This week marks the second part of a three-part Blockchain-related insight series by Adriel.
Just last week Adriel wrote about smart contracts and how it has the power to permeate the fabric of our daily lives. The post this week will be centred around something that’s more applicable to our lives, something that has been governing our lives all this time …
and that’s tokens!
In the crypto world, a token is a special type of smart contract that specifies the holders’ rights. A token is essentially a rights management tool that may represent a holders’ claim to ownership pretty much anything really, a physical asset, digital asset or even a contract!
The only difference between a regular token and a cryptographic token is the fact that cryptographic tokens are managed on a ledger that may or may not be private. This allows managing tokens digitally to be cost efficient, secure and fast.
How Did Tokens Come To Be — The History Of Tokens
Some of the earliest tokens used in the past were beads, shells and stones. Gradually, as technology began to advance, so did tokens too — with the advent of metal coins that had very intricate designs that were hard to forge.
Today, the proliferation of tokens have completely taken over our lives, with vouchers, gift cards, ID cards, concert bands, bank tokens, train and air tickets, and club memberships becoming a very normal way to enhance our daily lives.
In cognitive psychology, tokens are used as part of a reward system whereby good behaviour warrants the issuance of a token and that same token can be used to exchange certain gifts or privileges in the hospital.
Another more obscure example of a token would be aluminum drink cans. Adriel recalls that in his younger days, there would be a label behind his favourite off-the-shelf chrysanthemum tea can that indicated that if you returned the empty can to the producer, you would be entitled to a $0.02 reward. This was used as an incentive to recycle the can after drinking it.
The examples are limitless in the real world.
The Next Evolution Of Tokens
Cryptographic tokens essentially combine all the underlying properties of regular tokens and link them together with a blockchain network, a wallet software and a blockchain address.
The ownership of these tokens can be publicly known (owning Bitcoin) or privately known (ownership of an apartment). These tokens in essence are a way for the owner to be granted access rights to a network, asset or information.
Using a wallet software, the private-public key asymmetrical cryptography proves that you own the tokens in your wallet because the tokens are signed with your private key that only you should have access to. By the very logic of that knowledge, we can then attribute certain access rights to you because of the process (just like a house key only you would have).
The easiest way to issue tokens is through the ERC-20 token which is the standard plain vanilla smart contract that Ethereum has come to be known for. This allows you to create tokens with a few lines of code without having to build a whole blockchain network from scratch. There are other kinds of smart contracts that will support various different types of tokens. For example, NFTs are under the ERC-721 protocol and are meant to be non-fungible in nature.
One of the biggest issues with tokens is that if your token is based on the Ethereum network, you are not supposed to be able to interact with another network — say, the Bitcoin network — which makes sense because both networks speak completely different languages and therefore will be unable to transfer their native tokens to another network.
Entrepreneurs are now catching on to the value in solving this problem and as a result, we now see a proliferation of “bridging” projects. Projects that aim to be the bridge between two networks, acting almost like a translator between the two.
On paper, these projects are meant to boost interoperability in this whole blockchain ecosystem but Adriel admits he is not able to give a true assessment on its efficacy as he has neither used the bridges nor has he conducted detailed studies on such services.
If these bridging projects are able to deliver on their promise, it would mean that tokens will experience a greater network effect and will become even more liquid, thus greatly influencing the mass adoption of cryptographic tokens into daily lives.
So, now that we know what cryptographic tokens are, what’s the next question that we should be asking?
What Is The Right Cryptographic Token For My Business?
When thinking of tokenising a service or a part of a business, what are the considerations that should be made in order to design the right token?
There are a couple of properties that a token should have and although this list is not exhaustive, it gives you a foundational understanding of what you need to think about before concocting your very own token.
Property #1 — Technical Aspect
Do you need to build your token on the protocol level or can you build your token on the application level?
This is one of the most important questions that a token designer needs to ask. If you need a token that is implemented on the protocol level, it means that you need to create a whole new protocol in order to issue your tokens, which means that you will need to design all the policies and intricate details of your network.
If you’re building your token on the application level (Dapp), then this second-layer token (your decentralised app) is riding on the coattails of the first-layer protocol (Ethereum). Your development cost would probably be lowered significantly and you could launch your product efficiently. However, the project might be hampered by changes on the first-layer.
For example, if the price of Ethereum increases significantly, so too would the transactional fees that your customers will need to pay to gain access to your service. This could affect your business tremendously.
Property #2 — Access Rights
Tokens can represent your rights to claim a number of things, mainly:
- The rights to an asset you own
- Access rights to the services that someone is providing
- The ability to vote
Understanding this will help you to know what your token is used for.
