Crypto exchanges are the central platforms where cryptocurrencies can be bought, sold and traded. Behind their seemingly simple user interface lies a complex technical infrastructure that ensures that prices are displayed in real time, orders are executed precisely and security is guaranteed.
The most important things summarized:
đź’ˇ Price formation: Prices on crypto exchanges are based on supply and demand, arbitrage between platforms and liquidity in the market.
đź’ˇ Order books and matching engines: Order books store buy and sell offers, while the matching engine efficiently matches orders.
đź’ˇ Technical infrastructure: Exchanges use real-time databases, APIs and security protocols to ensure smooth operations and protection against attacks.
To understand exactly how these exchanges work, it is worth taking a look at the technical processes such as price formation, how order books work and the underlying infrastructure.
Basics of a Crypto Exchange
Crypto exchanges are the central platforms for trading cryptocurrencies. They connect buyers and sellers and enable the exchange of digital assets at market prices. In order for these processes to function smoothly, both the technical structure and the type of exchange are crucial. In this section you will learn how crypto exchanges are structured and what differences there are between centralized and decentralized platforms.
Structure and functionality of a crypto exchange
A crypto exchange is a digital platform that brings together buyers and sellers of cryptocurrencies. At its core it consists of several systems:
- User Interface (UI): Here users can manage their accounts, view prices and place trading orders.
- Order book: Saves all open buy and sell orders and displays current market activity.
- Matching engine: Links buy and sell orders so transactions can be processed automatically.
- Wallet system: Used to securely store cryptocurrencies. There are hot wallets for fast transactions and cold wallets for increased security.
- API interfaces: Enable external applications, such as trading bots, to retrieve data directly from the exchange or place orders.
The interaction of these systems ensures that users can trade cryptocurrencies safely and efficiently.
Difference Between Centralized and Decentralized Exchanges (CEX vs. DEX)
Crypto exchanges can be divided into two main categories: centralized (CEX) and decentralized (DEX) exchanges.
- Centralized Exchanges (CEX): These platforms are operated by a central company that manages all transactions. Users must deposit their assets into the exchange’s wallet before they can trade. Examples are Bitget or BingX. The advantage lies in its user-friendliness and high liquidity. However, there is an increased risk of hacker attacks because the exchange acts as a central point of attack.
- Decentralized Exchanges (DEX): These work without a central authority and are based on blockchain technology. Transactions take place directly between users (peer-to-peer) using Smart contracts. Assets remain in users’ wallets, increasing security. Examples are Uniswap or SushiSwap. The disadvantage: They often offer lower liquidity and are less intuitive for beginners.
Both models have their specific advantages and disadvantages and are suitable for different needs and requirements in crypto trading. You can find detailed information about this in our Contribution to the advantages and disadvantages of centralized and decentralized exchanges.
How are prices created on crypto exchanges?
The prices of cryptocurrencies on exchanges are the result of an interaction between supply, demand and market mechanisms. Unlike regulated markets such as stock exchanges, there is no central price setting; instead, the prices arise directly from the interactions of market participants. In this section you will learn how this process works and what factors play a role. We are referring to central exchanges.
Supply and demand as a pricing mechanism
The basic mechanism behind price formation is the relationship between supply and demand. When many buyers want to purchase a cryptocurrency, the price rises as demand exceeds supply. Conversely, the price falls if there are more active sellers than buyers.
An example: Suppose many investors buy Bitcoin due to positive market sentiment. Demand increases, which drives up the price. Once the price reaches a level that some investors consider profitable, they may start selling, increasing supply and causing the price to fall again.
Arbitrage between different exchanges
Cryptocurrencies are traded on different exchanges and prices may vary slightly from platform to platform. These price differences arise from differences in the liquidity, user groups or trading volumes of the respective exchanges.
Arbitrage traders exploit these differences by buying cryptocurrencies cheaply on one exchange and selling them more expensively on another. This process equalizes prices between platforms and ensures more stable prices in the long term.
Influence of liquidity and market participants
Liquidity – i.e. the availability of buy and sell offers – also has a major influence on price formation. Exchanges with high liquidity can process large orders without the price fluctuating significantly. Platforms with low liquidity, on the other hand, often experience larger price jumps when larger trading orders are placed.
In addition, the type of market participants influences the price. Large investors (so-called “whales”) can trigger significant price movements by buying or selling large quantities. Algorithmic trading and institutional investors are also playing a growing role in price development.
Technical infrastructure of crypto exchanges
In order for crypto exchanges to function smoothly and meet the demands of a global market, they require a complex technical infrastructure. This includes data processing systems, interfaces for external applications and extensive security measures. Here we explain how these elements work together to provide a safe and efficient trading platform.
Databases and real-time updates
At the heart of every crypto exchange are powerful database systems that store and process millions of transactions and orders. These databases are designed to update information such as current prices, open orders and trading volumes in real time.
Thanks to these real-time updates, users can view the current market status at any time and react quickly to changes. From a technical perspective, the data is processed in so-called in-memory databases, which enable particularly fast access times. This speed is crucial to avoid delays in trading and ensure a smooth user experience.
APIs and external access
Crypto exchanges offer APIs (Application Programming Interfaces) that allow external applications to interact directly with the platform. These interfaces are essential for many professional traders and developers because they:
- Get real-time market data,
- implement automated trading strategies and
- Can place orders directly.
APIs ensure that the exchanges can also be integrated into larger trading environments, for example for institutional investors or the operation of trading bots. The stability and security of these interfaces are crucial to providing both users and the exchange with a reliable system.
Security and protection against attacks
Security measures are a top priority for crypto exchanges as they are a popular target for cyberattacks. To protect users’ assets and the integrity of the platform, exchanges rely on a variety of protective mechanisms:
- Encryption technologies: All data, including user data and transactions, is transmitted encrypted.
- Two-factor authentication (2FA): This feature adds an additional layer of security by requiring users to go through a second verification step alongside their password.
- Cold Storage: The majority of cryptocurrencies are stored offline, making them safe from hacks.
- Intrusion detection systems: These systems monitor the platform for suspicious activity and respond to potential attacks.
Together, these measures ensure a high level of security and help increase user trust in the platform. This means that the technical infrastructure of crypto exchanges remains stable and reliable even under high pressure.
Conclusion: How crypto exchanges work
Crypto exchanges are more than just trading platforms – they are complex technical systems that coordinate a variety of processes in real time. Price formation is based on supply and demand, arbitrage and liquidity, while order books and matching engines ensure trade orders are executed precisely. Behind the scenes, powerful databases, APIs and security protocols ensure smooth operations and protection against attacks.
It is important for users to understand the basic mechanisms and infrastructure of these platforms in order to make informed decisions in crypto trading. Regardless of whether centralized or decentralized exchanges – both models offer different advantages and challenges that depend on individual needs.