0x is a protocol whose initial function was to allow developers to build exchanges off of their platform. With v3 on the way, they plan to not only connect exchanges that build off of their protocol, but connect any exchange in DeFi together and even tap into locked up value. Their proposals are very intriguing as one of the main things holding back DeFi’s success is exchange liquidity.

DeFi’s liquidity problem

Decentralized Finance (DeFi) is pretty cool. Developers have found ways to let users lend, borrow, exchange and use margin with accessible interfaces, in a decentralized fashion. The biggest issue plaguing the growth of DeFi is the lack of liquidity. If you are a guy with $1000 to trade, you might be able to trade DAI for ETH around listing price, but once anyone trading at a larger scale is bound to experience extreme slippage.

Right now, on DyDx‘s most liquid market, ETH-SAI, typing in $5000 dollars will impact the price by 3.25%. On an exchange like BitMEX, a $5000 order would incur very minimal slippage, and therefor incentivize traders with serious money to stay on a centralized platform.

Oasis, an exchange that sources liquidity directly from Maker has even worse slippage for $5000 worth of DAI. The same order on Maker’s platform would incur 12% slippage, a trade that no sane person would take. To be fair, there is much less DAI in circulation than SAI, and instead of ETH, they sell W-ETH, but still it is a flagship token on their flagship exchange.

The 0x solution

According to DeFi Pulse, there is about $650 million locked into DeFi. $300 million is locked into MakerDAO’s protocol which is used to produce around $100 million worth of DAI. Another $150 million is locked into Synthetix which produces a variety of stable coins that are traded on their derivatives platform. The third largest source of locked value is Compound which acts as a pool for users to borrow and lend from.

DeFi doesn’t have credit scores, so all borrowers over-collateralize in order to receive loans or mint coins as a form of insurance. This means that much of the locked up value is actually just sitting, waiting to save the borrower from liquidation.

0x has reportedly created mechanisms to access locked value which could created millions of dollars worth of liquidity. Still, the liquidity will be split up by however many exchanges are plugged into 0x protocol and it is hard to gauge exactly how much value will be available.

Along with accessing stagnant value, they have implemented “bridge contracts” to access liquidity from networks like Kyber, Uniswap and Oasis. With all of this aggregation, it seems like exchange consolidation would be the next step to creating a market that competes with centralized standards.

To top it all off, they have provided incentives for market makers by reallocating fees.

“ZRX staking mechanism gives market makers monetary rewards (in ether) and additional ZRX voting power for providing liquidity.” – 0x

With this, 0x governance will be in the hands of market makers because they are in such high demand.

“Market makers are important stakeholders in the 0x ecosystem, as they provide the liquidity necessary for markets to function and are directly incentivized to support proposals that result in new markets and greater trade volume.” – 0x

0x plans to release version 3 on the mainnet, December 2nd. Watch the detailed presentation here: