Beginner’s guide to understanding and using utility tokens

Blockchain-based digital assets are all typically regarded as ‘cryptocurrencies’ but that’s not always correct. Utility tokens are created for specific purposes beyond just being used for payments. They are versatile resources, especially in advanced layer 1 blockchains like Ethereum (ETH), Polygon ($Pol) and Binance Coin (BNB). 

KEY TAKEAWAYS:

• Utility tokens are digital assets created for specific purposes while cryptocurrencies are made to serve as money. 
• Ethereum (ETH), Chainlink (LINK), and Binance Coin (BNB) are some of the most popular utility tokens available right now. 
• Various utility tokens have different functions. Some are used to pay for gas fees, serve as collateral, offer voting rights, and be functional entities in the network.
• Utility tokens are volatile assets with value subject to the laws of supply and demand.

What are utility tokens and their uses for investors and the blockchain ecosystem? The best way to answer these questions is to go through every detail about this asset. Here is Gmadom’s guide on what you need to know about utility tokens as a beginner to crypto:

Definition of a utility token

A utility token is a digital asset that serves as the core resource for almost every action in the blockchain to which it is native. It is the asset everyone needs to have to access services in that network like decentralised apps (dApps) and smart contracts. This is also a nigh-universal mode of payment within the same network like buying crypto from layer 2 blockchains.  

Clarifying the difference between cryptocurrency and utility token

To better understand what a utility token is, you must understand how it’s different from the other digital assets known as cryptocurrencies and stablecoins. It can function the same way as the other two but the fundamental difference keeps them from being mistaken for one another. 

Cryptocurrencies like  Bitcoin (BTC) are a mode of payment and store of value. For example, you can only use Bitcoin to pay for products and services as well as institutional properties. Utility tokens can also serve the same purposes but only if it’s valuable enough to be accepted. A prime example of this is ETH from Ethereum. 

ETH is used as a mode of payment and store of value worldwide, giving it the same popularity as Bitcoin. However, that is not its only function and its intended design is to be used as a resource for various dApps running on Ethereum. 

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Examples of crypto utility tokens

Crypto utility tokens come in many forms because they are built for different purposes. Some are niche uses, but many have gained strong investors' support. Here are a few popular examples that you should be familiar with:

Ethereum (ETH)

ETH is Ethereum’s universal asset and its layer 2 projects. That makes it swappable for every ERC-20 token within its landscape and its value grows as more projects are built using it. ETh is regarded as one of the best utility tokens because of Ethereum’s robust platform for hosting all kinds of DeFi projects. Many believe it to be the centre of Web 3.0 but it has rivals like Polygon ($Pol) and Cardano (ADA).

Chainlink (LINK)

Chainlink is a blockchain abstraction layer and LINK is an oracle created to allow cross-network interaction. This allows smart contracts to use data outside Ethereum like Bitcoin, the physical world, or the internet. It is an essential service to enable interoperability between networks and thereby increase what kinds of arrangements are possible for traders and developers. 

Binance Coin (BNB)

The existence of Binance Coin is centred around decentralised finance (DeFi). BNB is the leading utility token for loan collaterals and accessing closed sales. It is an all-in-one resource for using all kinds of features at the Binance exchange. 

Some examples include transaction fees, payment processing, and remittances for cryptocurrencies. BNB is also useful for trading with almost every asset, giving traders liquidity options that are not as practical for crypto-to-fiat conversions.

Applications for utility tokens as known today

The different uses for crypto utility tokens can vary depending on what layer 2 blockchain is created on the network where it is circulating. That means an asset is only as valuable and versatile as the projects that it is a part of. Many crypto utility tokens have unique uses based on how niche their blockchain is but some have common ones as well like the following:

To pay for gas fees on the blockchain

Everything that you do using the services of a blockchain has a cost. It has to be paid to execute any command you wish or perform transactions that need the network’s features. These charges are gas fees and you will pay them using the appropriate utility token.

Gas fees can be the network’s standard transaction fee that pays its stakeholders and/or miners for their trouble as validators. Other times, these can also be the amount a smart contract asks for to execute your issued command. The money also goes to validators once it’s completed. 

To offer means of collateral for loans and payment

Some networks, like Binance Chain, are designed to be finance platforms. Their primary services include money lending, trading, and optimal financing using blockchain technology. These services can accept all kinds of digital assets as collateral, even if they are from outside of the network. 

The point of money lending in crypto is to give you access to services on various platforms without fully liquidating or converting. To do so, you borrow money from a DeFi to use as a mode of payment but the collateral is any asset you have on hand like Bitcoin (BTC) or ETH. When you’re done with your business in that network, you may pay back your loans to recover the collateral offered.

To provide users leverage in governance in a decentralised environment

DeFi ecosystems don’t have big organisations to act as the central authority so governance is given to every active participant. This becomes essential when the community collectively updates the blockchain and lets everyone vote on its direction. 

Voting rights in this type of election are based on every user’s utility tokens. Some gain leverage based on how much they spend to support their vote. Some blockchains simply determine the value of a user’s vote based on how much they own during the election. Either way, having more utility tokens helps gain leverage in democratic discussions. 

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Some utility tokens have hyper-specific functions

Utility tokens (usually ERC-20 tokens) are designed to serve a specific purpose and nothing else. This makes them difficult to liquidate so they are not valued for their value in DeFi as a whole. 

Gaming assets

One example of a utility token with a niche use is gaming resources like the Smooth Love Potion (SLP). This is a token you can earn from completing tasks at the game Axie Infinity where it’s used to pay non-fungible tokens (NFT) creatures to breed new creatures. It’s an ability so valuable that SLP can be traded on various exchanges or swap pools. 

NFT collectables

NFTs also count as utility tokens but each one serves a unique purpose. It can be a uniquely minted ID showing your credentials as a VIP or a ticket you can redeem for a concert in the Metaverse. Likewise, NFTs can be game assets like Axies in Axie Infinity or NFT horses in ZED RUN which are creatures in their respective games. 

Oracle

Another great example of a utility token with a specific use is LINK. It is an oracle which are entities acting as receptors that feed real-world data into a smart contract. These utility tokens are not commonly used as a mode of payment in the same way as ETH or BNB are. Thus, they are typically used only in what they are designed for. 

Utility tokens can carry value and are subject to the law of supply and demands

Despite its clear difference from cryptocurrencies, a utility token is still regarded as a digital asset with value in the DeFi ecosystem. Similar to other assets, utility tokens are subject to the laws of supply and demand. That means its value can fluctuate with market trends. 

What’s exciting about utility tokens is their role in DeFi as a whole. Many industries will be relying on it not just for finance but also for data processing. These are crucial to Web 3.0, the Metaverse, and all industries that use blockchain technology. 

The future of the world’s economy will be reliant on utility tokens, making them more valuable. It’s an exciting prospect to look forward to if you’ve invested in assets like ETH which you can win when betting on various games at Gamdom. Hodl it now to capitalise on its impending growth.

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