Journey to the “perfect” token model (Part 1)
This article will be the starting point of our journey to develop a model/ tool to simulate token ecosystems. To begin with, we wanted to know what the world of tokens looks like, and understand how they work in order to create an initial model for our token ecosystem simulation. We came across an insightful token classification framework and started digging through loads of posts, articles and papers to find the most common type of token.
Applying the Token Classification Framework
In this post, we will present you an analysis of the top 20 tokens by market capitalization plus six ones of our own personal interest. You can find the list of the analyzed tokens as well as an overview at the end of this post. The ranking is based on data from CoinMarketCap on 07/03/2018. Today’s ranking may look different due to changes in market capitalization denoted in USD. We built our analysis upon the token classification framework by Untitled INC´s Thomas Euler. The original framework consists of five dimensions: Technical Layer, Purpose, Underlying Value, Utility and Legal Status. The legal status will not be part of the analyzes, simply because the status differs from country to country. Our intention was to get a better understanding of the different types and traits of tokens.
1. “General Types” or Technical Layer
This dimension can be divided up into three types and describes on which layer of the blockchain system the token is implemented.
a. Blockchain Native Token:
Blockchain native token or intrinsic token are implemented on the protocol level of the blockchain. They are a core element and critical to operating on the Blockchain as well as both, an integral component of the consensus mechanism and part of the incentive mechanism for block validators (“miner rewards”) or other nodes. Additionally, these “built-in tokens” usually serve as transaction spam prevention, charging a fee for each transaction limits the ability of spam.
Our findings suggest that only two of the top 20 tokens by market capitalization are blockchain native ones by now. The reason for that appears to be quite obvious: the majority of tokens analyzed are issued by teams whose products are not finished yet and maybe never will.
b. Non-native Protocol Token:
Each blockchain has its own native protocol. Non-native Protocol tokens are tokens which are implemented in the economic protocol that is built on top of an already existing programmable blockchain, it can serve multiple purposes. They are tracked on the underlying blockchain but are no integral element of it. Generally, these tokens play a crucial role within the protocols incentive- and consensus mechanism for nodes. Similar to the consensus mechanism of a blockchain the consensus mechanism of an economic protocol validates actions of individuals participating in the economy. Once an action is verified it is passed on to the blockchain. Participation and the execution of certain tasks, however, is usually rewarded.
The results of analyzing the top 20 tokens suggest that the majority of tokens by now are non-native ones which run on the Ethereum Blockchain (ERC20). This may be due to the fact that most of the corresponding projects are being still in development. The tokens were mostly issued during ICO’s to raise funds and do not fulfill their intended uses yet. This will change when the main nets being launched and tokens swapped, they become blockchain native tokens. Note that there is no guarantee for projects to reach this point, they may fail in advance. Only a few tokens are designed to remain: non-native protocol ones.
2. Purpose
This dimension is about the key function of tokens and what they are designed to do. The word token as it is defined by the Oxford Dictionaries is a thing, tangible or digital, that represents some kind of (exchangeable) value, fact, quality, feeling, etc. Although tokens are often associated with Bitcoin they are more than just a currency and serve a broader range of use. The following section will examine the three major purposes of tokens and their characteristics.
a. Cryptocurrency
This type of token is designed to be a “pure” virtual currency and to serve as a unit of account, store of value and medium of exchange, like any fiat money out there. The term pure refers to the fact, that this type of token is not intended to serve any further purposes in the first place.
From analyzing the top 20 tokens one can derive the conclusion that only one token, the US Tether Dollar, is designed to be a pure cryptocurrency with no broader application than being a store of value and medium of exchange. The vast majority of tokens however
b. Network Token:
These are tokens which are designed to be used inside a certain system, they inherit specific attributes related to this system. Often the token is needed to enable a network and strengthen its growth while functionality is usually limited to the issuer’s system. In contrast to cryptocurrencies, network tokens are not meant to be a global medium of exchange but to fulfill certain purposes.
According to the classification framework, 77% of all analyzed tokens can be labeled as network tokens. Likewise cryptocurrencies, they may serve as means of payments inside the system but that is not their main feature. Going through the issuing projects whitepapers reveals that almost all the tokens inherit attributes needed to participate in the network. E.g. for Golem this would be the ability use access computing capacities of other attending parties and compensate them with a certain amount of Golem network tokens.
c. Investment Token:
This type of token is created to raise funds or provide a way to passively invest in a project or asset in the first place. You can think of an Investment Token as a digital version of classic bond like one may hold in the “real” world. The token represents a share of the issuing entity or the underlying asset and whoever holds the token owns its yields. Besides that, an investment token provides little to none additional use.
Corresponding to our findings for network token just a relatively small amount of tokens are designed to be used for investment in the first place and do not feature significant functionality in addition. In some cases, the token can be used to reduce fees for trading. A good example of this type of token are KuCoinShares, owning one these makes you a shareholder of KuCoin network and participate in its success. When using KuCoinShares to pay for transactions you receive a discount on trading fees.
