Tokenomics: How to correctly evaluate virtual currencies [2023]

Tokenomics consists of the main factors that can determine the value of a crypto token.

The demand for cryptocurrencies has been increasing since the beginning of 2023. Finally, in 2022, most cryptocurrencies started to rise after negative market sentiment. Additionally, the global cryptocurrency market is worth over $1 trillion .

Bitcoin, the largest cryptocurrency, rose more than 40% in January 2023. Do you know how cryptocurrencies are valued? If the answer is no, don’t worry. We will discuss it in this article.

For cryptocurrencies, tokenomics adds value based on various parameters. But before we get into tokenomics, we need to understand cryptographic tokens.

What is a crypto token?

Crypto tokens are digital tokens that represent various assets such as real estate, securities, and even digital art. Additionally, tokens can also represent specific uses on specific blockchains.

The value of a token is determined by the value of the underlying asset or its use case. Similarly, as market demand for a token increases, its price may also increase.

Now that we understand tokens, let’s take a closer look at tokenomics.

What is tokenomics?

Tokenomics is a coined word that combines “token” and “economics”. Simply put, tokenomics is the economics of crypto tokens.

The first idea of ​​tokenomics was proposed by BF Skinner , a psychologist at Harvard University. In 1972, Skinner proposed exchanging tokens between participants for coffee or candy.

Tokenomics is based on incentive mechanisms that reward people for using blockchain networks. This system motivates people to participate in crypto projects with the potential for more rewards.

In the case of crypto projects, investors buy and hold tokens that they believe will yield profits in the future. The higher the demand for the token, the higher the value of the project and investment funds.

You may have an interesting question: “How can I check tokenomics?” Let’s get straight to the point!

How can I check the tokenomics of a crypto project?

Tokenomics is very useful in understanding the structure and design of cryptographic tokens. Here’s how to understand the tokenomics of a crypto project.

#1. read the white paper

Most cryptography projects publish whitepapers containing their technical specifications and main objectives. You can read the entire project here to understand the basics.

Additionally, some projects publish light papers, which are simplified versions of white papers. Therefore, you can read and understand light papers without using jargon.

Tokenomics comprises an important part of the white paper. You can read all the details related to the token and its features.

#2. Visit the price tracking website

Reading whitepapers and finding important tokenomics from them can be hectic and time-consuming. If you find yourself in a similar situation, visit a genuine price tracking website.

Access simple platforms like CoinMarketCap and CoinGecko to easily analyze a project’s tokenomics. These platforms provide all the relevant details at once.

Here, the most important advantage is that you can set your favorite fiat currency to evaluate the token’s tokenomics. What’s more, you don’t even need to log in to see your token details. Impressive, right?

Suppose you want to find the tokenomics for the MATIC token in the Polygon project. You can see real-time market capitalization and circulating supply.

Additionally, you can also find historical data since the token’s inception. You can also view Initial Coin Offering (ICO) details with just one click.

In short, it is important to check the main components of Tokenomics to understand the project more clearly.

Let’s take a look!

Main components of tokenomics

#1. Token supply

The main factors that affect the price of a token are its demand and supply. There are three types of token supply: Circulating supply, total supply, maximum supply.

• Circulating Supply: This number includes the total number of tokens currently circulating in the cryptocurrency market.
• Total Supply: The total supply of a token includes the circulating supply and the number of tokens that have been mined but are not available on the market. Furthermore, the total supply also excludes burned tokens.
• Maximum Supply: This supply consists of the maximum tokens that the project has coded to mine or issue.

Additionally, the token supply also helps in finding the cryptocurrency market cap or market capitalization of the token. Market capitalization is calculated by multiplying the token’s current price by its circulating supply.

Suppose a token is trading at $20 and its circulating supply is 10 million. In this case, the token market cap is $200 million.

Some tokens have a maximum supply, like the Cardano project’s ADA token. The maximum supply of ADA is 45 billion tokens. However, tokens from projects such as Shiba Inu, Polkadot, and Tether do not have a maximum supply.

#2. consensus mechanism

The consensus mechanism of cryptographic projects allows the blockchain network to verify and secure each transaction. Most projects use proof-of-work (PoW) or proof-of-stake (PoS) mechanisms.

