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A decentralized cryptocurrency exchange operates as a cryptocurrency exchange that operates outside of the purview of a centralized authority.
Additionally, users’ funds are not kept inside of the exchange under the care of a single entity.
Instead, trades on a decentralized exchange are peer-to-peer; that is, they occur directly between traders through an automated process.
There are a number of automated processes on which decentralized exchanges are built.
One of these involves the creation of proxy tokens that are traded with one another – when a trade is secured between two users, the real cryptocurrencies are sent to one another automatically.
Conversely, another automated process involves trading through a multi-signature escrow system.
On a centralized exchange, customers deposit their funds in exchange for an “IOU” that can be traded inside of the platform.
These “IOUs” are converted into the coins they represent when the customer wishes to withdraw their coins from the platform.
Advantages of Decentralized Exchanges
Because decentralized exchanges do not require their users to relinquish control of their funds, they are generally considered to be much more secure than centralized exchanges, which can be subject to fraud or hacks.
However, decentralized exchanges often lack the trading features on centralized exchanges; some require their users to be online in order for a trade to take place.
The main difference between centralized and decentralized exchanges is the prevalence of a middle man.
This is the defining attribute of all centralized exchanges and to date has reflected the wider usage of the former.
That being said, decentralized exchanges continue to be a rising force in the crypto industry and it is entirely feasible these could eventually overtake centralized exchanges at some point in the future.