Blockchain Token Economics

Token economics essentially refers to the study, design, and implementation of economic systems based on blockchain technology. Every blockchain platform and blockchain application has its own token economic model.

The subject of token economics focuses on the actual, new economic models that are created through cryptocurrencies. This excludes tokens that are solely used for fundraising and play no significant role in its underlying platform as they do not pose new models.

There is one assumption on which nearly all token economic models are based: people act upon incentives. This is based on incentive theory, a human behavioral theory that assumes behavior is motivated by a desire for reinforcement or incentives. In token economics, these incentives are the tokens themselves and they are used to motivate network members to behave to the benefit of the network.

 

Blockchain Token — A crypto economic operating system

While Bitcoin was originally designed with the purpose to create P2P money without traditional banks, the underlying blockchain technology that makes it happen has proven to be a gateway to a new type of economy (crypto economy), and a new type of distributed governance (crypto governance). Please note that the terms crypto economy and crypto governance are new, not fully defined yet, highly controversial and somewhat complementary or overlapping. In a follow-up blog post will go into the details of those terms. For now, I would like to stick to analyzing the functionalities of Bitcoin:

  • Public & Permissionless Payment Network (P2P Network)

Bitcoin is a P2P payment network between a geographically disparate group of stakeholders who do not know and trust each other, without the necessity of using centralized institutions like banks, credit card companies, PayPal, MoneyGram and the like. It is permissionless, which means that anyone can become part of the distributed network. Either by creating a Bitcoin wallet (Bitcoin account number) and starting to send and receive Bitcoin. Or by becoming a Bitcoin miner, by downloading the protocol and verifying transactions thus potentially mining Bitcoin, which equals earning money.

  • Bookkeeping Tool(Asset Management)

Furthermore, Bitcoin is a distributed book-keeping tool that keeps track of who owns what, including all transactions ever made, in a public and transparent way. The role of cryptography is to guarantee transparency while maintaining the privacy of individuals. This distributed ledger is a new form of transferring value in a public and transparent way, circumventing the need for data silos.

  • Crypto Economic Governance Tool (Governance Layer)

The P2P network of stakeholders, as well as all assets, are governed by the rule set defined in the protocol of the Bitcoin blockchain. Monetary policy is also pre-defined in the protocol. Transactions are automatically enforced if and when the majority of the network agrees that a transaction is true. Crypto economic mechanism design incentivizes all stakeholders of the network to verify transactions according to pre-defined rules, by performing computational work — proof of work — that allows them to mine Bitcoin — create new Bitcoin. This mechanism design can be altered in a protocol update, in the form of a soft fork or hard fork. The crypto economic incentive mechanisms including the monetary policy of Bitcoin can be altered by majority consensus of network participants. The conditions of such software upgrade are partly defined in the protocol, partly unclear.

  • Bitcoin is mined to keep the network safe(Security Function)

Some people who don’t seem to fully grasp how the Bitcoin blockchain works, claim that Bitcoin has no function or value. This is not true. Bitcoin is, in fact, the output of a productive function, governed by crypto economic incentive mechanisms, that makes sure that distributed network of actors who do not know and trust each other validate transactions according to the predefined rules, in an attack resistant, fault tolerant and collusion resistant way. The act of mining bitcoin keeps the network safe!

  • Bitcoin needed to pay for transactions (Commodity/Utility)

In order to send a transaction from Bitcoin wallet A to Bitcoin wallet B, you need to pay transaction fees in the form of Bitcoin tokens, which will be rewarded to the miner who mined the block where your transactions were included. This means that the token has a utility function within the Bitcoin network. Bitcoin is the native commodity of the Bitcoin network.

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