Digital Tokens as a terminology are evolving quickly. While Bitcoins and other cryptocurrencies are all referred to as ‘digital tokens’ in a generic sense (as in ‘a Bitcoin is a digital token’), a distinction now seems to be emerging between cryptocurrencies, such as BTC and ETH whose coins are tracked on their respective blockchains, and tokens which are usually issued by an issuer during an Initial Coin Offering (ICO) and tracked within smart contracts on Ethereum’s blockchain. The word ‘token’ can mean different things depending on the context in which it is used.
Importance of Digital Tokens
It is easy to understand what a ‘token’ is in the physical world. Think of round plastic things like casino chips, beer vouchers, or fairground ride tokens. Essentially a digital token is something that is issued by an issuer (the casino, the beer festival organizers, or the fairground) and can be used in a specific context or in a specific marketplace, perhaps under specific conditions or timings. The token has value because the context gives it value, but if you take the token outside the context the value decreases or falls to zero. While a $5 casino chip is worth $5 inside a casino, it would be worth less on the other side of the world. And fairground ride tokens would not be worth much, if anything, outside the context of the fairground.
The characteristics of the different types of tokens vary widely, and generalizations lead to confusion. In this section, I hope to clarify the different types and characteristics of tokens by differentiating between blockchain-native tokens like BTC and ETH, asset-backed tokens like IOUs, and utility tokens that can be spent on goods or services at a later date, usually recorded within smart contracts on the Ethereum blockchain as ‘ERC-20’ standard tokens, but may also be recorded on other blockchains.
Owning a Digital Token
We can be more specific and use the term crypto asset. Ownership of any crypto asset, whether it is a cryptocurrency or a token, is vested in the person who has the private key that corresponds to the address with which the token is associated. This private key allows that person—the owner—to create and sign transactions releasing the token and assigning it to someone else. In some respects, crypto assets are like bearer assets—if you hold the private key, it is yours.
The rules of blockchains require that if a Digital Token is to be sent (i.e. if a payment is to be made), the transaction must include the digital signature related to the token’s current address. This digital signature is validated by all of the blockchain network participants. The digital signature acts as a single point of authentication to signal that it really is the address owner who is making the payment instruction. With online banking, in contrast, you prove that you are you then instruct the bank to do something on your behalf.
You provide a username and password and usually a one-time PIN created on another device - a so-called ‘second factor’. Authenticating with a username and password has its benefits. If you forget or lose your password, you can have it reset if you supply more proof that you are the account holder. With a crypto asset, transactions must have a valid digital signature. If you lose your private key, you cannot access your asset and you cannot have it reset. If your private key is copied the thief can make transactions
Categorising Tokens
New tokens are emerging almost daily. Their properties vary. While segregation and separation are difficult, I currently think of tokens in three categories:
Native blockchain tokens or Digital tokens, which are essential for the underlying blockchain to work or be incentivized are usually the incentives for block-creators to do their work. Cryptocurrencies are usually native tokens.
Asset-backed Digital Tokens, which represent title or ownership to some real-world asset held in trust by a custodian.
Currency Digital Tokens: Currency tokens are native blockchain assets intended to be used as money. Networks classified as currencies typically do not have many ‘features’ beyond those necessary to define and transfer the native blockchain asset.
Platform Digital Tokens: Platform tokens are required to use general-purpose decentralized networks that support a wide variety of possible applications. Platform tokens are often used specifically to mediate the use of the platform (ie, tokens are used to pay ‘gas’ in order to access the platform’s functionality).
Suggested Topic
If you like our blog and posts, please share them with your friends and spread the word. Please feel free to share your suggestions and feedback in our contact and help us to improve at this.
Latest Posts
