Liquidity Pools: A Brief Introduction

A liquidity pool is like a reservoir of cryptocurrencies, or more accurately, two scales balanced with equal value on each side. These pools are managed by decentralized exchange (DEX) smart contracts. When users perform a token swap, Token A is taken from one side of the scale, while the trader deposits Token B on the other side. This mechanism ensures smooth and fast transactions—there’s no need to wait for someone with the exact tokens you want to trade because the liquidity is already available in the pool. Without liquidity pools, trading on DEX platforms would not be possible.

Where Do Tokens in a Liquidity Pool Come From?

Liquidity providers (LPs) deposit their tokens into pools, as it offers certain benefits. Often, token creators themselves provide initial liquidity by adding their tokens to a DEX, making them available for trading. Without liquidity, no one would be able to buy or sell tokens, and the DEX would not function effectively. In return for their contributions, LPs earn rewards. They receive a percentage of the fees from every transaction within the pool.

For example, on #STON.fi, liquidity providers earn 0.2% of the transaction amount. This fee is distributed among all providers in proportion to their share of the total pool. If a provider contributes 50% of the total liquidity, they will earn half of the 0.2% fee from every trade involving that pool.

Can I Become a Liquidity Provider?

Absolutely! Anyone can provide liquidity and earn a share of the transaction fees. However, it’s important to maintain balance on both sides of the pool. This means you’ll need to contribute both tokens from the selected trading pair in the correct proportions.