Understanding Fungible & Non-Fungible tokens
In our blog on Digital Objects and Blockchain, we became aware about the concept of Digital Objects and how they can be encapsulated within Blockchain. These digital objects are created on Blockchain in the form of tokens. Let us first understand what a token is.
A token is a thing that represents the digital object on Blockchain. For example, if a physical object like “Gold” is converted to be represented into its digital format; the digital format of this object is represented by “tokens” on Blockchain. Now this was an example of Tokens that represent an “object” , a “value” or an “asset”. But the purpose of Tokens is not restricted to only these. A token can also represent something like “feeling”, “fact” , “quality”, “utility” etc. Tokens can represent anything for that matter. Here’s an example of how tokens represent Voting rights.
In the world of crypto, initially tokens represented the cryptocurrency like Bitcoin or Ethereum. Users generally owned tokens in their crypto wallets that represented the digital currency. These tokens could be exchanged with other tokens easily and soon became a medium of payment, exchange etc across the world. Soon after, tokens representing digital objects came into existence. This popped up the theory of Fungible and Non-Fungible tokens.
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Fungible Tokens are a type of cryptographic tokens that are identical and similar in nature and functionality. Two different fungible tokens serve the same purpose even when they are divided or exchanged with other fungible tokens of the same type. Fiat currencies or cryptocurrencies are the biggest instances of fungible tokens. On Blockchain, these currencies are represented using Fungible tokens. These tokens can be used as a medium of exchange, can be used for payments etc on Blockchain.
To simplify the definition of Fungible Tokens further, let us understand it through an example. Suppose X owes $100 to Y. When X needs to return this amount to Y, he does not need to return the exact same $100 note that Y had lent him. X can pay him a new $100 note, he can give him 2 $50 notes, which will make no difference to Y, because the value of a $100 is the same for X and Y both. So, this $100 can be represented as a Fungible Token, if need be, on Blockchain.
Thus a Fungible Token can be fractionalised, divided, split or even exchanged; that does not change its value.
Non-Fungible Tokens (NFT’s) are cryptographic tokens that are unique in nature and are not similar to any other type of Non Fungible tokens. Every NFT exhibits a different kind of functionality or aspect and is not comparable to other NFT’s. NFT’s can be tokens that represent digital art, house/property, or precious gems like diamonds.
Take for example, A gives a diamond to B. When B decides to pay back the diamond to A, she cannot just pick any diamond and return that to A, since a diamond can be of different shape and grade. Every shape can be of different value.
NFT’s, hence, cannot be divisible, split or exchanged as easily as Fungible Tokens.
While Fungible Tokens were vastly used on Blockchains as a primary mode of money transfer and crypto payments, Non Fungible Tokens gained popularity due to the creation of the game CryptoKitties. Developed on Ethereum, tokens were created to represent the “attributes” of the kitty. CryptoKitties was also the reason why Blockchain in Gaming became the new talk of the town.
While both fungible and non-fungible tokens represent digital objects on blockchain, they both have their respective advantages. Listed below are the benefits of fungible and non-fungible tokens.
1) Fractionalisation - As mentioned above, Fungible Tokens are divisible and can be split into smaller fractions and still the value won’t change.
2) Liquidity - Due to their nature of being divided and represented in very small denominations, fungible tokens increase liquidity of currency in the market.
1) Ownership - NFT’s with uniqueness as their primary aspect, can be applied to any collectible object of the real world like art, house etc. Users owning these tokens possess complete ownership on the object.
2) Customisation - Non-fungible tokens not only hold the information of the object they are associated to, but can be customised to save the entire history of the object they represent.
3) Tradability - Trading of objects, that NFTs represent, is an easier and faster process thanks to the uniqueness of NFTs and Blockchain’s great features.
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Read more about the difference between Fungible and Non-Fungible Tokens in this article.
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