Uniswap Protocol Fees: Risks vs. Rewards

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Uniswap Protocol Fees: Risks vs. Rewards

Uniswap the first popular decentralized exchange and with about $2.4b in total value locked (TVL) and with daily volumes between $11b-$400m, recently announced it wanted to start turning on the fees, we’ll take a look at what effect this could have on the decentralized exchange.

What is the Fee switch of Uniswap? 

The “fee switch” refers to Uniswap v2’s mechanism for enabling protocol fees. With the fee switch enabled, 5 bps will go to the protocol and 25 bps will go to LPs. v3 sets fees on a pool-by-pool basis, with 0 as the default. Each new pool would need to have fees introduced individually.

Why Turn On Fees? 

Uniswap is in a strong position to turn on protocol fees and prove that the protocol can generate significant revenues. Uniswap is a decentralized exchange, and market participants are used to paying fees to utilize exchanges, according to them. The Fee Switch Protocol Income Protocol fees could generate significant revenues for Uniswap. With a 1/5 fee tier, Uniswap could have generated $52 million in fees over the last 6 months. Uniswap recommends only activating fees on pools expected to generate at least $10,000 in annualized income.

Management

The protocol should claim accrued fees, sell the tokens to minimize long exposure, and send the proceeds to a treasury asset. A trustless system that allows anyone to pay gas fees to collect and sell the accrued fees is proposed.

Is it a good thing that Uniswap wants to activate the fee switch? 

The main issue is that the UNI DAO hasn’t shown they can manage funds very well. Just getting a bigger treasury doesn’t mean they’ll use the money smartly. Also it’d be a waste to activate fees now, during a bear market, when the fee income could help pump the token price when we really need it.

Besides this Uniswap V3’s “license” is about to expire, so turning on fees now would probably just encourage more copycat forks to compete with Uniswap. The legal and tax consequences of earning protocol fees could be a headache, especially with the current unfavorable crypto regulations in the US where Uniswap is based. This could draw unwanted attention from regulators.

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