As explained, there are several differences between how centralised crypto exchanges and decentralised crypto exchanges operate. The fundamental difference is that centralised exchanges control user funds while decentralilsed exchanges allow their users to maintain control of their funds.
Choosing the right type of exchange to trade crypto, however, does depend on more than just custody of crypto. Different users have different requirements and may be surprised to find that their needs may match them in unexpected ways.
This article now examines the advantages and disadvantages of both the CEX and the DEX.
Advantages of a Centralised Crypto Exchange (CEX)
1. Higher Trading Volumes and Liquidity
Centralised exchanges are generally huge commercial entities and start their platforms with a lot of investors and backers. This allows them to handle large volumes of trading and offer high liquidity – which simply means that it is very likely to accept and transact any amount of trade from any user very quickly.
This is generally why large corporate or institutional trades are normally handled by brokers who spread customer orders across several large centralised exchanges. This also means that regular users can expect their assets to be traded easily and instantly.
Binance, for example, recorded over $76 billion every day in 2021 (BusinessofApps).
2. Fiat to Crypto and Crypto to Fiat Conversions
Centralized exchanges generally allow the use of both fiat money and cryptocurrency on the same platform. Users can deposit both types of currency and withdraw with either option as well.
Additionally, centralised exchanges tend to have what they refer to as fiat on- and off-ramps. A fiat on-ramp allows users to directly purchase cryptocurrency with fiat currencies like US dollars via card, bank or other money transfer methods like Western Union or PayPal. A fiat off-ramp allows users to convert their cryptocurrency using the same methods into fiat currency.
3. Ease of Use
Centralised exchanges invest a lot of effort to building their user interfaces so generally do a good job of funneling newcomers into the crypto space. Dashboards are smoother and more intuitive.
More advanced users or traders are usually also able to access more sophisticated trading tools resembling online stock or forex brokers, to produce trading charts and other analytics, or to connect automated trading bots to manage their trading.
In this sense, CEXs can appear familiar to traditional traders who use online brokers.
4. Legal Clarity
As centralised exchanges are generally under the control of regulators, they must comply with all the legal regulations in their particular jurisdiction. This can mean they do collect extensive data on their customers and even impose restrictions on certain users. On the other hand, this also makes it clearer to the user as to whether or not it is legal to use in their country.
It may also help certain users in some countries perform their tax obligations on crypto trading and holdings, as CEXs are required in some countries to provide the right tax data to their customers.
This may also offer some form of user protection should things go wrong – for instance, Coinbase keeps some US customer funds on Federal Deposit Insurance Corporation (FDIC)-insured banks in the US, so these deposits are protected by that insurance.
Disadvantages of a Centralised Crypto Exchange (CEX)
1. Strict Know-Your-Customer (KYC) Policies
As most centralised exchanges must comply with the different regulatory requirements of their jurisdictions, they must subject their users to strick KYC and Anti-Money Laundering (AML) procedures.
This can be as simple as identifying your phone number and email address but often, for higher limits, you will need to provide photographic evidence of your identity, video identification, and even proof of source of funds (bank statements, declarations, etc.) and proof of income (salary slip, employment letter, etc.).
There usually is no way to know if your data is protected securely on their servers, and even with General Data Protection Regulation (GDPR) rules, you may request the withdrawal of your personal data but give up your access.
2. Custody of Funds
All CEX wallets are custodial, meaning to say they are ones who hold the authority over your assets. You will see your balance in your account and even have a personal crypto address to deposit funds into, but these still belong to the centralised exchange. You will never be given the private keys – the sole control to a crypto wallet.
If they were to lose access to these wallets, or get hacked, then your funds are gone.
The warning phrase “Not your keys, not your coins”
is a reminder to crypto users not to store funds
at exchanges. Read more about crypto custody in this
Learn Crypto article: “What is Crypto Custody”.3. Hacks
Since centralised crypto exchanges hold a lot of user funds and personal data, they happen to be a favourite target for online hackers and crypto thieves.
As they store their data on centralised servers or rely on employees to conduct strict security practices, human error and negligence can and often has led to exchange hacks. Over the years, billions of dollars of user funds have been lost in this way.
4. Higher costs
Centralised exchanges are large companies with hundreds of employees handling accounts, customer support, marketing, security, engineering, and a host of other user services and products. Their overheads on salaries alone is substantial, not to mention rental, server costs, and computer security.
These costs are often passed on to customers, reflected either in high transaction fees or commissions.
Advantages of a Decentralised Crypto Exchange (DEX)
1. Privacy and Anonymity
Anonymity in the financial space is a great motivator to use a decentralised exchange. The vast majority of DEXs require no authentication procedure, no identification or Know Your Customer (KYC) processes, and do not ask for users’ personal documents.
All that is needed in most cases is simply the personal address on a crypto wallet on the blockchain and users can trade with a DEX. Users are also free to use other privacy services like VPNs to protect their internet identities like device ID and IP address.
2. Non-Custody of Funds
As discussed, the key advantage of a decentralised exchange is that they are non-custodial. This means that they never need to view the private keys protecting user funds on their crypto wallets.
Bear in mind that this doesn’t necessarily protect your crypto assets completely. Improper access to malicious DEXs or fake protocols, or using a device compromised by a phishing attack likely puts you at the same hacking risk as using a CEX.
3. Lower costs
While the larger and most popular DEXs to employ many employees, some DEXs still manage to operate with a handful of staff, keeping operating costs low. With little or no physical office rental to pay, or customer support to handle client cases, costs are lower.
In fact, the very best DEXs levy a small commission on trading, and most of that goes back anyway to the users since users are the ones providing assets and liquidity at DEXs.
DEXs also don’t charge transaction fees. Instead, users themselves pay miner fees directly to the blockchain networks, and these tend to be far lower than the fixed fees charged by CEXs.
Disadvantages of a Decentralised Crypto Exchange (DEX)
1. Limited Functionality and Ease of Use
Unlike the powerful and feature-rich dashboards of centralised exchanges, decentralised ones tend to be far more limited in functionality and even ease of use.
You may not find advanced trading options like margin trading or limit orders at many DEXS, or even advanced charting tools that professional traders require.
2. Lower Liquidity and Trading Volume
Early DEXs that ran on order books failed as they were unable to attract high liquidity to compete with CEXs .
Nowadays, modern DEXs are capable of higher liquidity yet most still struggle to maintain a level that would attract institutional traders. This means that larger trades may not execute properly – you might either not find enough to fit your order, or you are forced to accept an offer with a poorer rate than you asked for.
3. Efficiency
The biggest DEXs like Uniswap or Pancakeswap are pretty fast, with trades happening in a matter of seconds. But at peak times or during network congestions, it’s not uncommon to see them slow down. This is a matter of blockchain scalability, which has to do with the transactional capacity of most blockchains.
CEXs don’t face this issue as they run on fast centralised servers that can execute millions of transactions each second.
This may not be crucial to normal traders, but for professionals who require instant reactions to fast-changing market situations, DEXs speed of settlement render them highly unsuitable.
3. Code Security
Decentralized exchanges run on protocols that are defined by computer codes – you might see the term smart contract quite a lot.
While many have been vetted and audited to prevent security loopholes or vulnerabilities that can be exploited, most users and developers will only find out about dangerous vulnerabilities after a hacker has.
Unfortunately, this is precisely what happened in the early days of DEFI, where many hackers exploited DEXs to steal user funds. Additionally, malicious developers continue to hide bad code in their smart contracts, waiting for the right moment to activate and steal funds.
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