Understanding Tokenomics: A Guide To Enhance The Comprehension Of The Concept of Tokenomics
















Understanding T...


Understanding Tokenomics: A Guide To Enhance The Comprehension Of The Concept of Tokenomics

6 mins read / updated on Thu Aug 31 2023


This guide to tokenomics has the following outline for proper understanding:

  1. What is tokenomics? An explanation of how tokenomics works.
  2. The categories of tokens and how they are created.
  3. Use Case — Purposes of token creation and how it relates to other elements of tokenomics.

What is Tokenomics? An explanation of how tokenomics works.

Tokenomics is a combination of token and economics and thus can be referred to as token economics. Token economics simply refers to the factors that investors should look at when considering the tokens to invest in. Such factors include token distribution, price stability, the scope of business, governance, readiness for the future, and so on.

Token economics is the study of how tokens are distributed usually within a blockchain-based ecosystem and how those distributions affect that ecosystem. It is also the structure of a token’s economy. It can also be described as a system of managing and distributing tokens and how continually bringing value to both token owners and post-ICO investors.

Token economics helps in stabilizing the prices of tokens through the creation of equilibrium bearing in mind the fact that tokens are so volatile. In addition, tokenomics could also support an increase in token prices through growth in demand.

The basis of tokenomics is the construction of a tokens economic model which describes how the token will be used. Tokenomics is also known as the “value proposition” which means the factors that influence a token’s value over time. It ensures that all stakeholders are aligned with the project in a way that will cause them to perceive intrinsic value in it. This includes being responsible for product development, execution of business strategy, making tokens available for purchase, marketing activities, as well as communicating with other loyal shareholders. Tokenomics can explain all the aspects involved in the lifecycle of a token such as its creation and management, as well as its removal. Just like the tokenomics of Bitcoin, the rules of tokenomics are implemented through code and are transparent, predictable, and difficult to change.

The Binance Chain is a notable example of a public blockchain network. It is designed to serve as a distributed ledger for all Binance-operated projects. The cryptocurrency on the Binance chain is called the BNB token, which serves as a medium of exchange and store of value. BNB is therefore used to spur activities on Binance as the token that powers the Binance ecosystem. It is deflationary and maintains a stable value by burning as it recently completed its 21st burn which saw a total of 2,065,152.42 BNB worth about $574,800,583.92 USD burned. This burn will reduce the total supply of the asset, which was originally 200m, and will have a ripple effect on the tokenomics of BNB.

The Categories Of Tokens And How They Are Created:

From one token to another, the world of blockchain has seen a plethora of innovative tokens and DApps which have taken the internet by storm. It is therefore important to understand the different types of tokens and their uses so that you can make an informed decision about which token model is best for your project. There are several types of tokens, each with its own unique characteristics and applications. This helps businesses to differentiate between their offerings and to sell them to a niche market.

An understanding of the different types of tokens and their significance is very essential if you want to know about tokenomics. This is because of the nature of a token influence its tokenomics. Tokens are classified into different categories — 1. Layer 1 and Layer 2 Tokens 2. Security and Utility Tokens 3. Fungible and Non-fungible Tokens.

Layer 1 tokens:

Layer 1 tokens are native to a specific blockchain while also being used for powering all services in the blockchain. Notable examples are the BNB on Binance Chain and the ETH on the Ethereum network. Layer 1 networks allow for the creation of tokens on their network. Such tokens are known as ERC-20 tokens and can be created by anyone since there are a standard set of smart contract functions that allow you to create your own blockchain-based token.

Layer 2 tokens:

Layer 2 tokens are used in the case of decentralized applications in a particular network. They are simply built on an existing network. A developer, therefore, does not need to build a blockchain from the scratch before launching a token.

Security Tokens:

Security tokens are referred to as investment contracts, and they have to fulfill many conditions for the same. Security tokens ate characterized by a money investment, common enterprise, and profitability with computation efforts from different contributors.

Utility Tokens:

Utility tokens are basically useful for financing a network, and they are issued through an Initial Coin Offering (ICO) which is important for funding project development.

Fungible Tokens:

Fungible tokens are generally known for having the same value as the replication facility. The value of BNB tokens is the same and could be replaced with each other as they have the same value.

Non-Fungible Tokens (NFTs):

Non-fungible tokens became an internet sensation in recent times following the launch of Bored Apes, Mutant Apes, and other NFTs which are uniquely owned by individuals or collectors. Non-fungible assets include crypto art, digital arts, or even Blockchain collectibles. They don’t share the same value, thereby depicting uniqueness. The tokenization of assets such as pictures, collectibles, real estate, and artworks with NFT has not only spurred a new wave of digital ownership revolution but also showcased the potential of tokens. Non-fungible tokens do not have any scope for replication.

The tokenomics of any token created under any of the above-mentioned categories will differ and will influence the success or failure of the token. For instance, a look into the tokenomics of Curve Finance ($CRV) shows how Curve DAO tokens are used to incentivize liquidity providers on the Curve Finance platform in return will be rewarded for their contribution to the success and stability of Curve and how staking influences its tokenomics. The greater the number of tokens staked, the larger their share will be of all transaction fees collected. This system permits liquidity pool providers who stake more funds to collect more of our transaction fees than those who stake fewer funds.

Use Case — Purposes Of Token Creation And How It Relates To Other Elements of Tokenomics:

In designing a token, a crucial part of the token building is the use case for which that token is made. The utility is a very essential element of tokenomics. It is always important to answer the question “what will this token be used for?” while taking steps to create a token. A token without a use case will most likely be a failed project because the utility of a project inspires its community.

Before any form of venture into token creation, you also need to ask the question “why do you need a token?”. The answer to that question will only be determined by the token utility. Without a definite purpose, your token will have limited or no value for an end user or an investor.

Thus, the purpose of a token is usually determined by the utility it provides in the ecosystem.

With regards to the total supply of a token, the economic models you can select for your token will either be Deflationary or Inflationary. Examples of the deflationary model are BNB, CRO, and LUNA. A deflationary model means there is a hard cap (limit) on the number of tokens created. Deflationary models are made possible with the token burn mechanism. Token burning is the process of a token being permanently removed from the system.

Another crucial step is to examine potential flaws in your model and think about extra ways your model can add value to the investors.

Consider not only the use-case of your token from a business or technical perspective but also the perspective of your future investors. How can your token metrics increase the value proposition for them?

Another vital element of tokenomics you should also consider is the incentive mechanism of your token. Tokenomics uses incentive behavior to reinforce and develop the required behavior from investors. The incentive theory is basically a human behavioral theory. It implies that human behavior primarily depends on the desire for reinforcing incentives or the ability to receive incentives. Incentives play a crucial role in token economics by motivating users to participate in exchanges of value offered by a token.

The model of operations in the token economy should be configured to enable participants to earn more tokens by contributing positively. In this case, tokenomics ensures that token incentives are financial in nature owing to their financial value and contribution to an overall market capitalization of a project.


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