The biggest challenge for crypto exchanges is global price fragmentation


It’s no secret that Coinbase has played a crucial role in bringing new users into the crypto space. Coinbase’s friendly onboarding process and public company status make it seem like a more traditional investment platform for non-crypto-investors, which leads to more trust.

However, it seems almost weekly that another article about Coinbase and its excessive fees for private and professional traders and investors is popping up on the internet. The complaint generally unfolds with a price comparison between a few different exchanges. As competition increases, so does the pressure on Coinbase and exchanges around the world to cut fees. Still, the biggest pricing problem facing Coinbase and other exchanges is far bigger than just the fee structures.

Commodification and price

Raw materials are fungible goods. In other words, the market effectively treats goods in their various forms in the same way. When a good or service becomes a good, there is no further distinction between the sellers and all negotiations are based solely on price.

The discussion about trading fees is rooted in the belief that the price of cryptocurrencies is static on all exchanges – a commodity. If Bitcoin (BTC) were a real commodity, trading fees would be the only issue and the discussion about Coinbase’s fee structure would be valid.

Related: Crypto needs a decentralized daily reference rate

However, this view of Bitcoin belies an underlying problem in the market. Bitcoin’s price is not a static number and can often vary between exchanges. Often times, due to market fragmentation, consumers pay too much or too little without realizing it.

Fragmentation and real price

Market fragmentation occurs when the contact and interaction between exchanges is poor. This leads to price differentials between exchanges and a lack of liquidity in the market as a whole.

When these price variances are large, they quickly subsume any variance in fees between exchanges. Investors and traders have been trained to only see the price on a single exchange. However, this fragmentation means that the true price of a cryptocurrency is the price on a single exchange plus the fees on that exchange compared to the same calculation on another exchange.

Related: Trust is still a must in the trustless world of cryptocurrency

If the price of Bitcoin is relatively low on an exchange, it doesn’t matter if that exchange has no fees. Why?

If the price of bitcoin is $ 60,000 and the fee on one exchange is 0.50%, one could pay $ 60,120 for a bitcoin on another exchange with a 0.30% fee. Yes, with hundreds of exchanges on the market, the difference in price can sometimes get that big. This variance has led to the proliferation of arbitrage investing – buying bitcoin on one exchange at a lower price and then reselling the same coins after being transferred to another exchange at a higher price.

The biggest problem with this, however, is that Bitcoin is no longer a commodity. If there are too many price deviations, Bitcoin will not become fungible and the market will stagnate. This move away from commodification will eventually create a potential market implosion. But there is hope for change.

Market stabilization

This type of market chaos is neither new nor isolated to the cryptocurrency market. The same problems arose in the bond and equity markets, but regulation has resolved them over time. For example, the U.S. Securities and Exchange Commission has a policy called National Best Bid and Offer, or NBBO. This regulation requires all brokers to execute trades at the best available ask price nationally if an investor wants to buy a security and at the best available bid price nationally if an investor wants to sell.

In this way, regulation stabilizes the market and protects consumers from overpayments on a given exchange. Brokers are kept in check and market forces operate cooperatively rather than unilaterally.

However, the cryptocurrency market is not having this period of normalization as it is still in its infancy. Exchanges operate relatively autonomously, and the current fragmentation of the market means that retail and institutional investors often pay different prices based on these exchanges.

The problems with implementing this system in the cryptocurrency market are multiple – lack of communication, restrictive regulatory compliance, and dry pools of liquidity that prevent any significant change.

Building a truly unified global crypto market

The main cause of the market problem is a lack of communication or interoperability between exchanges, which leads to a high degree of market fragmentation. However, the current digital infrastructure is large enough to enable constant exchange. However, for markets to scale globally, this interoperability between exchanges must be seamless.

Related: Trustless bridges can be the key to blockchain interoperability

Bitcoin is a global asset, arguably even more than Apple or Tesla stocks. Therefore, it is unfair that traders cannot get the best bid and offer at all times as the NBBO handles traditional stocks. More enterprise-grade technology and liquidity will also support trading in mature digital assets. All of this could eventually enable a unified global trading market, much like traditional stocks are traded on exchanges like the Nasdaq or the NYSE.

Without these solutions to reduce fragmentation, the arguments and debates about trading fees are misguided and do not tell the full story. It is time to use the right regulation and technology to create the conditions for fairness. Ultimately, it’s not a race for lower trading fees, but a race for something similar to the NBBO in crypto – truly the world’s best money and offer.

This article does not provide investment advice or recommendations. Every step of investing and trading involves risk, and readers should do their own research when making a decision.

The views, thoughts, and opinions expressed herein are those of the author alone and do not necessarily reflect the views and opinions of Cointelegraph.

Haohan Xu is CEO of Apifiny, a global network for the transfer of liquidity and financial assets. Prior to Apifiny, Haohan was an active investor in the stock markets and a trader in the digital asset markets. Haohan holds a BS in Operations Research with a minor in Computer Science from Columbia University.