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How to Design Token Economy?

Imagine being a chieftain of an ancient tribe where the concept of money doesn’t exist. There are no banks, which means we cannot loan money or use it to buy things. If you want to obtain something, you need to do it by exchanging goods and services. 

Sounds like something we solved more than three millennia ago, doesn’t it? Historically speaking, money has made things a lot easier for us. The brightest minds worked for hundreds of years to perfect how economies around the world work. 

Although still flawed, the modern-day economy works in most countries’ favor, but what if you had to create a micro-economy for your business? Enter tokens.

Running a successful decentralized business depends a lot on creating a healthy token economy. Decentralized applications (dapps) aren’t compatible with using fiat cash for in-app transactions, so it’s necessary to create a token of your own that your customers will use as means of exchange. You need to be the one who’ll facilitate transactions and make everyone happy with how your ecosystem works.

Before we explain anything further, let’s first focus on the very essence of blockchain ecosystems — tokens.  

What Is a Token?

In the simplest way possible, tokens are digital currencies that are part of your business’ ecosystem. Since your customers cannot rely on fiat cash or other cryptocurrencies, you need to create a currency used in your dapp.

You can define tokens as digital assets or even as tools that provide access rights to your dapp, network, or protocol. They are made by blockchain architects and built with all the principles used to create Bitcoin and other popular cryptocurrencies. Perhaps the most famous example of a token is Ether, part of the Ethereum network that’s used as “fuel” for the network. Many other modern blockchain-based businesses have tokens that can even be traded for other cryptocurrencies.

There are several ways to make your token part of your business, which leads us to the next section — token classification.

Token Classification

There are five “dimensions” through which tokens can be classified: technical layer, purpose, underlying value, utility, and legal status.

Technical Layer Classification

  • Blockchain-native tokens – These tokens are mainly implemented on blockchain’s protocol level and are essential for the chain to operate properly. They are used for the chain’s incentive mechanism and are necessary for the consensus mechanism to work. An example of a blockchain-native token is Bitcoin (BTC).
  • Non-native protocol tokens – Blockchain architects implement these tokens in crypto-economic protocols on top of a blockchain. They also play an important role in the consensus mechanism of a protocol and are part of the node incentive mechanism. An example of this token type is Augur.
  • dApp tokens – These tokens are part of a blockchain, but they’re supposed to serve the application layer. In other words, developers integrate them into the dapp, and they are part of the incentive mechanism for nodes and users of the dapp. Safecoin would be an example of a dapp token.

Purpose Classification

  • Cryptocurrencies – A token intended to be a currency above anything else. It’s “pure” digital money that aims to facilitate exchange on a global level. Most of the popular tokens you know about are cryptocurrencies, including Bitcoin, Zcash, and more.
  • Network tokens – This token type is mainly intended to be used within a system such as a network or application. It’s not intended to become a cryptocurrency. Tokens such as Blockstack are network tokens.
  • Investment tokens – This type of tokens is used to invest in the entity issuing the token. Sometimes, these are also used for investing in underlying assets. They can be compared to shares that you buy in stock markets, meaning that token owners can expect their value to rise if the issuing entity becomes successful. DigixDAO is a type of investment token.

Underlying Value Classification

  • Asset-backed tokens – There’s an underlying asset that dictates the value of this token type. These are particularly handy when trading using IOUs, as you don’t have to move the underlying asset. Tether is an excellent example of an asset-backed token.
  • Network value tokens – This token’s value is tied to the value of a network and its overall development. The value of this token rises if the network succeeds in generating value in itself. For example, if the network charges fees for exchanges and many exchanges take place, this will increase the token value. In other words, network participants and their interactions have a massive effect on the value. Ether is one such token.
  • Share-like tokens – These are basically investment tokens, as their properties are quite similar to shares that one can buy on the stock market. The token issuer promises to those who purchase share-like tokens that they will get their cut if the issuer becomes successful and makes a profit. Digix DAO is an example of this type of token.

Utility Classification

  • Usage tokens – Owners of usage tokens usually have access to digital services related to them. Bitcoin is an example of a usage token.
  • Work tokens – Those who own a work token have the right to contribute to the system or platform the token is tied to. In other words, the primary precondition for becoming a system contributor is to own a token. Augur is a work token. 
  • Hybrid tokens – These are both usage and work tokens, meaning that owners can contribute to the system and have access to its functionalities. Ether is a hybrid.

Classification According to Legal Status of Tokens

There’s no single way to describe the legal status of tokens, as it may differ depending on the country you’re in. Nevertheless, here’s the most common division:

  • Utility tokens – Owners of these tokens can access a utility in a network or dapp that’s clearly defined. Utility tokens are closely related to a single system and are not usually considered cryptocurrencies. Moreover, utility tokens often don’t have security-like features. Gnosis is a utility token.
  • Security tokens – Owners of security tokens are usually considered owners of the business issuing the tokens. In other words, these tokens are just like securities, meaning owners can vote on decisions the issuing entity makes and get their share of profits. Bitwala uses security tokens.
  • Cryptocurrencies – “Pure” money. As described above. 

Creating Healthy Token Economy

The most important part of every token economy is to allow people to get some value out of it so that they have a reason to become part of your business’ ecosystem.

The value is often related to the number of participants in your economy, so if there are not enough people taking part, you’ll have to compensate for that by using investors’ money.

As soon as you reach the critical mass, you can stop spending money since the participants will start producing value. Charging small fees can also bring more value to you, but you have to be careful about other fee-free ecosystems.

Most importantly, your goal is to create an ecosystem that’s both decentralized and automated, so that your involvement is minimal. In other words, you should only supervise the economy – it should run on its own, which will make it truly decentralized as well.

To achieve all of this, you need to be careful when creating smart contracts and consider every possibility when determining what your contracts should have. 

Conclusion

Imagine being a chieftain of an ancient tribe, and someone comes up with the idea of money. What would your next step be? Wise tribe members would help you determine the properties of money and the best possible way to introduce it to your people. You’d have to explain to them why it’s better to use money instead of exchanging goods and services. Good luck with that!

The point is — once you understand how tokens work and how they create ecosystems, you need to attract new users and explain to them why having an ecosystem with tokens can positively affect their overall experience of using your dapp.

If you can do it as a chieftain, you’ll be able to do it in this day and age, too, when everyone knows what money is. As you’re dealing with the philosophical part of that, you’ll need someone to set the technical foundation for creating a thriving ecosystem, and that’s where MVP Workshop comes in. If you have any questions about designing a token economy for your business, feel free to reach out!

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