HFM information and reviews
HFM
96%
FXCC information and reviews
FXCC
92%
FxPro information and reviews
FxPro
89%
FBS information and reviews
FBS
88%
XM information and reviews
XM
86%
NordFX information and reviews
NordFX
86%

What is tokenomics? Understanding the token economy


With thousands of cryptocurrencies available, traders are beginning to think to themselves "What makes one crypto more valuable than another?" Tokenomics will help make sense of this. Central banks control the interest rate and the supply of money to maintain a stable price for a country’s currency and grow the economy. Economists call this monetary policy. Cryptocurrencies, like Bitcoin (BTC) and Ether (ETH), also have such systems in place to control supply. A cryptocurrency’s monetary policy is determined by the issuing entity or the network’s tokenomics.

In this guide, traders will learn about the concept of tokenomics and why it’s important as a trader and investor to understand a digital asset’s tokenomics before investing in the project. So let’s dive right in!

What is tokenomics?

Tokenomics, short for 'token economics', refers to the set of rules that govern a cryptocurrency’s issuance and supply. Digital coins and tokens built on a blockchain typically have pre-set, algorithmically-created distribution schedules. Additionally, some crypto assets also have hard-coded policies in place for the removal of units of the asset in the circulating supply. These are the essential factors determining a digital asset’s tokenomics. 

A digital asset’s tokenomics allow us to reasonably predict the number of coins that will be created by a certain date and the group of people who could have the largest ownership of the crypto network. Though an asset’s tokenomics can be altered at times, it often requires the agreement of the majority of the blockchain network’s participants to make it happen.

What are tokens?

To understand how tokenomics works we need to start at the ground level and first understand what tokens are and what their difference is too coins in the crypto market. Tokens are digital assets that are issued on and powered by blockchain technology. Though bitcoin and ether can also be referred to as crypto tokens, it’s increasingly common to use the word “token” to refer to cryptocurrencies that run on top of another cryptocurrency’s blockchain or to digital assets that have a specific utility or function within a network. 

Generally, tokens are a type of cryptocurrency that represent a particular use on the blockchain. They can serve multiple purposes, including being used to access products and services on the blockchain and reward users for performing specific operations on a blockchain.

What is the difference between coins and tokens in cryptocurrency?

The terms “coins” and “tokens” are often used interchangeably. However, most people use the word “coins” when they are referring to a digital currency, such as Bitcoin (BTC) or Litecoin (LTC), while the term “tokens”  typically refers to digital assets that provide some type of function or utility, such as Ether (ETH) being used to pay for transaction fees on the Ethereum network.

The idea is that coins refer to money while tokens refer to non-currency digital assets that can be used for a variety of use cases. Additionally, any asset built on top of another cryptocurrency’s network is typically referred to as a digital token.

How are tokens used in tokenomics?

Tokenomics covers all essential aspects of how a digital token is managed - either by code or by a centralised issuing entity. Let’s take a look at the role of tokens in tokenomics.

What is a token burn?

A token burn is a process of permanently removing tokens from circulation with the aim of reducing the total supply. If a crypto project executes a burn function to destroy its tokens, the tokens will be gone forever. It's impossible to recover tokens once they are burned. One of the ways crypto projects burn their tokens is to purchase some of the tokens from the market and transfer them into a frozen private address called a ‘burn address’. There’s no way to reverse the transaction or withdraw the coin from that address.

Token burn is a strategy used to control the price of the token in the market. Reducing the supply of the token in the market can create scarcity and lead to price appreciation.

Types of tokens

There are different types of tokens with unique use cases and significance in the broader crypto economy. Tokens can be divided into two types: Layer 1 and Layer 2 tokens. 

For example, Compound tokens are seen as Layer 2 tokens because they are implemented as a reward and governance token for the lending & borrowing services offered on the Compound protocol, a decentralised finance application on the Ethereum blockchain. Traders can also divide tokens based on their use cases. The two most popular token use cases are utility and security tokens.

Security vs utility tokens

Security and utility tokens both operate as tradable digital tokens on open blockchain networks. However, the two have very different characteristics and functions. Security tokens are tokenised financial securities governed by Securities Law. For example, a security token can represent an ownership stake in a company and entitles its holder to specific rights, such as a portion of the company’s profit.

