Exploring Cross-Chain Liquidity: Bridges vs. Cross-Chain DEXs

explores the essential differences between bridges and cross-chain decentralized exchanges (DEXs), two pivotal technologies in DeFi

Key Takeaways

  • Both bridges and cross-chain DEXs enable the decentralized exchange of tokens across blockchains.
  • Bridges achieve cross-chain transfers by locking assets and creating wrapped versions on the target chain.
  • Cross-chain DEXs, particularly through continuous liquidity pools, enable direct, real-time swaps of native assets.

The exchange of tokens across different blockchains without centralized exchanges has been a significant challenge in the blockchain industry. Decentralized solutions such as bridges and cross-chain liquidity pools have emerged, allowing for self custody of funds, permissionless transactions, and interoperability. 

Although both solutions: bridges and liquidity pools, involve the movement of assets between different blockchain networks, they use different mechanisms to achieve this. Each one represents different advantages and risks. Traders wishing to use these solutions to avoid centralized exchanges must be aware of those differences.

This blog post will explore how they work, their disparities, and their advantages and disadvantages.

What is Cross-Chain Liquidity?

Cross-chain liquidity is the ability to seamlessly access and move liquidity across different blockchain networks without being confined to a single blockchain ecosystem. 

Two primary mechanisms for decentralized cross-chain cryptocurrency swaps are bridges and cross-chain DEXs. Each offers a unique approach to managing asset transfer between different blockchain networks. Let’s explore each one.

1. Bridges

Functionality: Bridges serve as intermediaries between two or more blockchains by creating wrapped versions of assets on another chain. These assets are typically "locked" on the origin blockchain and then "minted" or "represented" as equivalent assets on the destination blockchain. 

Asset transfer mechanism: It's important to note that direct transfer of assets between blockchains doesn't occur.

  1. The asset transfer process using a bridge begins when a user locks their original assets, such as Ethereum (ETH), in a smart contract on the originating blockchain (e.g., Ethereum network).
  2. The bridge mints equivalent wrapped assets, such as Wrapped ETH (WETH), on the target blockchain (e.g., Binance Smart Chain). 
  3. These wrapped tokens can then be freely transferred, traded, or used in decentralized applications within the new ecosystem. 
  4. When users wish to retrieve their original assets, they deposit these wrapped tokens into the bridge’s smart contract on the target blockchain, where the tokens are burned. 
  5. The original assets are then unlocked and returned to the originating blockchain.

2. Cross-Chain DEX

Functionality: Cross-chain liquidity protocols enable direct swaps between different tokens using native assets through Continuous Liquidity Pools. These pools are essentially collections of assets provided by liquidity providers.

Each pool contains a specific connected asset, such as Bitcoin, paired with the protocol’s native asset (CACAO for Maya, for example). The presence of CACAO in every pool uniquely connects all the pools together, forming a unified and continuous liquidity network across the platform.

Asset Transfer Mechanism: During a swap between two connected assets on Maya, the process involves three main steps, all seamlessly managed by the protocol in a single transaction:

  1. The user sends ETH to the ETH/CACAO pool.
  2. The value of the user's ETH in CACAO is then transferred from ETH/CACAO to the BTC/CACAO pool.
  3. The user receives BTC equivalent to the CACAO sent to the BTC/CACAO pool.

Throughout this process, the user does not directly interact with CACAO; instead, the state machine automates these transitions, ensuring a smooth and efficient trading experience. This design allows for fluid, cross-asset exchanges within Maya’s ecosystem, leveraging the continuous connectivity provided by $CACAO.

Now, let’s compare!

In conclusion, when choosing between crypto bridges and continuous liquidity pools (CLPs) for asset swaps, carefully evaluate your priorities in terms of speed, ease of use, and risk exposure.

Crypto Bridges offer a broader reach for facilitating asset transfers across multiple blockchain networks. However, they involve a more complex transaction process that requires multiple steps and exposes users to smart contract risks for the time the assets remain wrapped and locked. This extended exposure can be a significant concern, especially in environments where security vulnerabilities are risky.

Cross-chain DEXs, on the other hand, provide a streamlined and efficient swapping experience. Transactions within CLPs are completed within seconds due to their native handling of swaps, significantly reducing the duration of exposure to potential smart contract vulnerabilities. Additionally, CLPs simplify the user experience by eliminating the need for intermediate steps and managing all transitions within a single transaction framework.