PoW mechanisms reward miners after they complete the validation of a transaction. However, miners require high-end computing devices to perform the verification process.

Unlike PoW, proof-of-stake mechanisms allow network transactions to be verified by staking cryptographic tokens. Therefore, you will need to stake your tokens for a limited time to earn rewards.

PoW is gaining popularity these days as most of the new blockchain projects prefer eco-friendly mechanisms. Ethereum’s transition to a staking mechanism is one of the key milestones in the cryptocurrency industry.

#3. token utility

Token Utility is a real-world example of the use of cryptographic tokens. Developers of crypto projects choose the utility of their tokens based on the project’s mission.

Some tokens allow users to pay transaction fees, while others can be used to buy and sell NFTs. Additionally, if you have governance tokens, you can vote on key decision-making processes for your project.

Play-to-Earn game projects reward players with tokens. Players can use these tokens to purchase in-game items.

For fitness enthusiasts, there are mobile income projects that encourage users to exercise. Here, you receive utility tokens as rewards based on your physical activity.

Some projects focus on stablecoins. In this case, the token is pegged to a fiat currency such as the US dollar. Furthermore, the value of the token remains close to the value of the associated currency.

#4. Distribution of tokens

The majority of token supply is typically allocated between the founders and investors of a crypto project. Therefore, it is important to know the behavior of large holders.

Suppose a person or organization with a large holding sells all of its tokens. In that case, the price of the token could drop or even crash.

You can also check if there is a minimum lock-in period for investors or founders to sell their tokens. The longer this period, the lower the risk of a huge sale.

Additionally, the token distribution includes a percentage of the total tokens allocated to marketing. Projects also allocate a small percentage to team members. For example, the Chiliz crypto project allocates 5% of the total token supply to the team.

Initial Coin Offerings (ICOs) are one of the most preferred methods for cryptocurrency projects to distribute tokens to interested buyers. If you are interested in the vision of the project, you can participate in its ICO.

#5. token burn

Token burning means the removal of a large amount of tokens from the circulating supply. In this case, your tokens will be transferred to a wallet you cannot access.

Writing a token permanently removes it from existence. In most cases, project developers burn tokens to reduce the supply of a particular crypto token.

Binance Coin (BNB) is famous for its token burn process. As of this writing, the Binance project has burnt over 150,000 BNB tokens.

The importance of tokenomics in crypto investing

Tokenomics is one of the important factors that investors consider before purchasing crypto tokens. Tokenomics allows investors to:

#1. understand the risks

Tokenomics plays an important role in providing sufficient fundamental details related to the token. Investors can make a rough risk assessment based on these data.

If you decide that a crypto project’s tokens are risky, you can make investment decisions accordingly. Here you can avoid high-risk projects or allocate minimal amounts to balance your overall risk exposure.

#2. spot red flags

Crypto tokens are listed on a daily basis, making it difficult to spot malicious projects. Here, tokenomics can help find tokens with bad fundamentals.

For example, let’s say you find a token where the majority of circulation is done by a single founder or investor. In this case, it is better to avoid investing in that token. Here, a single token holder can cause the price of the token to collapse.

#3. Evaluate the value of your token

As explained earlier, tokenomics allows you to estimate the market capitalization of a crypto token. This value is useful for comparing the token with other tokens with similar market capitalization.

In most cases, the market capitalization of the most in-demand tokens will continue to rise over time. For example, Bitcoin tops the list with a market capitalization of over $442 billion.

#4. determine future possibilities

A well-structured tokenomics model allows investors to determine whether a cryptocurrency project can achieve its goals. You can also check the whitepaper roadmap to predict the growth of your project.

Assessing the potential value of your tokens will help you consider your investment decisions. Simply put, you can stay away from worthless crypto projects.

last word

The tokenomics of a crypto project involves a variety of valuable data. These data help you understand the value of your crypto tokens.

It is not easy to determine the likelihood of a token considering a single parameter. Therefore, it is best to combine all the parameters described in this article to increase the valuation of your token.

Ultimately, please do your own research (DYOR) before purchasing any crypto tokens.

You may also be interested in cryptocurrency index funds and ETFs.