Introduction
These days everyone has access to a working internet connection and a smartphone. The most used applications today are undoubtedly social media platforms. Everyone who owns a phone has made a social media account.
Only a decade ago, the internet was not as readily available or popular as today. After the success of the internet, the next phase of technological advance is blockchain and cryptocurrencies. At present, there are countless cryptocurrencies in the world.
What are Digital Currencies?
In the simplest words, digital currencies are a computerized representation of money or exchange of value. However, digital currencies can exist in many shapes and forms, and for an uninitiated person, it can be difficult to distinguish between them effectively. Social media influencers and celebrities are participating actively in introducing these digital currencies as an effective investment option.
However, there are thousands of variants in digital currencies these days. For a person who is looking to get started with the market, it is important to learn more about the different types first. Based on several factors like origin, use cases, and technical features, digital currencies can be divided into different classifications and categories.
Are Digital Currencies Different from Paper Money?
One of the most frequent questions people who are new to the concept of digital currency ask is if they are different from paper money or not. The answer is that in most cases, digital currencies are not a standard or stand-in for a fiat currency. In most countries, the right to print money and manage it is a reserve with the Central Bank.
Meanwhile, digital currencies are usually issued by sources that are not affiliated with or acknowledged by a Central Bank. Therefore, in most cases, a digital currency is not a replacement or equivalent for paper money or any other legal tender in the region. One of the main touting points of digital currencies is that it works toward breaking the monopolistic hold of the government over the monetary aspect of its citizens.
Importance of Digital Currencies
Another important question people ask is why they need to put their money into a digital currency issued by a private enterprise? There are many good reasons for doing so. Many cryptocurrencies are useful as a store of value. It means that when the value of the fiat currency in a country is falling, the citizens of the country can prevent the devaluation of their losses by investing in cryptocurrencies like Bitcoin and Ethereum.
Another important reason to invest in cryptocurrencies is the business model of the enterprise that is issuing the token. When a cryptocurrency project can provide valuable services to the consumers, the value of the said token is likely to increase, which can result in generating additional income for its holders. However, it is worth noting that every different digital currency has different growth potential, and it is crucial to learn in detail about their classification before putting any money into it.
How Can You Differentiate One Cryptocurrency from Another?
Cryptocurrencies have come a long way from their ancestral paper money counterpart. Cryptocurrencies are not present in the physical world like paper money or a real coin. The users who wish to hold, purchase, or sell cryptocurrencies need software like cryptocurrency exchanges, digital wallets, and other applications.
These applications allow the users to create an account that is protected by a seed phrase to protect their accounts from foreign invasion or hack attempts. These accounts allow users to purchase digital currencies from different sources and show them their account balance with the help of built-in data metrics.
Another way to distinguish between different types of digital currencies is to learn about their classification based on origin, utility, and functionalities.
What are Coins and Tokens?
When it comes to digital currencies, coins and tokens are a term that is often used interchangeably. However, in reality, both terminologies stand for different entities. Here is some insight into the basic point of distinction between coins and tokens:
Coins
Coins are the central and often solo cryptocurrency issued by a blockchain. Coins need to be mined, and they also share many common features with traditional money. In most cases, a coin also has an autonomous infrastructure. Like fiat currencies, coins are also used as a medium of exchange or for making payments.
An added feature of coins is their utility as an investment option that allows the digital currency traders and investors to accumulate them in hopes of earning a profit. Sometimes, coins are used as a monetary unit for keeping a record of goods and services.
Bitcoin is a good example of a coin. It is used as a payment option and is the standard product of its native blockchain. Many organizations and individuals use Bitcoin as a store of value and investment option. Bitcoin is often regarded as the first crypto coin. Therefore, all other coins in the digital currency space are called altcoins or alternative coins.
Tokens
In contrast to coins, tokens are additional cryptocurrencies that are issued by a blockchain with a main digital coin. A good example of a token can be seen on the Ethereum blockchain. The main coin of this blockchain network is Ether or ETH. However, there are thousands of dApps built on top of Ethereum that have issued their cryptocurrencies.
All these secondary cryptocurrencies issued by the dApps or decentralized applications on Ethereum can be classified as tokens. These tokens are not native to the main Ethereum blockchain like Ether. However, all of these tokens can exist on the Ethereum blockchain due to their ETC-20 standardization.
In contrast to coins, tokens often have multiple use cases. These tokens are used to grant a service access to the holders, provide voting rights, validate transactions, used as proof of ownership, or even offer staking options. At the same time, tokens can also operate as a medium of exchange and investment option like coins.
Different Types of Coins
There are countless types of coins available in the cryptocurrency sector. The developers are coming up with new ways to introduce innovation in the sector. However, by understanding the underlying role or the use case of a particular coin, it is possible to further divide them into different categories. Here are some of the most common types of coins:
- Meme Coins
- Stablecoins
- Privacy Coins
Meme Coins
One of the most popular types of coins in the market is the meme coin. Most meme coins are introduced as a satire or poking fun at the cryptocurrency sector. The design and the look of these meme coins are based on popular internet memes to invoke laughter among the people. However, digital currency investors have started to use them as a legitimate investment option.
It is worth mentioning that meme coins carry high-risk factors and often depend on speculative forces in the marketplace. Furthermore, most meme coins do not have a real use case, and they are subjected to frequent price volatility. The two most popular meme coins are Dogecoin and Shiba Inu token.
The word stablecoins suggest that the digital currency under question offers its users a stable or fixed price. In most cases, the total supply of the stablecoin is tied to a reserve or a fiat currency like USD. In recent years, stablecoins have gained more popularity among digital currency investors, and crypto exchanges make a point of listing them owing to the consumer demand.
