Brew Money

Chapter 4

What are Crypto tokens?

Tokens are digital assets created on blockchain networks. There are different types of tokens based on their function, technology, and perception.

These tokens can either be:

Fungible: Divisible and non-unique, like the US Dollar. (My dollar is the same as your dollar, which is the same as your friend's dollar.)
Non-Fungible: Unique, like one-of-a-kind collectibles. (My signature is not the same as your signature, even if they have the same function.)

Fungible tokens are often referred to as cryptocurrencies, while non-fungible tokens are known as NFTs.

Types of Fungible Tokens

Native Blockchain Tokens

These tokens are native to a blockchain network. They are used to pay for utilizing the network and are also called cryptocoins. If you want to transfer bitcoin to a friend, you need to pay a transaction fee native to the network - Bitcoin. If you want to interact with a smart contract such as a lending protocol on Ethereum, you pay fees in Ether (ETH) - the native token of Ethereum’s blockchain. Other examples include AVAX, SOL, BNB, and more.

Governance Tokens

Governance Tokens are issued to give holders the right to vote on issues that govern the development and operations of a protocol. It lets protocols distribute the decision-making power to their communities. Example: MKR tokens issued by MakerDao, UNI tokens issued by Uniswap.

Stablecoins

Stablecoins have their value pegged to a stable asset such as the US Dollar, minimizing price volatility. USDC, DAI, and USDT are a few stablecoins pegged to USD.

Liquidity Provider Tokens

When users deposit tokens into a protocol, the protocol issues Liquidity Provider Tokens to the user's wallet as proof of the liquidity provided to the protocol, similar to that of a ‘receipt’ or ‘deposit slip’ provided as proof of action.

Example: When you deposit DAI, a stablecoin, into the Aave protocol, Aave issues aDAI token to the user.

Non-Fungible Tokens or NFTs

NFTs captured mainstream attention in 2021, with billions of dollars worth of NFTs being traded on marketplaces like Opensea. NFTs are tokens that are unique and can not be replicated or reproduced. They give the ability to assign or claim ownership of a unique piece of digital data, trackable using smart contracts.

NFTs can be used to log ownership of digital arts, music, or videos. A few experimental use cases around real-world assets such as tickets to real-world events and deed to real estate has also been explored.

In May 2022, Vitalik Buterin, founder of Ethereum, proposed a special kind of NFTs called Soulbound Tokens. Unlike NFTs, these tokens cannot be transferred and can be used to represent a credential, membership, or commitment.

A deeper look into Stablecoins

The prices of crypto tokens are denominated in fiat currencies. Crypto Markets are an emerging phenomenon and are extremely volatile in nature. Stablecoins provide on-chain assets that have zero or minimum volatility in their value.

Stablecoins provide the stability of a fiat and the programmability of a crypto token.

Types of Stablecoins

Fiat-backed coins

These coins are backed by government-issued fiat currency, like the US dollar. In cases of fiat-backed stablecoins, they are usually pegged at a 1:1 ratio with said currency. Usually, the fiat money used as collateral for issuing such coins is held by a central authority in cash or treasury bills.

Example: USDC (issued by Circle), GUSD (issued by Gemini Exchange), USDT (issued by Tether), BUSD (issued by Binance)

Commodity-backed coins

These coins are pegged with assets like metal, oil, or even real estate. e.g. Paxos Gold (PAXG). It is a token that is backed by gold. Every PAXG is equivalent to one fine troy ounce of gold.

Crypto-backed coins

These coins are typically over-collateralized and use other crypto tokens as collateral to issue stablecoins.

Example: DAI. It is a cryptocurrency on the Ethereum blockchain aiming to keep its value as close to one dollar as possible.

Algorithmic coins

These coins are run on algorithms, essentially, just lines of code. When the demand for such coins increases, the algorithm produces more coins. When demand falls, it burns some of the existing coins.

Example: TerraUSD (UST) was an algorithmic stablecoin that was backed by its sister token Luna but had no actual asset put up as collateral.