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How to Think about Liquidity - BlockCrunch

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This post is adapted from a BlockCrunch podcast featuring Michael Feng, co-founder of Hummingbot.

Why is Liquidity Beneficial for Exchanges and Token Projects?

Liquidity offers a major benefit of price discovery: ensuring market prices are fair. When purchasing liquid assets like Apple shares from platforms like Robinhood or E*TRADE, you're assured that reselling them won't lead to significant losses. Conversely, in less liquid markets, such as certain crypto markets, you might encounter a situation where the buying price is 20% higher than the selling price, a phenomenon known as the bid-ask spread.

  • in Academy
  • 10 min read

The Thin Crust of Liquidity

The role of market makers and importance of liquidity in the crypto industry

Eric Noll was getting frustrated. It was November 2011, and the senior Nasdaq executive was struggling to explain to a mostly disinterested House of Representatives panel why the changing stock exchange landscape was wreaking havoc for smaller public companies:

Today's US markets are increasingly fragmented and volatile. Liquidity in US stocks is dispersed across 13 exchanges and over 40 other execution venues. The declining cost of launching and operating electronic order crossing systems has led to a proliferation of decentralized pools of liquidity. However, the unintended consequences of that market fragmentation have been a lack of liquidity and price discovery in listed securities outside of the top 100 traded names. Such fragmentation of trading creates a thin crust of liquidity that is easily ruptured, as occurred on May 6th (i.e. the 2010 Flash Crash)

Stifled yawns from Congressional onlookers aside, Noll was describing an unintuitive but important phenomenon that would make Milton Friedman roll over in his grave: more competition from exchanges leads to less liquidity for small issuers and greater systemic risk.