The most useful feature of stablecoins is offering a medium for cryptocurrency users to make fiat currency exchanges. Typically, the users can’t convert their cryptocurrency reserves into fiat currencies directly. Therefore, investors opt to convert their crypto reserves into stablecoins during times of high volatility and maintain their exchange portfolios without dissolving their positions. Some examples of stablecoins are PAX, USDT, USDC, and others.
Privacy Coins
The term “Privacy Coin” suggests that these coins offer identity protection for their users. The main use case for the privacy coins is that they can keep the transaction history and the details of the users anonymous despite being online. With the rise of cryptocurrencies, many people are increasingly worried about their purchase history.
However, privacy coins provide an outlet for the digital currency users to mask their digital wallet ID, personal information of the sender or receiver, and their transaction particulars private. One of the most popular privacy coins is Monero or XMR token which can keep every transaction private by generating a new digital currency address for every transaction.
Different Types of Tokens
Just like coins, there are also a considerable number of tokens in the cryptocurrency sector. The first step toward understanding these tokens is to view them in the form of a classification based on their functionalities. Here are some of the most common types of tokens available in the crypto market:
- Utility Tokens
- Non-fungible Tokens or NFTs
- Governance Tokens
- Security Tokens
Utility Tokens
As the name shows, a utility token is a cryptocurrency that offers more functions. In most cases, these utility tokens are assigned a particular service that they can offer their users. The utility tokens can also sometimes offer value to their users in the form of a product or service.
Naturally, utility tokens often garner a high demand among cryptocurrency investors. The main reason behind their high demand is investors have more confidence in their stability on account of their active use cases. These tokens can grant perks like voting rights, special offer qualifiers, and even payoff transaction fees.
Filecoin is an example of a utility token that allows the networks to collect decentralized data. ADA is another utility token, as it allows users to stake the token in a liquidity pool to earn rewards and yield. There are some tokens like LUNA that allow the users to participate in the voting process for important decisions concerning its native blockchain.
Non-fungible Tokens or NFTs
Many people who have seen NFTs assume that they are merely artwork. However, technically they are also a unique representation of a token. The word non-fungible means that the entity in question cannot be replicated, deleted or edited without the consent of its owner.
An NFT makes a digital entity non-fungible by converting it into an absolute digital ledger commodity.
Therefore, when an NFT is minted, it can provide proof of ownership that cannot be altered. In addition, the NFT is also able to preserve the information about its original author.
Governance Tokens
Governance tokens are the crypto entities that are dedicated to governance functions on a particular network. Many blockchains are operated under the supervision of node validators who work to remove bugs, validate transactions, and even introduce upgrades on the blockchain.
However, most blockchain networks want to become decentralized and community-driven platforms. To make the transition, the blockchain issues governance tokens that grant voting right to create an equilibrium of power in the community. In this way, the investors who possess these governance tokens can participate in decision-making.
The community members who aspire to earn governance tokens can express their opinion about major changes like the addition of an upgrade or a new feature. MKR is one of the most popular governance tokens that are dedicated to voting and approving new protocols. It is worth noting that a governance token is also a utility token.
Security Tokens
Securities are the traditional way of investing money by way of acquiring the stock of a publically listed company. Security tokens are the digital currency form of stocks and equities operating on a blockchain. The investors can use these security tokens to represent their ownership percentage in options like trade commodities, enterprise equity, or even physical property.
These security tokens are a digital substitute for real stocks or bonds issued by a private organization. The legislator on the matter suggests that a security token grants the ownership rights of its issuer and allows a chance to earn profits in the form of dividends.
The financial regulatory authorities employ the Howey test to ascertain whether a cryptocurrency can qualify as a security or not. The topic of distinction between utility tokens and security tokens is somewhat controversial. Since security tokens are subject to heavy regulations from the government: therefore, they are not very popular.
What are CBDCs?
One type of cryptocurrency that the Central Bank is issuing is a CBDC or Central Bank Digital Currency. This type of cryptocurrency is issued by a centralized financial regulator like Federal Reserve and is considered a digital currency equivalent to the legal tender in the region. Some people believe that CBDCs are not a type of cryptocurrency.
However, since the CBDCs are also based on blockchain technology, they are highly centralized collateral of their decentralized counterparts. There are around 105 countries that are working on their independent CBDC project. To this end, nations like China are hoping to introduce their e-CNY project before the end of the current year.
When it comes to cryptocurrencies, there is more than one correct answer to unlock the perfect combination. When an investor is planning to start their journey, it is best to start small and take into consideration factors like economic conditions, reviews, market sentiment, and metrics beforehand.
Many investors prefer putting their money into coins since blockchains take a lot more time and technical quotient in comparison to dApps that issue tokens. Meanwhile, some people prefer placing their bets on utility tokens on account of their practical demand in the marketplace. However, it is important to understand that change is the only constant in the cryptocurrency market.
Conclusion
Cryptocurrencies are a disruptive technology that is made possible with the arrival of blockchain technology or universal digital ledgers. Most people have only heard about Bitcoin; however, there are more than 18 thousand cryptocurrencies in the world, as per investopedia.com. The two most basic types of cryptocurrencies are coins and tokens, which are primary and secondary issues of a blockchain.
There are also some other ways to distinguish between cryptocurrencies based on their consensus model. Some cryptocurrencies that need mining use PoW or Proof-of-Work, while others that have smart contracts capabilities can use PoS or Proof-of-Stake model. At present, the debate around the merits and demerits of PoW and PoS digital currencies is increasing in the crypto community.
At their base, cryptocurrencies like Bitcoin were introduced as an alternative to paper money, but it has gained a lot of traction as an investment option over the years. Both coins and tokens can offer great results for an investor, provided that they can make informed decisions and conduct sufficient research in advance.
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