Uniswap and the Emergence of the Decentralized Exchange

Abstract

Despite blockchain based cryptoassets trading since 2009, there has been a functional gap between on-chain transactions and trust based centralized exchanges. Uniswap, a decentralized exchange, bridges this gap. Uniswap’s constant product automated market maker enables the trading of blockchain tokens without relying on market makers, bids or asks. This reimagines conventional financial market structure in ways that challenge regulation, and increases market completeness as any size of volume can be traded at any time in a predictable way. We apply ARDL and VAR methodologies to 154 days of Ether-Tether trading pair from the Uniswap V2 exchange. We find that liquidity providers and arbitrageurs ensure the ratio of reserves match the trading pair price, and therefore Uniswap can be an effective financial market.

This is an original manuscript of an article published by Risk.net in Journal of Financial Market Infrastructures, available online: doi.org/10.21314/JFMI.2022.004

Keywords: Uniswap, Decentralized exchange, Blockchain, Ethereum, Tokenomics

JEL Classification: D47, D53, G14, O31