Even though cryptocurrencies are booming, not so many people in the world really understand all the technical details related to them. Behind each type of virtual money is an ocean of factors that would be good for traders and investors to take into account. Experts recommend investigating the peculiarities of each altcoin and token before buying it to avoid scam and money loss.
The fundamental difference between coins and tokens is the method of creation. A coin is a cryptocurrency (digital currency) created on the independent platform (blockchain network). Most of the coins are available for mining. It means that any user can install special software and contribute to the blockchain network with the PC computing power. As a reward, the miner gets some coins. The volume of coins is limited but significant.
A token is a cryptocurrency based on an existing blockchain. As a rule, the developers issue the total volume of each token at the same time. It helps to evaluate the startup capitalization after the price of the token changes. Some successful startups emit the additional coins, but mining is not available for tokens, anyway.
Sometimes a token can develop into a coin, so the transitory forms are also possible. To make it clear, let us investigate tokens and coins separately.
What is a coin?
A coin is a cryptocurrency (digital currency) that uses its own platform and circulates independently. The blockchain network works as the primary technological and financial base for the coin, its core value. Coins do not require any other platform; they operate on their blockchain, where they are the native currency.
The leading coin in the world is the most popular cryptocurrency Bitcoin. The creators of Bitcoin initially developed the safe code for the decentralized registry. However, since the launch of this platform, the code has changed several times. Each code update created a fork – a split of one blockchain network to two. The difference between old and new platforms is not significant, but the coins on each platform circulate independently. Namecoin, Peercoin, Litecoin, and some other coins that appeared in this way.
The coins, created on the base of Bitcoin blockchain, are called the alternative coins or altcoins. Another type of altcoin is a coin developed based on a unique blockchain. Ethereum is a typical example of this type. There is one main common feature for each of the altcoins—an individual blockchain network. The creation of an independent network is not a hard challenge. In 2020 over 5,000 altcoins exist! However, we have never heard about most of them.
What is a token?
Tokens are a cryptocurrency based on an existing blockchain or protocol. Most of the tokens function on the base of the Ethereum platform—you will find a detailed explanation of this phenomenon below. Tokens do not always work as a currency; they can also provide some rights to the holders. That is why a token cannot be split for smaller nominal.
Here is the shortlist of the possible token functions:
– Certificate of the ownership for the specified asset;
– License for some activities within the platform;
– Certificate for the rights, reputation, or other platform tools;
– Smart contract for the purchase or any other deal between the platform members;
– Right to purchase some internal services from a platform;
– The reward for the specified activities,
and so on.
Before moving to further explanations, let us explain the difference between tokens and coins with the metaphor. Imagine the construction of a building, stage by stage. A blockchain system is always a base for a cryptocurrency, like a basement for a building. A coin is a building itself. It cannot exist without a basement, but when constructed, it functions independently. A token is a penthouse. To create it, you don’t start construction from the basement: you build it on the top of the existing building.
How do crypto players use coins and tokens?
Crypto players use coins and tokens in different ways. The principal value of a coin is the underlying blockchain network. It means the coins are exchangeable and can be used as money. Many small and middle businesses accept coins as a payment method. So, it is possible to purchase the goods and products for coins. The holder can split a coin to smaller nominal (like satoshi for Bitcoin), but the value of a coin and each part remains the same. Holders can also change the coin for fiat currencies.
The developers issue most of the tokens for an ICO. ICO, the initial coin offering, is the equivalent of the IPO on the stock market. A young company, a startup or a project, creates the unique tokens and distributes it among the crypto players to collect some funds and increase market capitalization. After crypto players buy tokens, they can use it in several ways. First, they can hold and wait for further moves. Second, after the specified time, they can exchange their tokens for some services or goods from the ICO launcher. At last, they can trade with these tokens. For many investors, the tokens are a straightforward way to invest in startups.
Two main types of tokens: equity tokens and utility tokens
We can also divide tokens into two types: utility and equity tokens.
Equity tokens. This is a type of securities or coupons that can become an investment target. On the crypto market, the equity tokens are an equivalent for the corporate stocks on the stock market. They are exchangeable, and the price of one token can go up and down. The key factor important for an equity token price is the success of the company behind it. Such tokens have the highest potential in the market. Unfortunately, the regulations of the financial market limit or prevent the development of this asset.