Utility tokens allow users to access products or services provided by a blockchain network or decentralised application (DApp). They don’t give the holder any specific rights or claims to the project.

The main difference between security and utility tokens is the regulatory frameworks guiding both. Security tokens are subjected to a higher degree of regulation than utility tokens.

Fungible vs non-fungible tokens

A fungible token is replaceable and interchangeable with other similar tokens. Fungibility is the essential feature of any currency, including fiat currencies like the US dollar. $100 dollar notes are always worth $100, which means if traders hold a $100 note, traders can buy $100 worth of goods and services.  However, in the case where someone borrows a car, the lender expects them to return the exact same car that was lent to them. The car is non-fungible, which means no two cars are exactly alike.

It’s the same with non-fungible tokens (NFTs). NFTs are unique and cannot be replaced with tokens of the same type. An example is a token storing a trader’s birth certificate, traders wouldn’t want to replace it with another token because the birth certificate is unique.

What makes tokenomics different from other economies

The main difference between the traditional economy and tokenomics is that tokenomics are designed specifically for a decentralised crypto network or application while traditional economies are built on predicting the effects of specific events or human behaviour for a country. Also, in the traditional economy, only a few centralised institutions determine the control of money, while tokenomics often allow the community to decide how a crypto venture should be governed.

Finally, tokenomics are applied in the digital realm while the traditional economy covers both the virtual and the physical world.

Selecting a consensus algorithm for the token model

A consensus algorithm is one of the key parts of a blockchain network as it helps participants to agree on a universal shared ledger that only includes valid transactions. Due to the decentralised system of a public blockchain, no centralised authority makes all the decisions.

There are two major kinds of consensus algorithms: Proof of Work (PoW) and Proof of Stake (PoS):

Newer consensus protocols based primarily on PoS have appeared in recent years, such as Delegated Proof of Stake (DPoS) and Pure Proof of Stake (PPoS), but they share many of the characteristics of their pioneering predecessor.

How to access an ICO’s token economy?

A typical project’s initial coin offering (ICO) will have a website and a whitepaper detailing its tokenomics. Please read the website and its whitepaper to find out:

What is an ICO in cryptocurrency?

A company looking to raise money in the crypto capital markets can issue a digital token in a so-called Initial Coin Offering (ICO). In a sense, an ICO is similar to an Initial Public Offering (IPO) on a stock exchange, with the main difference being that a standard ICO token does not provide the holder with shareholder rights. (Unless, of course, the token issued is a security token.)

How can token economics be used?

The tokenomics of a crypto network or decentralised application can vary greatly and involve a number of different methods. New types of tokens and innovative projects are always being created in the crypto space, most recently 'soulbound tokens'. Let’s dive into ways crypto networks are applying token economics.

Examples of tokenomics in action

Let’s take a look at the tokenomics of four of the most popular and trending digital assets: Bitcoin, Ethereum, Tether USD and SafeMoon. 

Why is tokenomics important when investing in cryptocurrency?

Tokenomics control the supply and demand of a token, which influences the price. Understanding cryptocurrency tokenomics before investing can help traders identify some of the factors that will impact the price of a token. Traders will know how many tokens are in circulation, how much more is still coming into circulation and who are the largest owners in the project.

Tokenomics are extremely important when trying to analyse the worth of a cryptocurrency. However, it should not be the only consideration when investing.

#source


RELATED

Digital currencies as financial instruments

Digital currencies are computer files that are stored in distributed databases that communicate over the internet. They can only be accessed or used through...

Top Trading Tools to Help You Make Profits in Forex

The forex business is a lucrative one, with several traders making the kill daily. However, while a lot of successful traders make do with some professional...

ETFs vs Mutual Funds: Similarities, Differences and the Know-Hows

Exchange-traded funds (ETFs) and mutual funds have a lot in common. These two funds both pool investor investments into a combination of securities such as bonds, commodities, and stocks...

Day Trading While Maintaining a 9-5 Job: Strategies, Considerations, and Balancing Act

The world of day trading, with its tantalizing potential for financial gain, has become increasingly accessible even to those who hold down conventional 9-5 jobs...

Chainlink: Is It on Track for a Bull Rally?

If you have recently watched the crypto charts, you can see the growing popularity of many coins, including Chainlink (LINK). And while so many assets are on the bull run...

