UniswapX: How the new routing protocol will affect DEX liquidity

In August 2023, Uniswap accounts for over 64% of the total trading volume on decentralized exchanges (DEX).

Like most other platforms, Uniswap uses an automatic market maker (AMM) algorithm and liquidity pools. This is a reliable and proven solution, but it is not adapted for traditional players and creates certain risks when using the site.

To improve the quality of the user experience, as well as ensure fast and profitable conversion of digital assets, the project team launched the UniswapX protocol, combining decentralized and centralized (via proxy) liquidity. Incrypted figured out what UniswapX is, what benefits it will provide to ordinary users, and how it can affect the DEX architecture.

What is UniswapX

UniswapX is an open-source routing protocol aimed at creating a quality DEX experience through better exchange rates and faster cryptocurrency conversions. To solve these problems, UniswapX is attracting new sources of liquidity, adding an auction mechanism and changing the exchange format.

Essentially, this is a new way of exchanging cryptocurrencies on Uniswap, different from traditional swaps through liquidity pools.

Technically, the protocol is a collection of several connected smart contracts deployed on the Ethereum main network at the time of writing. Thanks to this, interaction with UniswapX does not require permission from Uniswap Labs, and the protocol itself cannot be blocked at the blockchain level.

Protocol architecture

The UniswapX architecture includes both new solutions and already known developments from Uniswap Labs.

The diagram above shows the main modules of the protocol.

Permit2 is a solution introduced in November 2022 for granting rights to use ERC-20 tokens. Reduces gas costs through batch confirmations and allows tokens to be spent by other applications connected to the module.

Permit2 allows Uniswap smart contracts to use tokens from a user's wallet for an exchange and allows payment by the other party to the transaction.

The developers also introduced a system for implementing swaps through orders. If earlier the exchange took place in the form of transactions with a set of parameters (balance, exchanged and received tokens, amount and others), now the user creates and signs an order.

For further execution, the order is placed online by the filler module.

UniswapX uses a new order type based on the Dutch auction. Below we will look at how this works. But the main feature is that the user can specify the upper and lower limits of the price, as well as the rate of its change.

The filling module is a protocol participant that executes the user’s order under the established conditions. It transmits the order input parameters to the network and provides liquidity for the exchange.

These modules can interact with UniswapX through their own smart contracts or by granting the protocol rights to use assets. You can read more about this in the project documentation.

Order Reactor is a smart contract that generates a dynamic order from input exchange parameters and calculates it in real time. It is the Order Reactor that is responsible for gradually reducing the exchange rate and checking whether the actual conditions of order execution meet the user's requirements.

At the time of writing, Order Reactor can create Dutch orders and exclusive Dutch orders for specific filling modules. In the future it will support more types of orders, such as market or limit.

Executor is a smart contract that interacts with filler addresses and Uniswap liquidity pools. Performs two main functions:

• selection of the order executor with the most favorable conditions;
• write-off of assets from the wallets of the parties to the transaction and mutual settlements.

During the beta period, the Uniswap Labs team monitors the list of artists to ensure smooth exchanges. In the future, any user will be able to perform the functions of the filling module.

Key Features of UniswapX

Thanks to the new architecture, the protocol managed to solve a number of problems typical for DEX and AMM and provide users with a number of advantages.

Dutch orders are a new type of order, built on the basis of a Dutch auction with a gradual decrease in the exchange rate. Initially, the order enters the network at the best price, but if no filler agrees to execute it within the specified time period, the price is reduced.

For example, you decide to exchange 1 ETH at a market value of $2000 through UniswapX and create an order with a price range of $2050-1900. It will initially be priced at $2,050. If after a certain time no filler responds to the order, the price will drop to $2000, then to $1950 and so on, to the minimum specified value.

The time period for price reduction and the minimum price level can be set when opening an order. The developers claim that the Dutch auction allows you to maintain a balance between benefits for the liquidity provider and the best exchange rate for the user;

Gasless swaps - since the order is placed on the blockchain not directly by the user, but by the filler, the latter pays the transaction fee. These costs are then included in the cost of the swap, meaning the user does not need to hold the network's gas tokens to perform the swap;

No commission for unsuccessful transactions - if a filler who accepts the order does not appear within the specified time period, then such an order will not be placed on the network, that is, no commission is charged for its creation;

External liquidity - an order can be executed either using Uniswap liquidity pools or using filler funds. A smart contract or External Owned Accounts (EOA), that is, a regular non-custodial wallet, can interact with the protocol, which opens up new opportunities for traditional market makers.