What is Tokenomics? - Reading time: about 4 minutes
Derived from a blend of two words - tokens and economics - along with the meanings of both elements, tokenomics in the blockchain context encompasses everything that makes the token of a particular blockchain project to be valuable in the market.
Tokens are digital assets or privately-issued digital currencies that are coded into the smart contract of a project that runs on another cryptocurrency’s blockchain. They are valued on the basis of their usefulness (or utility) hence considered a vital part of the project’s ecosystem. Tokens come with set terms and rules that are programmed into a project’s system in line with its outlined business model.
Economics, as a concept, follows a general understanding of focusing on the production, distribution, and consumption of given goods or services to optimize their market attractiveness. Merging economics in the context of a token, as a digital unit representing a blockchain-backed asset, completes a fundamental component that now makes understanding a given blockchain project’s proposition easier as well as its corresponding value addition.
A simplified tokenomics shows how a project’s token is linked to utility (or its usefulness).
In This Article |
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The Prominence of Tokenomics
The term ‘tokenomics’ started gaining prominence with the advent of the blockchain-based crowdfunding mechanism known as initial coin offering (ICO). Many project teams used ICOs to solicit funds for the innovative ideas they introduced to the blockchain community.
To date, the tokenomics of projects’ assets are visibly seen as an important part of whitepapers along with other relevant information on how the proposed projects would function. As a guide that also includes the overall unique selling proposition a project offers, whitepapers serve the purpose of a pitch deck that summarizes a business plan and startup vision for potential investors to consider as they make their decision to participate in a funding round.
The need to scrutinize the tokenomics of a project - as well as other details - started gaining the community’s interest in the buildup to and after the 2017 ‘ICO Craze’ which saw more token-based projects birthed, many of which did not live up to expectations.
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Significance of tokenomics
Tokenomics design as a guide
Teams see tokenomics as essential to the value their project is adding to their space. Project creators are able to make informed strategic decisions about a token design process as well as set rules and terms for tokens to ensure that stakeholders align themselves with the project’s goal. It helps to refine the token creation and development process based on underlying intentions and with a projected outcome in mind.
- Tokenomics brings forward innovative ideas
Tokenomics helps projects in their aim to develop platforms with valuable strategies for the crypto community. For instance, in the DeFi space where protocols are still evolving, tokenomics helps differentiate a project offering, put their proposition in the industry perspective, and even to lay out a realistic roadmap amongst other things.
- Tokenomics helps attract would-be investors
Tokenomics highlights the main role played by a token within the ecosystem. This makes its inclusion in a whitepaper become very significant to predetermine a project’s growth rate, sustainability, and other metrics that an investor may consider useful for its overall success.
- Provides investors with ample information for decision-making
Tokenomics is dependent on many parameters and variables. They include common positive signals like the economic mechanism of a project’s token supply and demand, its value creation capabilities, its incentives, and links to its utility. These factors control a token’s price, usually the most important consideration for an investor.
Some of the variables that project teams or developers adjust that affect tokenomics include staking for rewards based on total value locked (TVL) which deliberately puts pressure on the token’s supply (depending on the system); yields offered by DeFi platforms to attract investors; and token burns which is a permanent removal of tokens from circulation to reduce its overall circulation.
In other instances, some teams allocate tokens for specific reasons along with vesting periods. This tends to help control the distribution of tokens by attaching a timeframe for the tokens to be sold to reduce the impact of their sale on the total circulating supply and the token’s price.
With the bear market helping to flesh out several immature projects in the blockchain sector, tokenomics offer investors the opportunity to be able to study and determine whether they’ll invest in a project. Consequently, blockchain firms depend on their solid business use cases and sound tokenomics to attract investment.
- Tokenomics helps projects create more liquidity for tokens
While many projects have launched unique decentralized projects in recent years, some of them struggle to achieve consistent project growth – in part because of low liquidity which makes their tokens unappealing to investors. Liquidity means the swift and efficient way to convert crypto assets to cash. A well-designed tokenomics helps to outline the operational process of a project including coming up with ways or making provisions for liquidity which is essential to keep the circulating token fluid in the market.
