Uniswap, Curve, and the Hidden Assumptions Behind AMM Design
The rise of decentralized finance introduced a fundamental shift in how liquidity is created and accessed. With the emergence of automated market makers (AMMs), liquidity no longer depended on centralized intermediaries or professional market makers. Instead, anyone could contribute capital and participate in markets directly through code.
Protocols such as Uniswap demonstrated how simple mathematical formulas could replace traditional order books. By pooling assets and pricing trades algorithmically, AMMs enabled continuous liquidity even when no active counterparties were present. This design lowered barriers to entry and allowed markets to form permissionlessly, often within minutes of a token’s launch.
As AMM usage expanded, new designs emerged to address specific market needs. Curve focused on assets with similar prices, optimizing for low slippage and capital efficiency. These innovations showed that liquidity could be tailored through design choices, rather than centralized control.
However, beneath this accessibility lie important assumptions. AMMs implicitly assume rational liquidity providers, relatively stable market conditions, and predictable trader behavior. In practice, these conditions do not always hold. Liquidity providers face risks such as impermanent loss, where changes in relative prices reduce returns compared to simply holding assets. These outcomes are not failures of the protocol, but consequences of the economic rules encoded within it.
Another assumption is that liquidity remains available when it is most needed. During periods of high volatility, AMM pools can thin rapidly as liquidity providers withdraw or rebalance. While the system remains operational, the quality of liquidity may deteriorate precisely when markets are under stress.
From a technical perspective, AMMs shift complexity away from market participants and into protocol design. The rules are transparent and predictable, but they are also rigid. Once deployed, an AMM executes its logic consistently, regardless of changing market dynamics or external conditions.
The success of AMMs lies in their simplicity and openness, but their limitations highlight a broader lesson in decentralized system design. Permissionless liquidity is powerful, yet it depends on carefully chosen assumptions about incentives, behavior, and risk. Understanding these assumptions is essential for building sustainable decentralized markets.
AMMs did not eliminate market structure—they redefined it. By embedding rules into code, they transformed liquidity into a public good, while reminding participants that no design is free from trade-offs.
