When we look at the cryptocurrency space as a whole, it is clear that two main types of exchanges dominate the industry.
First, centralized exchanges (CEXs) are owned and operated by a specific company. Then there are the decentralized exchanges (DEXs), which are not owned and operated by a company, but run through community governance in most cases.
If you are exploring the blockchain space for the first time and are still not as experienced as some experts might be, you need to be aware of all of the pros, cons, and main differences surrounding each exchange type.
To clarify things, today, we will dive deep into everything you need to know about these exchanges.
What is a Crypto Exchange?
Prior to jumping too deep into the main differences surrounding these exchanges, let’s first clear up what cryptocurrency exchanges actually are.
A cryptocurrency exchange is a platform that aims to give its users access to the ability to buy, sell and trade cryptocurrencies that they either have or are interested in getting.
Some exchanges take things further by letting their customers use FIAT currencies, which can include USD, EUR, GBP, and other supported currencies.
An exchange requires liquidity in order to achieve this goal, and the main way through which CEXs and DEXs stand out is in the way they get this liquidity.
Jumping Into Centralized Exchanges (CEXs)
A centralized exchange is defined as an exchange operated by a single central authority, typically a company or a corporation, that takes full responsibility for its management and the transactions that occur on top of it.
The company owns and holds the ledger, can execute the transaction, can secure the user data, and has other responsibilities connected to the financial system.
The company also needs to ensure that there is a high level of liquidity on the exchange, so it can facilitate the trades at the point in time when they need to.
However, exchanges also hold users' private keys, which is a double-edged sword.
For one, due to the fact that the exchange holds them, if you forget your account’s password, which is also connected to the on-exchange wallet, you can simply click on “forgot password,” and there’s a system in place that can reset it.
However, this also means that you are not in full control of your cryptocurrencies, and if the exchange fails, you risk losing them.
Second, there is always the risk of the exchange getting hacked or being dishonest about the number of liquid assets it has.
Typically, the highest level of security you will find within these exchanges is two-factor authentication (2FA), as well as claims from the exchange that it holds a specific percentage of the cryptocurrencies in cold storage.
However, there are advantages to these exchanges, such as the ability to buy crypto with FIAT directly. Some of the most common cryptocurrency exchanges you might be aware of are Coinbase, Kraken, Crypto.com, Gemini, and Binance.
Most of these exchanges will also typically have their own native cryptocurrency. However, its primary role will be to reduce transaction fees on the CEX. These exchanges follow regulatory guidelines and will require users to complete a Know Your Customer (KYC) process.
If you want to begin your path toward making cryptocurrency investments and want to leverage the power of automation, you can utilize ZenDCA to automate any on-exchange process.
Jumping Into Decentralized Exchanges (DEXs)
Decentralized exchanges, on the other hand, do things a bit differently. A decentralized exchange does not need to rely on a central authority at any point in time, as it uses a system of users and their devices to remain online.
The network is decentralized and widely distributed, which means that each user has an equal share in the ownership of the exchange.
Furthermore, these DEXs will also have their own native cryptocurrency; however, in their case, it would get used for the process of governance, where users can vote for the future changes and developments of the exchange in question.
Another noteworthy difference is the fact that you cannot buy crypto with FIAT and that each user has full ownership over their private keys and cryptocurrency wallet.
While this gives each user a much higher level of security and control over their crypto, again, this is also a double-edged sword; if they lose access to or forget their private keys, they risk losing their cryptocurrencies forever. These exchanges do not require users to complete a Know Your Customer (KYC) process, ensuring that they remain anonymous.
Some of the most notable examples here include Uniswap, SushiSwap, Balancer, and Curve, each unique in its own way. Some DEXs have also been known to have liquidity issues because the users are the market makers, not the centralized exchange.
Most DEXs that implement the Automated Market Maker (AMM) model reward users who provide liquidity to their DEX with the native cryptocurrency, which is received as a reward.
Picking the Right Exchange For Your Needs
Many centralized cryptocurrency exchanges have failed historically. From Mt. Gox to a more recent example with FTX.com, centralized exchanges can suffer due to bad maintenance and bad management. However, there have also been numerous successful examples of solid, well-functioning exchanges which have stood the test of time.
If you are looking for an easy way to get into crypto and have no crypto, a CEX will be the perfect entry point, as you can buy crypto with FIAT, store them directly on the on-exchange wallet, and use features that are typically not found on DEXs.
However, once you get comfortable with using cryptocurrencies, switching to DEXs has been recommended by many due to the fact that you retain full control over your wallet, and there is a lesser risk of the DEX failing as it is fully decentralized and community-run.
There is a role for both types of exchanges in the crypto space, and each of them is favored by different people for different reasons. Each exchange type has its pros and cons, and ultimately, the choice depends on what the user actually needs.