Blockchain Scaling and Liquidity Concentration on Decentralized Exchanges

87 Pages Posted: 18 Jun 2023 Last revised: 5 Mar 2024

See all articles by Basile Caparros

Basile Caparros

ChainSolid

Amit Chaudhary

Gillmore FinTech Centre; ChainSolid

Olga Klein

University of Warwick - Warwick Business School; Gillmore Center for Financial Technology

Date Written: July 4, 2023

Abstract

Liquidity providers (LPs) on decentralized exchanges (DEXs) can protect themselves from adverse selection risk by updating their positions more frequently. However, repositioning is costly, because LPs have to pay gas fees for each update. We analyze the causal relation between repositioning and liquidity concentration around the market price, using the entry of blockchain scaling solutions, Arbitrum and Polygon, as our instruments. Lower gas fees on scaling solutions allow LPs to update more frequently than on Ethereum. Our results demonstrate that higher repositioning intensity and precision lead to greater liquidity concentration, which benefits small trades by reducing their slippage.

Keywords: decentralized exchanges, FinTech, gas fees, liquidity concentration, market depth, slippage

JEL Classification: G14, G18, G19

Suggested Citation

Caparros, Basile and Chaudhary, Amit and Klein, Olga, Blockchain Scaling and Liquidity Concentration on Decentralized Exchanges (July 4, 2023). Available at SSRN: https://ssrn.com/abstract=4475460 or http://dx.doi.org/10.2139/ssrn.4475460

Basile Caparros

ChainSolid ( email )

Amit Chaudhary

Gillmore FinTech Centre ( email )

Warwick Business School
University of Warwick
Coventry, CV4 7AL
United Kingdom

ChainSolid ( email )

Olga Klein (Contact Author)

University of Warwick - Warwick Business School ( email )

Coventry CV4 7AL
United Kingdom

Gillmore Center for Financial Technology ( email )

Warwick Business School
University of Warwick
Coventry, CV4 7AL
United Kingdom

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