What Does It Mean to Burn Crypto?

If you follow cryptocurrency news, you’ll often come across the term “coin burning,” a technique to reduce the supply of a cryptocurrency that gained traction in 2017. Since then, it has been widely adopted across various cryptocurrencies.

You might see announcements about developers burning millions, billions, or even trillions of tokens, regardless of the coin’s size. This article explains what cryptocurrency burning is and why developers use this strategy.

What is Coin Burning?

Coin burning is the process of sending cryptocurrency tokens to an unusable wallet address, permanently removing them from circulation. This address, known as a burn address or eater address, is inaccessible and cannot be assigned to anyone. Once tokens are sent to this address, they are gone for good.

While anyone holding cryptocurrency can burn their tokens, it’s not typically something you’d do without a specific reason, as it essentially means losing money.

Usually, it’s the cryptocurrency developers who choose to burn a certain amount of tokens. By reducing the supply, the remaining tokens become scarcer. This scarcity can potentially increase the token’s price, benefiting investors.

However, there are a few important points to note about coin burning. It’s not guaranteed to boost the cryptocurrency’s value, and many projects see little to no positive impact from it.

Additionally, coin burning can be misused to mislead investors. Developers might claim to burn tokens but actually send them to a wallet they control. To avoid falling victim to such schemes, it’s crucial to thoroughly research the cryptocurrency you plan to invest in or consider more secure cryptocurrency stocks.

Another reason developers burn tokens is to obscure the presence of whales — individuals or entities holding large amounts of cryptocurrency. For example, a developer might launch a cryptocurrency with 1 billion tokens, retain 100 million, and immediately burn 600 million. This creates the illusion that the developer owns only 10% of the supply, based on the original 1 billion tokens. However, in reality, the developer owns 25% of the remaining 400 million tokens, which is a significantly larger share.

How Does Coin Burning Work?

Coin burning follows a straightforward process:

1. Initiating the Burn: A cryptocurrency holder initiates the process by calling the burn function, indicating the amount of coins they wish to burn.

2. Verification: The smart contract checks if the holder has the specified amount of coins in their wallet and ensures the number is valid. Only positive numbers are accepted in this process.

3. Validation: If the holder doesn’t have enough coins, or if the number specified is invalid (e.g., zero or negative), the burn function will not proceed.

4. Execution: If the holder has the required amount, the specified coins are deducted from their wallet. The total supply of the cryptocurrency is then updated, reflecting the permanent removal of these coins from circulation.

Once the burn function is executed, the coins are destroyed forever and cannot be recovered. Blockchain technology allows anyone to verify this destruction through a blockchain explorer, providing transparent proof of the burn.

History of Coin Burning

The concept of coin burning has roots that extend beyond the realm of cryptocurrency, closely resembling the practice of stock buybacks. In a stock buyback, a company purchases its own shares from the market, thereby reducing the number of shares available and often increasing the stock’s value.

Coin burning, though not identical to stock buybacks, shares similar objectives. The method became popular in the cryptocurrency world around 2017 and 2018, with notable instances involving coins like Binance Coin (BNB), Bitcoin Cash (BCH), and Stellar (XLM). These cryptocurrencies burned tokens to reduce their supplies and potentially boost their market prices.

This strategy has been widely adopted by newer cryptocurrencies, especially those launching with large initial token supplies. Coin burning allows these cryptocurrencies to begin at low prices, attracting investors with affordable entry points. After accumulating a substantial investor base, developers can burn a significant portion of tokens, aiming to increase the token’s value by creating scarcity.

This approach has gained traction because it provides a way to start with low-cost tokens and later enhance their value, appealing to both developers and investors.

What is Proof of Burn?

Proof-of-Burn (PoB) is a consensus mechanism used in blockchain networks to ensure all participating nodes agree on the true and valid state of the network. A consensus mechanism involves protocols where multiple validators confirm the validity of a transaction.

Often described as a more energy-efficient alternative to Proof-of-Work (PoW), PoB requires miners to burn tokens to gain the right to mine new blocks and earn rewards. Unlike PoW, which involves competitive mining and high energy consumption, PoB eliminates this competition.

In PoB, miners send their tokens to a burner address, a process that effectively removes these tokens from circulation. This process doesn’t require significant resources beyond the initial energy used to mine the coins before burning them. Depending on the specific implementation, miners may burn either the native currency or an alternate chain’s currency, such as Bitcoin. In return, they earn the right to create a new block and receive a reward in the blockchain’s native currency token..

Uses of Coin Burning

Here are the primary uses of coin burning:

1. Potential Value Increase: Burning tokens can potentially increase the value of a cryptocurrency. While not guaranteed, some cryptocurrencies have experienced price hikes following token burns.

2. Inflation Control: For cryptocurrencies with high inflation rates, burning tokens can help manage and reduce the rate of inflation.

3. Proof-of-Burn Mechanism: In proof-of-burn cryptos, burning tokens is a method for participants to add new blocks of transactions to the blockchain.

It’s important to note that coin burning alone doesn’t determine the quality of a cryptocurrency as an investment. There are both strong and weak cryptocurrencies that use token burning. Understanding how coin burning works can give you better insight into the cryptocurrencies that implement this strategy.

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