3. Underlying Value
This dimension is dedicated to what provides the value of a token. Almost every coin out there is meant to have some kind of monetary value to its owner. What distinguishes them is how this value is derived. You can imagine the monetary value of a token as the amount of money (fiat or crypto) you would receive by selling it to a buyer. Ruffly there are three major types of underlying value that will be analyzed.
a. Asset-backed Token
Asset-backed tokens show a strong relationship to the “real-world” as they can essentially be described as IOU´s (I owe you) tied to any kind of “real-world” assets. An IOU is nothing more than an acknowledgment of debt handed out by a borrower and doesn’t necessarily include any conditions of repayment. In the case of an asset-backed token the issuer or let’s say “borrower” is responsible for holding the asset and hand it back to the token holder if desired. As you can imagine this creates counterparty risk and requires a certain amount of trust.
Asset-backed tokens provide a good opportunity to trade “real-world” assets without actually moving the physical asset. With regard to our examination, we can say that there is only one asset-backed token by now. This is no surprise if you consider the “blockchain-movements” mission to decentralize and bring trust into an untrusted environment. Tether is a good example to illustrate the dichotomy of the idea of blockchains and asset-backed tokens. Tether offers so call US Tether Dollars (USDT) in exchange for let’s say Dollars (USD), once a USDT is purchased the USD are deposited to Tether’s central bank account. The tokens can be transferred or swapped back to USD. Tether obligates to hold your USD and you simply have to trust them to not “mess around” with your money.
b. Network Value Token
Network value tokens are tokens which are tied to the value of a specific network and not the value of an issuing entity. More precise the value which is generated an exchanged on the network. This could be for example the volume of transaction fees or circumstances. The token itself is typically linked to the interactions of participants inside the network, it provides functionality.
The whitepapers of the tokens analyzed reveal that the vast majority of them is deriving its value from the network it is native to. The more people participating the higher the network activity and the value generated on it. As the network becomes more popular and attracts more user the value of the token rises. In order to acquire value, the tokens need to be intertwined with active participation.
Note: Most investors of blockchain projects we have talked to point out one major reason which leads them to invest: “the community”
c. Share-like Token
A token classified as share-like is close to its “real-world” equivalent, holding this token entitles one to receive a share of the issuing entity. This may happen in form of dividends or share of profits. Voting-rights are optional, it’s up to the issuer whether a token features them or not. In contrast to traditional shares, share-like tokens provide only weak or even no legal basis.
Applying the framework to the top 20 tokens leads to the conclusion that there are few tokens out there we would label share-like but all of them we classified as investment token earlier on. Regarding that finding, one could say that investment token will most likely never be network but share-like or in some cases asset-backed tokens.
4. Utility
This dimension is all about the various types of utility.There is a variety of different tokens in existence and almost all of them are created to serve a certain use and thereby provide a source of utility to its holder. As already mentioned, the majority of tokens can be classified as network tokens tied to a specific network. In order to create value the token has to provide some kind of utility to the holder otherwise it becomes worthless.
a. Usage Token
As the name already suggests, a usage token provides utility to its holder by enabling her or him to use a system or particular service. The token is maybe needed to participate the network in general or access exclusive services. A good example for that is the antivirus software you may or may not use. Basically, there are two options between you can choose. You can either go with a free software and pay for exclusive functionalities or you can go with a paid one which grants access to all services of the software. Even though this example is very simplified it illustrates the properties of a usage token.
As expected, applying the classification framework to the top 20 tokens shows that this type makes up the biggest share of all. This is in line with most tokens being network token and thus the ability to use the network or exclusive services is indispensable. On the other hand, it seems, that some token-based projects just implement some nonsense functionalities or use cases just to give their token a certain usage.
b. Work Token
A work token allows its holder to actively contribute to the system and not just to use it like it is the case for a usage token. What the contribution looks like can differ depending on the system and what it is about.
This type of token is a rather rare one, analyzing the most capitalized tokens revealed that there is only a small number of token solely allowing the holder to contribute to a network.
c. Hybrid Token
The hybrid token is a combination of the above usage and work tokens and inherits both of their features. Holding one grants access to the system but also enables the holder to actively contribute to the system.
Hybrid token are more common that work token, one reason might be that most of them are primarily designed to serve as usage tokens but also feature some possibility to contribute to the network
5. Conclusion
The overall results of analyzing the top 20 token by capitalization can be seen in the graphic below. For each dimension, the results are pretty clear. By now over 90% of all tokens analyzed are non-native ones, they are implemented in a protocol on top of a blockchain but this will change once their main nets go live. When it comes to purpose, the amount of pure cryptocurrencies is vanishingly small. There are some investment tokens but the vast majority is made up of network tokens. For most cases, the token is tied to the value and development of the network. Utility largely is created by allowing the holder to use a network or exclusive functions of it.
So the average token can be estimated to be a non-native protocol token whose purpose is to enable a specific network, deriving its value from the value generated by the network while granting access to the network and its services. This result is of particular interest because it can provide the starting point for modeling a first simple token economy.
Feel free to comment on our idea and approaches on this and on upcoming articles.
PS: you will find our journey also on steemit.com.
