of liquidity and highly volatile prices. Consider how much the price of Bitcoin has changed in the past two years. To say the least this is a roller coaster. This volatility makes it difficult for consumers to use a mobile digital wallet for a $500 shopping spree in an advanced and skilled department store. In short, liquidation and price changes become a problem.

More importantly, the fragmentation of the market allows newcomers to enter a field with a huge learning curve. To understand the market and determine the exact pricing of various coins, you need to have many exchange accounts and a deep understanding of the industry. As a result, many new digital investors simply buy and hold stocks to predict changes in the market, but hope to obtain relatively fast coin returns-even for those investors who don’t have a clear use case.

related: Predicting Bitcoin prices using quantitative models, part 1

Concentrating the devil?

The complexity of market fragmentation forced several different solutions. Some people suggest a centralized liquidity approach. By centralizing coins and regulating the market, investors no longer face the broken and complicated maze of coins and prices. Without these negative dispersion issues, investors will be more willing to trade quickly, rather than holding a larger buying margin.

At first glance, this seems to be coherent, but such a solution is untenable. First, centralization goes against the spirit of developing cryptocurrency. Centralization is not the answer to a market that has grown due to a conscious rejection of centralized currency. Doing so will alienate the market itself.

Second, if the market adopts a centralized policy, the digital currency market will eventually face the same problems that plague banks (slow processing time, lack of transparency and security, and high handling fees). The progress once hoped for can only replicate the failure of the current financial system.

Finally, even in a seemingly decentralized system where all market liquidity is actually concentrated in a few decentralized exchanges, investors will still be limited by their way of participation. The available liquidity pool is reduced but the number is larger, and the inevitable result is to return to the statutory financial system.

related: Decentralization and Centralization: Where is the future?Expert answers

Distributed solution

Since centralized solutions run counter to the nature of digital currencies, a more powerful decentralized solution is needed to repair the problems caused by market fragmentation. Although decentralization can solve the problem for a long time, it can make the market continue to be adopted by institutions. This trajectory is consistent with the vision of cryptocurrency, while ultimately generating stability.

However, simple decentralization is not a good enough answer. For cryptocurrencies, the key to liquidity is “decentralized and connected.” This slogan takes the best of both worlds and blends them together. Decentralization (ie distribution) is what makes encryption so revolutionary. But in the 21st century, global connections are closer than ever, and this connection will only become stronger.

However, organic methods must be used to maintain connectivity growth. Of course, trying to impose a certain fixed structure on the cryptocurrency space is to centralize it. Therefore, investors and traders must weather the storm of fragmentation to protect the factors that make cryptocurrencies so far-reaching and destructive. This approach provides connectivity, and as connectivity increases, the digital currency market becomes more fluid. In addition, the more dispersed the market, the more complete the original purpose of the digital currency. The market must develop in this direction in the next three to five years.

Growth to DeFi

As the cryptocurrency market develops, activity will only continue to increase, allowing decentralized finance (DeFi) solutions to take over from there. DeFi solutions provide the best of both worlds: a truly distributed connection, which will protect the digital currency space and reduce market fragmentation.

Most cryptocurrency trading companies operate in the same way as banks or stock exchanges. In this way, buyers and sellers must pay royalties. This approach will soon become a situation between David and the giant, in which case traders are used by giants with more wealth and higher risk thresholds. However, in the DeFi transaction pool, the benefits (and costs) are evenly distributed among the parties. In order to contribute to the fund pool, liquidity providers will receive fund pool token rewards. Buyers always have sellers, and sellers always have buyers.

Moreover, all liquidity providers receive a portion of the transaction costs based on the number of their shares. Indeed, this is a decentralized system: someone can not only provide cryptocurrency to the DeFi pool, but also contribute fiat currency, thus providing a way for traditional conservative investors to play a role. If an investment group sees gains, it counts on them to get a return there.

Among the main catalysts that push the market in this direction, the most prominent is the central bank digital currency (CBDC). When governments started issuing CBDCs, they provided a much simpler entry point for DeFi. Both investors and consumers are ready to conduct digital transactions, and the barriers to converting funds from fiat currencies to cryptocurrencies will be greatly reduced.

In addition, the CBDC will allow more significant international capital flows. Providing a useful catalyst for a fully decentralized liquidity pool will enable isolated exchanges to trade only on local legal exchanges. Forces such as CBDCs and increased participation in DeFi will drive change, and investors will be even better.

This article does not contain investment advice or recommendations. Every investment and trading action involves risks, and readers should conduct their own research when making a decision.

The views, thoughts and opinions expressed in this article are only the personal views of the author, and do not necessarily reflect or represent the views and opinions of Cointelegraph.

Haohan Xu He is the CEO of Apifiny, a global liquidity and financial value transfer network. Before Apifiny, Haohan was an active investor in the stock market and a trader in the digital asset market. Haohan holds a Bachelor of Science in Operations Research and a minor in Computer Science from Columbia University.