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May 20, 2024

How to Understand the Value of Crypto Tokens?

In Brief

The author provides practical insights and strategic vision in decentralized finance, focusing on understanding and classifying token value through experience in analyzing, designing, and prototyping tokenized economic systems.

Unanswered Question: Why Do Cryptos Have Value?

Tokens are digital assets that ensure the operation of decentralized networks, protocols, dApps, DAOs, and communities. Coinmarketcap currently tracks more than 20,000 tokens, and the number is growing steadily. Only 10,000 brand-new tokens are created per week on Solana.

Even considering that most newly created tokens are just memecoins or other assets without strong economic foundations behind them, the number of assets worth long-term attention is in the thousands. The question that arises is how to navigate this tokens’ landscape and what is more important—what is the particular value behind every single one?

Despite the classification frameworks available, the value of tokens remains a question that remains unanswered. That’s why I got the idea to build an approach for token classification and understanding economic mechanisms behind them. How exactly did I come up with this idea? 

I have been involved in crypto since 2013 as an enthusiast and miner of Litecoins and other coins available for GPU mining. I’ve started to be active in the technological space, especially after the 2017 ICO boom, and I constantly monitored and explored new projects and tokens coming to the market. 

As I have a background in chemistry, I can admit that chemistry is primarily a “classification science”. This approach could possibly be used for the crypto and tokens evaluation as well. I would like to share this valuable information with you. However, during my research I’ve noticed some problems that should be addressed.

Existing information and publications on the topic cover mainly token distribution (how tokens were/will be distributed) and legal status with less focus on intrinsic economic value, which is critically important.

While having practical insights and a strategic vision in decentralized finance, I would like to deepen this topic and talk more about token value. In this series of publications, I will describe the approach to understanding and classifying the intrinsic economic value of tokens for those who want to broaden their expertise. With my experience in analyzing, designing, and prototyping tokenized economic systems and DeFi products, I will provide you with more visibility into the fundamental understanding of the value behind tokens.

The main topics that I would like to cover in these blog posts:

  • Value creation and capturing in decentralized protocols;
  • Structure of the captured value;
  • Economic mechanisms behind value capturing.

From Zero to One: Value Creation and Capturing in Token Ecosystems

Value creation

In decentralized systems/communities, value is created not by one centralized entity but by coordinating agents involved in the network. It is true not only for blockchain networks but also for Defi projects, DAOs, NFT-powered communities, metaverse projects, and others.

Value capturing

The native digital asset (a token), integrated into the decentralized system, captures a share of the value created during system operation. The token is a key that unlocks a share of the value created in the network for its owner. It is done through utility functions associated with the token.

Let’s look at a simple example of a DEX. Decentralized exchanges offer the exchange of assets to end users, which is the primary value offered to the market. Considering a DEX without a native token (like Uniswap in mid-2020), the following groups of agents participate in the protocol: new pool creators, liquidity providers, and traders:

  • Each new pool created increases the number of assets offered by a DEX for trading and also increases the number of possible swap routes within the DEX;
  • Any liquidity added to any pool increases the overall liquidity of the DEX, making the DEX more attractive to traders (more liquidity equals less slippage);
  • Each trade executed by traders through DEX results in swap fees, making liquidity provision more attractive to LPs.

Thus, the coordination of the actions of pool creators, liquidity providers, and traders within a DEX creates value that DEX provides to the market. This value is available to:

  • Agents operating within the system (value contributors);
  • Direct users of DEX;
  • Indirect users of DEX, for example, data analysts who aren’t using this DEX themselves;
  • Owners and users of the DEX native token.

To understand the value of the DEX token, we need to know how its owners can share in the value created during DEX operations. For example, a token’s governance function can be a “key” to capturing the value created.

The governance function provides the unique ability to manage DEX operations, deployment strategy, and sometimes treasury allocations. Is it valuable or not? It depends on the DEX metrics such as TVL, user base, and influence on the DeFi market.  Adding protocol fee sharing will significantly enhance token value capture, as has happened with the Uniswap (UNI) token.

Answering this question requires understanding the basic set of typical tokens’ utility functions and their value-capturing abilities. I will cover them in the next blog posts, making complex concepts understandable and actionable.

Disclaimer

In line with the Trust Project guidelines, please note that the information provided on this page is not intended to be and should not be interpreted as legal, tax, investment, financial, or any other form of advice. It is important to only invest what you can afford to lose and to seek independent financial advice if you have any doubts. For further information, we suggest referring to the terms and conditions as well as the help and support pages provided by the issuer or advertiser. MetaversePost is committed to accurate, unbiased reporting, but market conditions are subject to change without notice.

About The Author

Ph.D., Head of Research in the PowerPool protocol, he's a researcher focused on the intersection of blockchain and economics. During his Web3 journey, Vasily has analyzed, designed, and prototyped tokenized economic systems and Defi products. He is an early member of the Token Engineering Community. Vasily's token engineering research focuses on value-creation and capturing processes in tokenized economic systems. This research led to the creation of the token classification framework, which is based on analyzing tokens' value origins and mechanisms of their manifestation. The results of this research formed the basis of the TE Value Capturing Fundamentals course for TE Academy and will be published in an academic journal.

More articles
Sumanov Vasily
Sumanov Vasily

Ph.D., Head of Research in the PowerPool protocol, he's a researcher focused on the intersection of blockchain and economics. During his Web3 journey, Vasily has analyzed, designed, and prototyped tokenized economic systems and Defi products. He is an early member of the Token Engineering Community. Vasily's token engineering research focuses on value-creation and capturing processes in tokenized economic systems. This research led to the creation of the token classification framework, which is based on analyzing tokens' value origins and mechanisms of their manifestation. The results of this research formed the basis of the TE Value Capturing Fundamentals course for TE Academy and will be published in an academic journal.

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