Blockchain 101: UNISWAP

3 min readDec 23, 2020

Popular Decentralized Exchange on Ethereum

Introduction

Uniswap is a Decentralized Exchange (DEX) built as a decentralized application on the Ethereum blockchain via the use of smart contracts. Uniswap has quickly become a trusted and popular DEX as being decentralized, permisionless (no KYC) and secure financial platform.

In September 2020, Uniswap started to release its UNI token (ERC20) via an airdrop program to its former users (no direct sale).

Description

Uniswap is a DEX built on Ethereum relying on an automated market maker (AMM) instead of an order-book (in comparison to centralized exchanges). Instead of matching buy and sell orders with each others, two assets are pooled together in a liquidity pool and traded against, with the price given by a predetermined ratio (AMM) between the two, according to the pool’s balances for each assets within the pool.

The idea of a solution like Uniswap was first proposed by Vitalik Buterin in 2016 for a decentralized exchange (DEX) that could employ an on-chain automated market maker. About 1 year later, Hayden Adams started working on the concept and received several grants including from the Ethereum Foundation and some Venture Capitalists. Uniswap launched its v1 in November 2018 and an upgraded v2 in May 2020.

Uniswap Automated Market Maker profile (price A/B correlation to liquidity)

Pros and Cons

Uniswap solves the problem of high spreads for assets with low liquidity (small caps and/or newly listed assets) which exists on centralized exchanges as relying on an order book (because there is no direct incentive for professional market maker to provide liquidity on low trading volumes assets). Uniswap resolves it by offering a share of the trading fees as incentive for anyone to become a market maker by providing liquidity to the pool.

One inconvenient of Uniswap AMM system is that there is an important slippage for large orders as the price paid increases sharply with the demanded amount. This slippage is amplified when the liquidity in the pool is low and the demand high.

Creating a liquidity pool for a pair of cryptocurrency is open to anyone

Token

Uniswap has released its own token (UNI) both to provide extra incentives for liquidity providers on the platform and to finance and grow the ecosystem further.

The full token distribution and release schedule is available: here