DeFi
September 28, 2022
What is Token Burn and it's effects on price
An A-Z guide on token burning and how it is largely impacting the cryptocurrency industry.
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Currently, the stock market is the most preferred means of investing money. People are more comfortable with the stock market because they get to see the brands and companies they are familiar with.
It is easier to research a company and then decide whether to put their money into it or not. However, in the case of cryptocurrencies, most people blindly bet on the coins and invest their money into them.
If you too want to invest your money into the crypto market but are not sure where to start, then tokenomics is something to pay attention to. This article will help you research the parameters of a coin before investing.
The study that is done to determine the cause of crypto tokens and cryptocurrencies is called tokenomics. Tokenomics revolves around three aspects, quality, distribution and production of crypto tokens. The study of tokens is necessary to understand the demand and supply of the token, which highly affect the valuation of the token.
Just like we study economics for fiat currencies, it is important to get familiar with the topic to understand the market in a better way. The same urge applies to Tokenomics, it is the book to understand more about the crypto space and give us a better understanding on where to invest and some essential information on cryptocurrencies.
Investing in the cryptocurrency sector without any solid knowledge sometimes may get you good returns but it can also wreck you financially. Also, doing research about cryptocurrency can be confusing and overwhelming, especially to new investors.
Tokenomics is something new investors should be familiar with in order to start their crypto investing journey correctly. Tokenomics is necessary for such users and the following are the particular reasons one should pay attention to tokenomics.
I hope now you have a better understanding of what tokenomics is. However, it is of no use if we don’t know how to implement or make use of tokenomics to research a particular cryptocurrency before investing in it.
To make it simpler, tokenomics can be done by going through different aspects of cryptocurrency like total circulating token supply, kind of token, it's the market capitalization and launching system used. Let us go through each aspect that comes under tokenomics.
The crypto market is largely controlled by a demand and supply system. Thus prices of cryptocurrencies fluctuate depending upon the current demand and the supply of tokens as mentioned on its whitepaper.
That is why the total token supply, circulating supply and maximum supply are important elements of tokenomics. The total token supply is the total number of tokens which are currently existing in the market. This excludes the tokens which are burned so far.
Whereas, the circulating token supply is the total tokens created and are under circulation till the current date. The max supply is the upper limit of the number of tokens that can ever be mined or generated.
Now, it is not necessary that every coin or token you see has a fixed maximum supply. The max supply for certain coins is capped at a fixed number and it is unlimited in case of some coins. Let's take a closer look through some examples.
An example of limited supply crypto that you will understand easily is Bitcoin. It has a maximum supply of 21 million. That means only 21 million Bitcoins can ever be mined ever. Out of which almost 90% of Bitcoins have already been mined.
Therefore as more Bitcoins are mined the supply will be reduced and an increase in demand will most probably cause the price of 1 Bitcoin to increase until the last Bitcoin is mined. Now there are some cryptocurrencies that come with an unlimited supply of tokens or coins.
Dogecoin was one of the most hyped and popular cryptocurrency in 2021. Dogecoin has no limit to the number of coins that can be mined. The Unlimited supply of Dogecoin makes it vulnerable to inflation. Currently, there are 131.13 million Dogecoins in circulation.
So far you must have a good understanding about how token supply affects the price of cryptocurrency and why it is an important factor of tokenomics which shouldn’t be ignored. Talking about inflation, there are two kinds of tokens you will find in the market: inflationary and deflationary. Let’s take a brief look at them.
Tokens are divided into two types: Inflationary and deflationary. Maybe You will be aware of both of these terms, as inflationary tokens have been with us for a long time. If you don’t know about it, maybe you have heard of the term inflation, which highly affects our traditional currency if it goes up.
We are explaining inflation here, because if you get familiar with this term, you can easily understand what deflation is. As inflation increases, the value of our traditional currency decreases. In modern economics, the world has adopted the inflationary model.
Dollar is the perfect example (as most of you can relate with dollar), you could buy more stuff with $1 dollar back in 1990 compared to now. Dollar is on inflation rate of 2% every year. As inflation has affected in various ways to the tradionatiol currency, let’s go through Inflationary Tokens
Inflationary token models resemble the fiat inflationary model, but it is not a centralized entity so people consider these models more efficient, as it is decentralized. It is more transparent compared to Fiat currencies.