Utility tokens. These tokens are not created for investors. Utility tokens are used for access to products and services. The holder can buy utility tokens or get for some useful activities on the platform. Instead of changing the utility tokens for money, a holder can access some functions and tools of the underlying platform. On the one hand, it limits the potential of a utility token. On the other hand, these tokens are not an asset, so they are not subject to the regulations and laws. So, the potential of utility tokens is higher than of equity tokens.
Why do crypto players need tokens?
The benefits of the equity tokens are apparent: it is an investment asset, and people can use it to earn some money, invest and return their investment with a profit. The benefits of the utility tokens are not obvious. Let us review the main functions of this kind of tokens:
– Decentralized database, in which the data cannot be changed or removed;
– Optimized trading that does not require the movement of the real assets and time-consuming document work;
– High level of security and ownership protection due to decentralized blockchain system;
– Simpler verification system for the transactions, processes, and contracts;
– No need to work with the trusted partners only – tokens can contain the terms of smart contracts that prevent a fraud;
– Optimization and expansion of the platform, improved interaction between developers and users.
Of course, this list of functions is just the tip of an iceberg, and the potential of the tokens is more extensive. Moreover, one token can combine several functions or expand its functionality together with platform development. However, it is essential to recognize that coins have no these abilities because their potential is limited with money functions.
Ethereum as a coin and as a platform
Probably, Ethereum is the best example to show the difference between coin and token. Basically, Ethereum is a platform for smart contracts. A smart contract is the modern form of business agreement, a digital protocol on the decentralized platform that comes to action after all the terms are met. The simple example is the purchase of a digital product, for example, the soundtrack. When the specified amount lands to the seller’s account, the buyer gets access to a record. Many analytics consider smart contracts as a wide segment of digital trade in the future. The absence of a legislative base slows down the expansion of smart contracts, but there are some actual cases in different sectors that prove smart contracts’ usability. Not only digital products but also food, clothes, vehicles, and real estates can be purchased via a smart contract.
Making the main accent on the smart contracts, Ethereum launched its own cryptocurrency with the same name. Ethereum (ETH) is a coin: it uses the platform’s functions and tools and circulates independently. In the global charts of the most popular cryptocurrencies, Ethereum usually takes second or third position. Thousands of miners contribute to the computations performed to secure the blockchain and get the coins as the reward. However, it would not be enough to become the second-largest platform by market capitalization.
The key to Ethereum’s success is the ERC20 standard. The lack of standardization is a negative factor in the crypto industry that prevents legalization in many countries. Ethereum offers ERC20, a piece of open-source code, as the base for tokens. The software developer can create a token using the ERC20 standard and launch it on the Ethereum platform. These tokens follow the list of standards so they can be shared, exchanged to other tokens, or transferred to the crypto wallet. Using ERC20 for numerous ICOs moved Ethereum to the peak of its popularity.
So, Ethereum (ETH) is a coin because it functions on its independent platform. ERC20 tokens also operate on the same platform, but they are still tokens. We can return to the construction metaphor: ETH is a building, and many tokens are the additional structures. Tokens have an area for evolution. Surprisingly, several coins started as tokens. Thus, the popular coin TRON (TRX) was created as an ERC20 token in 2017 but migrated to an independent platform in 2018. Holders of ERC20 TRX tokens traded them to TRON-based coins, and then ERC20 tokens were destroyed. So, during a short time, TRX existed both as a coin and token! However, there are only a few successful tokens that migrated to the independent platform.
Coins can be the basis for creating tokens, but tokens can have more functions. Tokens can be evidence of ownership in real estate and business; they can be used to vote and to respond to the polls. In general, tokens provide people with more valuable opportunities than the simple speculation that coin holders are most interested in.
Is it legal to use the words “coins” and “tokens” as synonyms? Yes and no. Although the difference is significant, confusion will probably reign in the market for a long time. We will consider these terms interchangeable until the public revises them over time. Besides, do not forget about hybrid forms, which can be the subject of a separate discussion. Only the experienced crypto players will understand both terms and use them properly.
So don’t get angry with news writers or players who don’t differentiate between coins and tokens. Over time, everything will fall into place.