Cryptography Basics: Native and Non-Native Tokens
Bitcoin, blockchain, and cryptocurrency are words most people have at least heard of since the industry exploded into public consciousness over the past year and a half.
In this series of articles, we’ll dive into the basics of the industry, providing an introduction to cryptography that will give you a solid grounding in the technology and a lexicon for its terminology – cryptographers should never be allowed to name everything that the public will possibly need to know.
In short, it will be enough to understand what people are talking about and decide if you want to know more.
Learn more about PYMNTS Crypto Basics Series:
What is a Blockchain and how does it work?
What is a crypto wallet and how to avoid losing a quarter of a billion dollars?
How to lose your crypto without getting hacked
Is Bitcoin really anonymous and how can law enforcement track it?
What is a consensus mechanism and why is it destroying the planet?
What is mining and why is bitcoin activity not working
The Tokenomics of Crypto
What is a permissioned blockchain and how does centralized decentralization work?
PYMNTS Crypto Basics Series: What is a Satoshi? Bitcoin’s Million Dollar ‘Penny’
So what is a native token and why do you care?
Well, for one thing, you might need both a native token and a non-native token to transact on a decentralized blockchain application, or DApp.
From the start, native and non-native tokens are types of cryptocurrency used to do anything – really, do anything – in crypto.
A native token is the base token of a blockchain and is often needed for transaction fees.
Ethereum’s native token is ether and Cardano’s native token is ada – named after Ada Lovelace, widely considered the world’s first female computer programmer – but overall the cryptocurrency bears the same name. than its blockchain. Thus, the native token of the Bitcoin blockchain is bitcoin, that of Stellar is stellar, etc.
For this reason, people sometimes refer to the token by its exchange symbol for clarity: bitcoin is BTC, ether is ETH, and Stellar is XLM.
A non-native token, on the other hand, is a cryptocurrency created by a project for use only within its own borders. They are usually either the only token accepted for payment in the DApp or come with some sort of perks, as discussed below. They can have many uses within that DApp’s ecosystem.
Moreover, they are built according to the technical specifications and standards of the native token of the blockchain on which the project is built. It is actually a white label cryptocurrency.
Become a native
Let’s start with Ether, as it is the standard for cryptocurrency tokens, given that many more DApps are built on Ethereum than on any other blockchain.
Ether tokens can be used in three basic ways: to make payments through Ethereum, to pay all transaction fees on Ethereum, and as currency in certain DApps built on Ethereum.
The first use is quite simple: if you want to buy a non-fungible token (NFT), for example, most markets price them in ether. Or, if you want to enter into a smart contract where Fred will sell his car to Betty for $5,000, Betty will deposit (“lock”) that amount in ETH into the contract. When conditions are met – such as handing over the keys – the ether will automatically be sent to Fred’s wallet.
Read more: PYMNTS DeFi series: what is a smart contract?
The second use is transaction fees. For any transaction to be written on the Ethereum blockchain, a fee is required, with higher fees bringing higher priority.
Each ether token is split into wei, similar to dollars and cents (except each ETH can be split into well over 100 parts). Transaction fees are charged in wei.
Third, some DApps use ether as their currency rather than creating their own non-native token. It’s easier because you don’t have to manage a cryptocurrency, but you can’t create your own either. Many decentralized finance (DeFi) projects are funded – and many developers and investors paid – with a portion of the non-native tokens created for this DApp project.
Terminology alert: ERC-20 token
Any non-native token built on Ethereum is built to standards set by Ethereum developers that allow the token to work in smart contracts running on the blockchain. By far the most common is ERC-20 (or ERC20), which is basically a standard white-label ether token. There are many more, usually for niche purposes. The only one you might encounter is ERC-721, the standard for NFT tokens.
As mentioned above, one of the main reasons for using a non-native token is to leverage a DApp. Many cryptocurrency projects describe the “tokenomics” of their non-native currency by specifying, for example, that 40% will be sold, 40% will be set aside to fund ongoing marketing and development of the DApp, and 20 % will go to the developers.
If the project takes off and the value of the token increases, backers get a big payout. Basically, it’s the crypto version of a startup’s stock options.
While non-native tokens can be used for almost anything in a DApp, transaction fees – called “gas” fees in Ethereum – must be paid in ETH (denominated in wei).
Let’s look at some non-native tokens to see how they are used.
A simple one is LINK, the non-native token used on Chainlink, an oracle DApp that provides information feeds that can be used to monetize smart contracts.
In the example linked below, a blockchain-based insurance provider offers farmers crop insurance that pays out under set conditions – for example, a frost in the wrong season – based on a reliable source of weather reports, rather than sending an expert to see the crops have been damaged.
See also: Smart contracts are weather-aware with AccuWeather on the Blockchain
LINK tokens are used to pay for access to these news feeds.
A less straightforward platform is the decentralized financial lending platform Aave, which uses the non-native AAVE token built on Ethereum.
At Aave, investors deposit various cryptocurrencies into loan pools which borrowers can tap into for loans by posting collateral.
Although a number of different cryptocurrencies can be used in loan pools and as collateral, there are advantages to using AAVE. For example, setting up AAVE as collateral allows borrowers to reduce fees (which are separate from interest rates) and allows them to take out larger loans for the same value as collateral.
AAVE is also a governance token, giving holders a vote on any changes to the project controlled by the Decentralized Autonomous Organization (DAO). This can range from code updates to fee rates.
In fact, Aave has a second non-native token, called aToken, which is given to lenders who lock tokens in borrowing pools as a reward beyond fees and interest.
Then there is USD Coin, or USDC, the stablecoin issued by Circle. It was first issued on the Ethereum blockchain, but there are now non-native USDC tokens issued on a number of different blockchains, including Ethereum, Solana, Stellar, and Algorand.
They are all pegged to the dollar by the same US dollar reserve fund, but Ethereum USDC is only usable on Ethereum, while Solana USDC is for transactions with projects on that blockchain. Transaction fees are in the native token of the appropriate blockchain – ETH and SOL in this example.
It should be noted that Ethereum has made it very easy to create a non-native cryptocurrency based on ERC-20 tokens, which allows DApp developers to easily give their projects their own currency without much expertise or expense. .
This is a big part of why there are so many cryptocurrencies – 18,000 is a beaten number these days. You don’t need to create a blockchain to create your own, which has marketing benefits on top of everything else.