Discover how to trade commodities CFDs in 2020

Learn the basics of how to trade commodities CFDs. Discover types of commodities trading (precious metals, energy, food crops) and commodity brokers...

What Is Fibonacci Retracement? Definition & How To Use It

Setting the support and resistance levels is usually a problem for traders. It is especially inconvenient when trying to figure out from the beginning where to place them on the chart...

How to Short Ethereum?

Want to profit from falling prices in ETH? Then you’re in the right place. In the following article, we’ll explain what shorting means, how to short Ethereum, and how you can profit...

What is blockchain technology and how does it work?

Blockchain technology provides an innovative way to securely record, store and transfer data. Blockchain is the technology that makes cryptocurrency possible...

The Modern Day Trader's Guide: Understanding Time Commitment and Strategies in 2024

As the curtain closes on 2023, with the S&P 500 signaling a moderate gain, the focus shifts to the landscape of day trading in 2024. Day trading, a practice where traders capitalize on intraday...

What Is Sharding in Crypto and How Does It Work?

Sooner or later, you will hear the term "sharding" in relation to cryptocurrency. While it does not necessarily affect trading directly, it does pay to know the technology behind what you are trading...

WETH vs. ETH: What’s the Difference?

Ethereum (ETH) and Wrapped Ethereum (WETH) are two digital assets that have become increasingly popular in the world of decentralized finance (DeFi). While both assets share many similarities...

Major advantages and disadvantages of mirror trading

The world of trading is often seen as a big and intimidating one. There are so many different commodities, currencies, and cryptocurrencies to trade that it can be difficult...

How to Invest in Facebook Stock with Libertex

Facebook is now a popular social media platform all over the world. Aside from that, Facebook, Inc. (NASDAQ: FB) is now one of the biggest companies...

How To Cut Losses Trading Cryptocurrencies

Even good trading and investment strategies can lead to portfolio losses if the basic rules of money management are neglected. In addition to the basic rules typical for investing...

Is the US market too expensive during COVID-19?

Global financial media have reported the "extreme cost" of the US stock market in recent days. In theory, this should be followed by an imminent collapse...

How to Make Money by Investing in Cryptocurrency

The recent creation of cryptocurrencies has taken the world by storm as this new digital currency space looks to disrupt the financial sphere, as well as the investing one...

What US stocks can grow during coronavirus pandemic

Unprecedented sell-offs in global stock markets led the S & P500 to fall by more than 30%. The Dow Jones Index fell more than 35%. Given the increased volatility, at the moment of a mood...

How to avoid analysts' mistakes?

We often hear about an undervalued asset, an unfair exchange rate, or an overvalued dividend forecast. In my opinion, such "expert" statements...

Deepen your Understanding of Crypto Trading

Cryptocurrency trading, or more briefly crypto trading, is simply the exchange of cryptocurrencies. Just like in Forex, you can buy and sell one cryptocurrency for a fiat currency...

Vantage information and reviews
Vantage
85%
FP Markets information and reviews
FP Markets
81%
IronFX information and reviews
IronFX
77%
T4Trade information and reviews
T4Trade
76%
Exness information and reviews
Exness
76%
Just2Trade information and reviews
Just2Trade
76%

© 2006-2025 Forex-Ratings.com

The usage of this website constitutes acceptance of the following legal information.
Any contracts of financial instruments offered to conclude bear high risks and may result in the full loss of the deposited funds. Prior to making transactions one should get acquainted with the risks to which they relate. All the information featured on the website (reviews, brokers' news, comments, analysis, quotes, forecasts or other information materials provided by Forex Ratings, as well as information provided by the partners), including graphical information about the forex companies, brokers and dealing desks, is intended solely for informational purposes, is not a means of advertising them, and doesn't imply direct instructions for investing. Forex Ratings shall not be liable for any loss, including unlimited loss of funds, which may arise directly or indirectly from the usage of this information. The editorial staff of the website does not bear any responsibility whatsoever for the content of the comments or reviews made by the site users about the forex companies. The entire responsibility for the contents rests with the commentators. Reprint of the materials is available only with the permission of the editorial staff.
We use cookies to improve your experience and to make your stay with us more comfortable. By using Forex-Ratings.com website you agree to the cookies policy.