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Tokenomics: The rise of token economies
In 2018, I dared to ask the question on the inaugural issue of the Journal of the British Blockchain Association: Why do we need tokenomics?
I was one of the very first to note the importance of token economics, but also the potential that tokenomics brings to revolutionise multiple industries and society as a whole.
The innovations behind Ethereum gave rise to the creation of token economies that can align complex incentives. Then many other projects followed. From new Layer 1 solutions, like Solana and Avalanche, to Layer 2s, like Polygon and Optimism, and interoperability blockchains like PolkaDOT and Cosmos.
This has made tokenomics ever more important. What used to be a fringe interest in 2018, has now become a recognised area of expertise.
This is why I thought it would good to revisit the original article published in 2018. No-one questions the importance of tokenomcis. However, the answer to the question “why do we need tokenomics?”, is more complicated than it was four years ago. The rise of areas such as DeFi, NFTs and the metaverse has created a multitude of new opportunities, and challenges, which tokenomics as a field needs to solve.
Tokenomics in 2018
In the original article in 2018, I had identified three types of tokens:
- Equity tokens
- Security tokens
- Utility tokens
NFTs were primarily unheard of back then, and the majority of tokens belonged in the utility token category.
In the original article I had also voiced this opinion:
“The use of blockchain-based tokens allows the creation of new kinds of economies, completely
customisable and adaptive, while at the same time ensuring security and transparency without a central authority.
There are many possibilities, and in this article, we are going to see three different examples:
1) Improved incentivisation schemes for different agents of an ecosystem.
2) Automatic control of inflation.
3) Automatic reward/punishment of different actions within the ecosystem.
All these things are as true back then, as they are now. However, I think that this list needs to be further expanded and commented upon.
Tokenomics in 2022 and beyond
In terms of the first point (improved incentive mechanisms), I think that this is something proven beyond doubt. Tokenomics is an effective mechanism for aligning incentives in ways that traditional economic models cannot. What is surprising in the blockchain space is the multitude and constant discovery of new mechanisms to achieve these objectives. Here are some great examples:
- Automated market makers
- Borrowing/lending protocols
- Yield farming
In terms of inflation, that’s a very interesting point./ Something which I hadn’t foreseen back then is how of an important problem inflation would be in the current fiat system. It might be the case that
In addition to those three points, I would add some more.
A fourth point would be “tokenomics enables the unlocking of latent demand”. The best example of this are NFTs in the art world. I mention the art world, because the use of NFTs in areas such as land registries and car ownership is largely a technological improvement over the currently centralised state of the art.
The explosion of the total value of the NFT space, while partially funded by speculation, clearly demonstrated there is “latent demand”. The term latent demand, is referring to demand for a certain good or service which was unable to express itself unless the invention of a certain technological innovation.