Sushiswap is a decentralised exchange (DEX) based on the Ethereum blockchain technology that allows users to – among other financial services – swap tokens as well as earn rewards via liquidity pooling.
To fully comprehend Sushiswap and how it works – especially as a newbie – you must first be familiar with decentralised exchanges (DEXs) and Uniswap, the industry’s principal and leading participant.
Before we get into the core use of Sushiswap and how it works, let’s have a look at what DEX and Uniswap are and how they operate.
What are DEX and Uniswap, and how do they relate to Sushiswap?
To begin, it is worthy of note that at the very inception of cryptocurrency more than a decade ago, the majority of the digital assets still rely on centralised exchanges.
Well, it’s arguable and almost hard to believe given the constant debate about how cryptocurrency operates a decentralised system and how it tries to keeps a closed-door to centralised systems.
Interestingly, the reality was quite different from the way it was painted back then. Although virtually all cryptocurrencies operate on a decentralised infrastructure, swapping them was previously only possible through centralised exchanges.
Then, the attempt to eliminate middlemanship or intermediary factors as promoted by crypto’s decentralisation wasn’t very practical, not to mention trust issues with the central systems being used.
However, given the limitations inherent with the blockchain technology, creating DEXes that were genuinely decentralised and capable of competing with their centralised counterparts proved difficult. There were several that went on to try but couldn’t solve the real problem.
In November 2018, Uniswap became one of the first decentralised exchanges (DEXs) to offer a real solution to the fundamental exchange issue. More so, because of its relatively complicated model, it stands out among the majority of its pairs in the market.
Uniswap is known for being one of the most successful projects pushing the rapid adoption of the decentralised finance (Defi) system, thanks to its appealing yet complex features.
Function-wise, Uniswap is an exchange protocol built on the Ethereum blockchain, but without what is known as an order book i.e, an electronic documentation of an asset’s buy and sell activity on a trading platform such as a crypto exchange.
On the contrary, Uniswap makes use of a model dubbed automated market-making (AMM) which allows liquidity providers to add funds to a liquidity pool and subsequently gets incentivized in the process
Notably, Uniswap is prominent among emerging Defi applications (dApps), and even more among developers who leverage the platform’s code which was made as an open-source, and easy to fork. If you are still reading on, this is where the Sushiswap concept was birthed. So what is Sushiswap?
Sushiswap is a derivative of Uniswap which, like the original, is also built on an automated market maker (AMM), as previously explained. However, Sushiswap, on the other hand, is a more user-friendly choice than Uniswap, which has capabilities that are fairly complicated for normal users.
In fact, it is commonly presumed that part of the fundamental reason why Sushiswap was developed is to solve the complications attributed to Uniswap. And while it does exactly that, it provides identical solutions for its users with only a few exceptions, some of which are inherent in Sushiswap’s added functionality.
At launch, Sushiswap was able to edge out Uniswap by introducing a native token – the SUSHI token which allows the holders to take part in governance-related decisions within the network.
In addition to giving them a voice and authority within the network, the innovative move by Sushiswap also offers its users i.e, token holders, an advantage to generate rewards from liquid pooling, something that was missing in the offerings of Uniswap from the onset.
Uniswap on the other hand only recently introduced its native token – UNI token in response to the storm created by Sushiswap.
Aside from the differences with the native currency, Sushiswap also introduced new functions extending beyond the DEX space. For instance, Suchiswap’s “BentoBox” feature is integrated such that additional Defi services can be built upon it. Beyond the differences, how do Sushiswap works?
How Sushiswap works
It is common knowledge that community governance is to the Defi system what the board of directors is to a centralised system. As a result, the allocation of authority is critical to the effectiveness of community government in a Defi system.
With the aforementioned in mind, Sushiswap’s core function is to facilitate the exchange i.e, buying and selling of different crypto assets between users. However, given that it operates a decentralised system, it leverages liquidity mining or yield farming as it is popularly known as a valid method for power distribution, thanks to its native asset – the SUSHI token.
In this manner, a user (investor) can stake (or lock) the SUSHI token, or any cryptocurrency for that matter, in a liquidity pool governed by smart contracts rather than a central authority.
While funds are locked in a liquidity pool, interested traders, having paid a fee, can buy and sell cryptocurrencies from the pool. Besides yield farming, locked funds are also essential to borrow-lending protocols, which is another means of generating extra revenue within the network.
Users that contributed to the liquidity pool are rewarded with additional SUSHI tokens (paid in xSUSHI token) as incentives at a later time when the liquidity has grown.
The tokens allocated to those who had invested in the liquidity pool as liquidity incentives grant them governance rights. In addition to that, SUSHI holders – based on their contribution to the pool – are also entitled to a share of the fees paid into the protocol by traders.
There’s more: anybody with governance rights may propose new modifications to the overall protocol by simply submitting a Sushiswap Improvement Proposal (SIP), which is then voted for or against by other SUSHI token holders on the platform.
How does Sushiswap farming works?
To begin, participants in the Sushiwap liquidity pool are referred to as “liquidity providers.” They can do so by connecting their Etherum wallet to their Sushiswap farming software, which allows them to use smart contracts to lock in a minimum of two assets.
For instance, the assets which must be of equal value can be any or multiple selections from the following;
Following their selection, buyers who are first, required to pay a protocol fee, can exchange tokens inside the pool according to the protocol’s regulations. After that, SushiSwap smart contracts take the buyer’s tokens and transfer an equal number of tokens back, ensuring that the overall pool price remains constant.
At the end of each cycle, liquidity providers are incentivised with protocol fees alongside a portion of every 100 new SUSHI tokens added into circulation daily.
Ultimately, with more than $1 billion market valuation, Sushiswap’s ability to disrupt the DEX market despite Uniswap’s tightening hold demonstrates that no product or service has an unquestionable edge in Defi,
Disclaimer: The views and opinions expressed by the author should not be considered as financial advice. We do not give advice on financial products.