The innovative creation of cryptocurrencies did not stop at the launch of Bitcoin. As time went on, there would come an array of cryptocurrencies that support different applications. It can be easy to simplify an explanation of digital assets to those who are new to the field. One could simply say that all cryptocurrencies are digital cash that facilitate transactions. In reality, this is not the case and it is far more complex than that.
Along with the creation and expansion of Ethereum came the birth of the term “token.” It would not take for this term to become universal for all currencies deriving from the Ethereum blockchain. They would later be put into different categories depending on each of the tokens’ applications and functions.
What are they?
‘Crypto tokens’ (aka. crypto assets) are unique variations of virtual currency tokens. They typically reside on blockchains of their own and represent an asset or utility. More often than not, they are recurring tools in crowd sale fundraising. However, they also act as a substitute for other things.
The creation, distribution, selling, and circulation of crypto tokens are usually through the conventional process of initial coin offering (ICO). This involves an exercise in crowdfunding so that the project development can receive funding.
Generally speaking, cryptocurrencies and altcoins are virtual currencies of a specific kind. They have their own loyal blockchains and function primarily as a medium for digital payments. With that said, crypto tokens operate a little differently. They work on top of a blockchain serving as a medium of creation and execution for decentralized apps (DApps) and smart contracts. The tokens are what facilitate the transactions.
How they work
The best way to explain how cryptocurrency tokens work is by using different tokens as examples. Someone can possess a crypto token that represents a certain number of customer loyalty points existing on a blockchain. Specifically, to manage important details for a retail chain. Another crypto token can allow the holder of the token to watch up to 10 hours of streaming content on a video-sharing blockchain.
Adding to this, there may be another crypto token representing other cryptocurrencies. For instance, this could be a crypto token that is worth 15 bitcoins on a particular blockchain. Crypto tokens such as this are tradable and transferable among the numerous participants of the blockchain.
There is no one type of token
Crypto tokens are fungible digital assets that can act as exchange mediums within the ecosystem of the issuing blockchain project. The best way to deceive them is by looking at how exactly they serve the end-user. If nothing else, think of these tokens as food that sustains blockchain ecosystems.
Each and every type of token provides unique features that derive from their usage. It is important to note that a token can fit into more than one category. Therefore, these categories are not mutually exclusive.
1 – Utility
Utility tokens undergo integration into a pre-existing protocol on the blockchain and help access that protocol’s services. Their purpose is not for direct investments like security tokens, which we will go over later. However, they are handy for service payments inside their specific ecosystems.
Companies release these tokens as a way to provide their users with a special mechanism. This allows them to pay for a new company product or service, whose development was likely thanks to blockchain technology. Oftentimes, it is beneficial to purchase utility tokens during the ICO sale. This is because, during the ICO, the price of token offerings is significantly lower than the market rate.
2 – Platform
Platform tokens use blockchain infrastructures as a means to deliver DApps for a variety of uses. Let’s look at Dai as an example. Many deem it a stablecoin due to it being pegged to the US Dollar and its pricing maintenance is courtesy of smart contract mechanisms. However, technically speaking, it is also a platform token because of its construction occurring on the Ethereum blockchain.
Platform tokens take advantage of the blockchains they build upon in various ways. They gain strong security, as well as the ability to support any and all transactional activity. Platform tokens are subject to numerous use cases, such as serving gaming and platforms for digital collectibles (ex. CryptoKitties). They also assist in global advertising and marketplace industries.
3 – Security
The way security tokens (aka. equity tokens) work is actually quite similar to traditional securities. They act like a stock or share of the company, which the buyer receives as soon as the ICO ends.
Generally speaking, a security functions as an instrument that a company, government, or trust issues. Alternatively, by another legal entity that commemorates an ownership interest and supplies proof of one of the following:
- A right in property distribution
- A right to a share of earnings
- Other similar legal rights
Different security types include – among other things – bonds, options, notes, debentures, shares, and warrants. They may be tradeable among investors or they are otherwise freely transferable. Security tokens, while not ubiquitous yet, serve as direct, on-chain depictions of securities or tokens in the real world. Specifically, ones that are on-chain instruments with a similar objective for blockchain projects and/or digital assets.
4 – Governance
With the continuing evolution and proliferation of decentralized protocols, refining the decision-making processes around them is essential. On-chain governance permits stakeholders to collaborate, debate, and vote on the management of a system. Governance tokens provide fuel for blockchain-based voting systems, allowing them to signal support for prospective alterations and to vote on new proposals.
5 – Transactional
Transactional tokens are, as the title implies, used for transactions. Their purpose is to act as units of account and are exchangeable for goods and services. Oftentimes, these tokens function in a way that is similar to traditional currencies. However, there are some cases, they provide additional benefits.
Let’s look at decentralized cryptocurrencies like Bitcoin and Dai as examples. Users can carry out transactions without a central authority (like a bank or payment gateway) or a traditional intermediary. On top of its regular function as a currency, Dai provides users with transactional performance to other networks. For instance, POA Network would create xDai, which is a transactional token that is similar to Dai. This creation resides on a sidechain, allowing for transactions that are fast, as well as inexpensive.
It is important to mention that not all transactional tokens are currencies. Various industries like global supply chains frequently use transactional tokens to apply blockchain’s immutable nature and smart contracts’ flexibility to their operations.