With so many tokens out there, it can be complicated to know what distinguishes one from another. In this guide, we’ll walk through the various types of tokens in the market today and what they’re for. Let’s dig in.
Blockchain tokens refer to the native token of a blockchain—like Bitcoin’s BTC, Ethereum’s ETH, and Stacks’ STX. Blockchains are the foundational layer of Web3 architecture, and these tokens are a core function of that foundation.
The first blockchain token, Bitcoin, was created as “a purely peer-to-peer version of electronic cash”, and while these tokens can be used as payment, they are also much more than that. Blockchain tokens are integral to the running of the network itself: users pay transaction fees in blockchain tokens to send transactions over the network. Miners/stakers earn fees in blockchain tokens for their work to validate transactions and package them in blocks. In other words, blockchain tokens are the incentive structure that drives rational behavior and participation from the public.
This is why blockchain tokens are sometimes called “gas tokens”—they are the fuel that powers the network. Without them, there is no incentive for the network to process transactions. Most blockchain tokens are inflationary; every new block of transactions introduces new tokens to the network (hence the term “mining” of new blocks). These new mined tokens are an additional incentive for the network to process transactions.
However, there is often a cap on how many tokens will be minted, and those rewards diminish over time. For example, Bitcoin’s supply is capped at 21 million BTC. Once the cap is reached, the network depends on transaction fees to incentivize miners to continue to package new blocks.
While blockchain tokens were originally designed to function as digital money, they’ve struggled to gain mass adoption because of a fatal flaw—their prices are very volatile. Remember that the supply of blockchain tokens is often capped; a capped supply means the price will change to meet demand. That price volatility makes it hard to build a payment network around. Why would you pay with an asset that could double in value tomorrow? And why would a merchan accept an asset that could be worth half of its value in an hour? That’s why stablecoins were created.
Stablecoins are Web3 tokens that maintain a stable price and are usually pegged 1:1 to another asset, such as a fiat currency like the US dollar. Examples of stablecoins include USDT, USDC, and DAI. While the value of other tokens can fluctuate wildly, the value of stablecoins doesn’t change (1 USDT is always worth $1), hence the name “stable.”
Consumers and merchants can agree on the value of a good and pay the corresponding amount in a stablecoin. It’s fair for both parties, and that makes stablecoins perfect for payments, which has led to soaring adoption. After legacy tokens Bitcoin and Ethereum, the stablecoin USDT has the largest marketcap of any cryptocurrency and between June 2020 and June 2022, the combined market cap of the top 10 stablecoins soared from $10.81 billion to $152.19 billion.
80% of luxury goods and retail and grocery merchants are willing to accept crypto payments. Over 41% of people who used cryptocurrencies in online retail in 2022 said it was because the tokens were more stable than their local currency. The growing demand for stablecoins underscores the need for natively digital money as the global economy moves increasingly online. Interestingly, many governments worldwide see the value of stablecoins too. Many are now interested in creating their own through central bank digital currencies (CBDCs).
Utility tokens, or protocol tokens, are digital assets used to access specific services or products within a Web3 ecosystem. Examples of utility tokens include Brave’s BAT, Arweave’s AR, and Chainlink’s LINK.
Utility tokens became popular during the build-up to the 2017 ICO rush because founders mainly sold them to raise funds for new crypto projects, and people bought them as speculative assets—in reality, most of those were security tokens, not utility tokens (more on that below), but it did kickstart their entrance to market.
Utility tokens are how users access the utility of a particular app, whether to purchase its services or as a mechanism to unlock reward incentives. For instance, Brave uses BAT tokens to reward users for viewing ads and to pay creators for making content. Similarly, Arweave’s users buy data storage with AR tokens.
In other words, utility tokens are the medium of exchange between users and the app, and between different users on the app.
Governance tokens enable decentralized governance, allowing for the creation of networks run by the community rather than a centralized authority. These tokens give users voting rights to decide how a Web3 network or app runs and functions—such as what features should be prioritized, what protocol changes should be made, if any, and more.
Sometimes, governance tokens are combined with utility tokens (so the same token offers both functionality and voting rights), and in some apps and protocols, token holders can also delegate their voting rights to other users.