An asset token basically represents a fungible asset or non-fungible asset. Money, gold and crude oil are examples of fungible assets. If you were to borrow my red car tomorrow, and return another car to me, would that be acceptable?
Probably not. I would expect you to return my red car to me, it has to be the exact car that you borrowed from me.
On the other hand, if I were to borrow $5 from you, I wouldn’t care about the serial number of the note that you gave me. As long as I return you the $5, you really don’t care. So, money is an example of fungible assets.
And so, cars, real estate and intellectual property can be considered as non-fungible assets.
Other tokens like access rights tokens (access to a nightclub) or credential tokens (company ID card) can be issued as a means to grant certain access rights to an individual.
Property #3 — Fungibility
In the previous property, Adriel described briefly what fungibility is — a fungible asset encourages owners to exchange the asset with other kinds of assets whereas a non-fungible asset is more unique and takes more work to exchange.
Cryptographic tokens have the ability to change non-fungible assets to be more fungible through division.
The more divisible an asset is, the more fungible it is. So if you were to fractionalise a real estate asset and use tokens to represent ownership to the asset, this makes a previously illiquid asset more liquid as the transaction process is greatly simplified. This is in assumption that whatever you intend to fractionalise is compliant to the native judicial system.
Property #4 — Privacy
Is privacy important to you? To your customers?
This is an important question to ask because not everyone wants information on the transactions they make to be easily downloadable or referenced. That is the downside of using a public ledger.
Privacy might represent a competitive edge against competitors. Not everyone wants strategic information out there in the market.
Property #5 — Transferability
Do you want your tokens to be transferred? Or do you prefer them to be non-transferrable, just like your national identity cards?
Art pieces are unique, but they are inherently meant to be a transferable asset.
Property #6 — Durability
Can your token withstand repeated usage? Would it decay or rot? For example, fresh produce like fish and meat are perishable and are not the best tokens to hold value for a long time.
Items like flour, salt and precious metals would be a better token to use as a measure of value because it does not diminish over time.
The same considerations are to be made when designing a cryptographic token.
Property #7 — Regulatory
This is a huge concern for entrepreneurs because this whole cryptographic token space is so nascent that regulators are struggling to keep up with the innovative products that are popping up in the scene.
Making sure that your tokens are compliant to the law will be the difference between staying afloat or being shut down.
Property #8 — Incentivisation
Are you providing tokens as a form of incentive — just like if you were to collect points/tokens at an online retailer for spending $50 and above, or even to reward someone for conducting a survey or watching an advertisement?
Your token could also be created to reward people in your network for helping to grow and contribute to the network, like how miners/validators are rewarded for verifying transactions in blockchain networks.
Property #9 — Token Supply
Do you want your token to be limited (Bitcoin) or do you want it to continue being minted as time passes by (Ethereum, fiat money)?
Bitcoin was meant to be an alternative to digital cash, but it acts more like digital gold where it is limited in supply.
Ether was not meant to be used as a store of value but to be used as a unit to power the network, therefore Ethereum does not put a token supply cap on their token.
Property #10 — Price Stability
As a medium of exchange, do you want your token’s price to be fluctuating constantly? Yes, Bitcoin marks a huge quantum step in technology through its consensus algorithm but its simplistic monetary policy does not help ensure price stability.
USD Tether, for example, has an algorithm that is supposed to mimic the price of the US dollar.
So, price stability is a consideration that needs to be carefully thought through when creating your own cryptographic token.
Property #11 — Token Flow
Token flow refers to how the token cycle works. In the case of a casino, the chips that you earn are only redeemable at the casino for fiat money. However, if you are to take a train ride, the train ticket that you purchase is meant to be a one-time use token and cannot be used again. This makes the flow of a train ticket token to be one-way.
Property #12 — Perishable or non-perishable
This property is similar to the train ticket example. Do you want your tokens to have an expiration date? For instance, if a token is created to represent an IOU, the IOU token is instantly burnt/expired if the debt is not paid off by the end of 5 years from the date of issuance.
So, this is just one scenario that perishable tokens can be used. Non-perishable tokens just last a much longer time and are not burnt easily (assuming the network does not crash).
Final Words
These considerations that Adriel has listed above are good starting points, but things like regulatory concerns are very much complex and such topics will require further discussion in order to achieve a better understanding of the landscape.
Next week, Adriel will be writing about NFTs and why they could be important to you, so keep a lookout for that piece!
For a full read into Adriel’s piece, do see here. Until next week!
