Uniswap is one of the essential protocols in Decentralized Finance (DeFi), with its native token UNI being probably one of the most distributed tokens ever.
The DeFi ecosystem aims to eliminate intermediaries in various financial applications through decentralized products that use smart contracts.
One such product, Uniswap, is a decentralized exchange (DEX) that addresses many problems, including security risks with their centralized counterparts, among other things.
In this article, Liquid has covered everything you need to know about the Uniswap protocol, how it works, and more.
What is Uniswap?
Built on Ethereum, Uniswap is based on the concept of liquidity pools and automated market makers (AMM).
It facilitates the decentralized exchange of ERC-20 tokens on the Ethereum blockchains at its core.
Uniswap is deployed as a set of smart contracts and is entirely decentralized.
Why do we need Uniswap?
Despite addressing many problems with their centralized counterparts, decentralized exchanges have one major problem: The shortage of liquidity that could slow down trading.
Uniswap makes it possible to swap tokens while significantly reducing the dependence on external market makers to provide a constant liquidity supply.
It does so by eliminating the need for centralized order books and encouraging the basics of using Liquidity Pools governed by smart contracts.
How does Uniswap work?
Different smart contracts enable different use cases of Liquidity Pools.
The Constant Market Maker algorithm utilized by Uniswap, for instance, ensures a constant supply of liquidity.
Liquidity providers create a market for a pair of assets by depositing an equivalent supply of both assets.
This concept of an equal supply of assets in a pool remains the same for all liquidity providers.
The ratio of the tokens in the Liquidity Pool dictates the price of each asset.
For example, when you buy ETH from the DAI/ETH pool, the supply of ETH is reduced from the pool, and the supply of DAI is increased proportionally. Therefore, it will increase the price of ETH and decrease the price of DAI.
However, liquidity providers should be aware of impermanent loss caused due to the volatility in a trading pair.
Uniswap’s UNI token
The native token of the Uniswap protocol, UNI, entitles its holders to governance rights. As a result, UNI holders can vote on changes to the protocol.
Liquidity providers receive UNI tokens for their contributions. Liquidity providers can redeem these liquidity tokens for their share in the liquidity pool.
UNI is distributed among the community that provides liquidity to several Uniswap pools as follows:
How to buy UNI on Liquid
UNI is now available for instant purchase via trading or Liquid Buy and Swap. Currently, available trading pairs for UNI are as follows:
Uniswap’s technology has evolved over several iterations so far, with the most recent being Uniswap v3. Some of the significant upgrades with Uniswap v3 come in scalability and capital efficiency improvements.