To illustrate the power of governance tokens, let’s take a look at Compound’s COMP and Aave’s AAVE tokens. Last month, AAVE holders voted on a proposal to add USDT to its Ethereum v3 Liquidity Pool. The proposal aimed to increase stablecoin diversity in the AAVE ecosystem, and the vote succeeded with a “Yae” vote from 88% of participants. Similarly, Compound users had a chance to vote on a proposal to resume minting cUSDC after the price destablized in the wake of the Silicon Valley Bank collapse. These types of decisions and more are determined by governance token holders.
Non-Fungible Tokens (NFTs)
An NFT is a one-of-a-kind digital asset that can be verified as the original. At the core of the NFT concept lies the idea of non-fungibility. Most other tokens are fungible, meaning that they are interchangeable (like fiat—a $1 bill can be swapped with any other $1 bill and the value is the same). In contrast, NFTs are unique: each asset is a 1 of 1 and can be verified on-chain.
The uniqueness of each NFT makes it possible to create digital scarcity and enables all kinds of use cases, ranging from art collections like Megapont to identity solutions like BNS (your_name.btc). These assets are liquid and can be traded just like physical goods or a currency, but you are able to verify their authenticity.
NFTs are redefining the idea of ownership and authenticity in the digital age. This novel approach to digital ownership is already accelerating and reaching mainstream adoption. The number of wallets holding NFTs on Ethereum soared more than 9,000% between January 2019 and January 2023.
Security tokens represent financial securities like stocks, bonds, and real estate. Unlike utility tokens, which are used to access services on a platform, security tokens offer investors ownership rights in a company. One of the clear differentiators between security tokens and the others listed here is that security tokens are required to comply with securities regulations, which impact their issuance and ability to trade.
As mentioned above, many ICOs (initial token offerings) from the 2017 bull run sold “utility tokens” to investors, but in fact were unregistered securities and closer to a security token all along (something the SEC has since gone and fined many companies for). Today, projects building in the security token space include tZERO, Securitize, and Polymath.
Security tokens can theoretically improve the efficiency and liquidity of traditional securities markets. By digitizing securities, we can reduce the need for intermediaries, streamline the trading process, and lower the barriers to investment opportunities by offering fractional ownership and lower issuing costs.
Privacy or anonymous coins are digital assets that enable users to hide their transactions. Blockchains by default make all transactions open to the public—anyone can see the sender, recipient, amount sent, and other metadata of a cryptocurrency transaction. This creates a need for solutions that can mask that data and provide better privacy and anonymity to users.
That’s where privacy coins come in. These tokens protect user identity and behavior by making it much more difficult, or even impossible, to know the originating wallet for a transaction, how much was sent, and who the recipient is. To do this, privacy tokens use a range of tactics, from Ring Signatures or stealth addresses, to batching transacstions and zero-knowledge proofs. Examples of privacy coins include Monero and Zcash.
The privacy created by these tokens aids financial freedom by preventing third parties from monitoring or tracking users’ transactions. Financial privacy also makes users less vulnerable to extortion or blackmail.
Soulbound tokens (SBTs) are non-transferrable digital assets tied to the owner’s identity. These unique tokens are similar to NFTs with the important distinction that they cannot be traded. Once an SBT is added to a particular address, it is tied to that address forever. These tokens can be used as digital proof of an achievement or as part of a reputation system.
Compared to other tokens listed in this article, SBTs are at a very early stage, and there aren’t many examples live in the market today. Originally an idea from Vitalik Buterin, the founder of Ethereum, he was inspired by a similar concept in World of Warcraft, which had items that can only be earned and cannot be bought from another player. Despite being in early R&D, it’s easy to envision applications for non-transferrable tokens, whether be it achievements in Web3 games or an ecosystem-wide credentials system.
Learn More About Web3 Development Beyond Web3 Tokens
Many Web3 projects need tokens to establish membership or as an incentive for building a thriving Web3 community. When building a Web3 project, choosing the right type of token is a critical decision for your product.
However, Web3 tokens are only one part of what’s involved in the development of Web3 apps. To start building, check out our recent guide to Web3 development. In this free guide, you’ll learn the basics of building a dApp, launching a testnet, and connecting your app to a blockchain.