Crypto for Beginners – The Real Use Cases of Cryptocurrencies
Cryptocurrencies are primarily used as a medium of exchange for their ecosystems, for governance, and to provide user rewards – not to replace fiat money.
In a prior post, I wrote about the four myths you should strike from your mind when thinking about crypto.
Myth #1 is that all cryptocurrencies are trying to replace fiat money, like the US dollar and the Euro, for buying things in the real world.
Myth #2 is that cryptocurrencies are only useful for speculation.
While these are often how crypto is being used today, they are not the primary functions that cryptocurrencies were designed for.
In this post, we’re going to dig into the fundamental utilities of most cryptocurrencies, which can be summarized into three categories:
- As a medium of exchange for their own blockchain ecosystem
- For community members to help govern the project
- To provide users with rebates and rewards on exchanges
NOTE: There are various names, such as “utility tokens”, “coins”, and “security tokens”, that represent different types of cryptocurrencies. The vast majority of cryptocurrencies are utility tokens, a term which we may use interchangeably with “cryptocurrencies” in this post. You can read more about the difference between utility and security tokens here.
Cryptocurrencies are a medium of exchange within blockchain ecosystems
As I mentioned in Myth #1, most cryptocurrencies aren’t trying to replace fiat money as a real-world medium of exchange. Rather, they are a medium of exchange within their own blockchain ecosystem.
Let’s take Filecoin as an example. Filecoin is an open-source, peer-to-peer cloud storage marketplace that allows anyone to store and retrieve data on the internet, with built-in economic incentives to ensure files are stored reliably over time. It’s essentially a peer-to-peer Dropbox or Amazon S3 on the blockchain.
Storage providers all around the world can dedicate their computer disk space to store users’ files. Users pay to store their files with storage providers (they can pay in $FIL, Filecoin’s utility token), and storage providers get rewarded in $FIL for storing these files.
As you can see, $FIL is the currency of the Filecoin ecosystem.
For a smart contract platform like Ethereum, you pay fees in $ETH for every transaction you execute, and the network’s validators (the equivalent of Filecoin’s storage providers) get paid in $ETH for approving these transactions.
For a metaverse platform like The Sandbox, the $SAND token is used to buy and sell virtual plots of land and other assets.
Other tokens facilitate tipping and other means of exchange.
These cryptocurrencies are rarely used to transact in the real world, but billions of dollars of these tokens change hands every day within their own ecosystems.
Cryptocurrencies can be used to govern a project
In the normal software world (often referred to as Web2), you are a user, and only a user, of tech products.
For example, if you use Apple, Google, or Amazon products, you have very little say in what products these companies develop, what improvements they make to their products and services, and what partnerships they should pursue to grow. You can own some stock in these companies, but Tim, Larry, and Jeff aren’t really going to listen to your suggestions.
In the blockchain world (Web3), owning a project’s token often gives you the right to help govern the protocol. You can propose product improvements, debate the pros and cons of strategies, vote on how the organization operates, and more. You have a true stake in and can have an outsized impact on the future of the project.
Let’s take Compound, a blockchain lending and borrowing protocol, as an example. You can read more about their governance process, but here’s the TL;DR:
- Community members can post improvement ideas to Compound’s discussion forum for debate.
- Once generally agreed upon, these proposals then move to a formal vote, where holders of $COMP (the Compound utility token), can either directly vote for or against the proposal, or delegate their $COMP to others to vote on their behalf.
- If the vote passes, the proposal is executed after a 2-day timelock. If the vote does not pass, the proposal is canceled.
Ownership of a project’s token represents real influence over the blockchain protocol’s future. That’s a powerful benefit and a huge change in how organizations operate now and in the future.
You can receive rewards from exchanges for holding their cryptocurrency
Many centralized exchanges – the apps you can use to trade one cryptocurrency for others – offer utility tokens to reward their users.
Binance, Crypto.com, FTX, and many other centralized exchanges offer these “exchange tokens” to provide a number of benefits.
One of these benefits is fee discounts for traders. Users pay fees for each trade, and these fees are reduced if they are paid in the exchange’s token (instead of with fiat currency).
Additionally, exchange tokens are used as an incentive to increase liquidity on their platforms by rewarding users for high trading volumes or staking tokens.
Users may be able to access other benefits like exclusive access to events and promotions as well.
If you own the tokens of the exchanges you use frequently, you can save a lot in trading fees and access valuable rewards.
As you can see, the core uses of cryptocurrencies have little to do with real-world commerce and speculation.
Rather, they are used primarily as mediums of exchange for their own ecosystems, project governance, and user rewards.
Owning the utility tokens of protocols and applications you frequently use can provide you with long-lasting influence and benefits.
I hope this post helped clear up the primary functions of cryptocurrencies.
What are your favorite utility tokens? Did I miss any other use cases of cryptocurrencies?
I’d love to hear from you in the comments or in the Twitter thread below!