You can find different types or varieties in the Inflationary token model because many tokens have a limited number or fixed numbers of currency like bitcoin has 21 Million whereas some tokens have no limit, they can be created until the end of time. This creation of tokens causes devolution of that particular currency.
In the nutshell, Inflationary token model closely resembles fiat currency model, but it is more efficient because of its decentralized background, and the most important part is, it is studied over years and is one of the oldest models, so it is the most viable model.
Defi brought a huge change in the crypto space by bringing crypto tokens and smart contracts to the big picture of financial transactions, definitely you can say Defi had changed the picture of the financial world. Coming to the point, deflationary tokens are the ones who can outsmart Defi. Let us explain everything now.
Deflation is said to be the worst for any Fiat currency as it directly affects the health of companies and it indirectly discourages consumers to spend more. It gradually decreases income and increases unemployment. But it is extremely beneficial for cryptocurrencies. In the crypto space, this model will decrease the market supply, as the users participate in pursuits where they will reduce the coin’s supply.
To understand and learn more about it, let's understand its types. This module is subdivided in two types
Buy back and burn method is a more swift and simple method. Here the creator of the deflationary models buys a significant amount of tokens from the market or people the users like us. They get the token to a dead address, you can consider it as a wallet without a private key.
From this method, anyone can not get tokens as they are no longer accessible to anyone. But locking down the tokens increases the value of the tokens and if the demand is more than the supply, the market price will gradually increase.
This model is adapted by many companies and Binance is the perfect example for Buy back and burn. They burn their tokens every four month and the amount comes to nearly 1% of BNB. The main highlight of this model is to create scarcity of the tokens in the market.
Burning on transaction is the model which created the fuss among the users, as they never believed ethereum will turn into a deflationary token model. This model basically has a smart contract which burns the transaction fees.
Burning transaction fees means it burns a certain part of transaction fees. Wherever you go through a transaction process a particular amount of transaction fees is charged. So whenever a transaction is processed a portion of fees is burned automatically by a smart contract.
This removal of fee from the transaction makes the token deflationary the higher the number of transactions, the system will burn more fees, this states the model depends on the number of transactions done.
Market capitalization is one of the fundamental factors while buying any coin. It states or defines the value of the coin that has been mined. Simply you can say like for bitcoin, if 18.5 million coins have been mined the value is calculated by the number of mined coins into the price of each coin. This makes the market cap of bitcoin $815.81B.
Market cap is calculated using two different methodologies, the ideas are so different that people can debate on them for hours. The first method is Circulating Supply. This market cap method is widely used and the capitalization is calculated on the basis of coins mined until present time into the price of each coin in present time.
The second method is Fully diluted supply, this method has the same calculation system but different ideology, here people take the highest limit of coins to be mined, like for bitcoin it is 21 million, and that multiplies it with the price of each coin in present time.
Market capitalization is not a foolproof method to understand the growth of currency, yet it provides a better vision about the current condition of the coin in the market and some past information on it. With the help of this model you can easily invest in the coin with a huge market cap to get a more stable output, where coins with a low market cap can experience gradual high and low gains.
A launch of any cryptocurrency involves concepts of mining and allocation. There are two ways to go about when it comes to launching a new cryptocurrency: Fair launch and Pre-mined launch.
A fair launch is when no one is offered with any allocations for the coin. Instead, the whole community is invited to start mining the cryptocurrency after its launch. Fair launch was the only established way of launching and mining cryptocurrency which was first started with Bitcoin followed by Litecoin and Dogecoin.
On the other hand, Pre-mined launch is one in which partial or all of the tokens are mined before launch. The community is given allocations for crypto which they can purchase once it is launched. It is a way of raising funds for the project which is the most preferred way of launching a new cryptocurrency.
The pre-mined launch is something you should be careful about. As the heavy investors can stake most of the coins and sell immediately after its launch. Thus causing a sharp dump in the price. Additionally it results in a small circulating supply.
Summing up the article, I hope you understood every topic talked about! Many models are new to the market. It would be great if you do more research on a particular topic of interest and invest in it. This was the brief information on Tokenomics, and this topic is quite big. We tried to cover all the essential parts of it.
We will recommend you to not rush towards the newly found popularity of any project, you never know till what time it will last, your own research will be the best solution. If you need any help or have any queries related to any topic, feel free to comment down below, we’ll surely reach out to you. To read more of this article, stay tuned with us!
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