Liquidity pools are funds of crypto used to facilitate trades.
They play an essential role in the operations of crypto marketplaces that don’t have a central body coordinating transactions, also known as decentralized exchanges.
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“Liquidity” + “pool”
In a liquidity pool, crypto is pooled together by various people. This crypto is then used by a decentralized exchange (DEX) as a source of liquidity.
Liquidity is the ready availability of tradable assets. You can think of it as a measure of how easy it is to complete trades on a marketplace.
Imagine Lisa is an exotic fruit trader who attends three fruit markets with varying degrees of liquidity:
It takes two to tango
Liquidity pools are typically stocked with two cryptocurrencies or “trading pairs”, which provide liquidity for anyone who wants to swap one for the other. For example, a liquidity pool might contain Ethereum (ETH) and Tether (USDT), or Solana (SOL) and USD Coin (USDC).
What if someone wants a coin that isn’t part of a trading pair? Most DEXs will link different liquidity pools together in order to facilitate this.
Diving in
Let’s see how a liquidity pool works in action.
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