Token Economics Overview
Blockchain technology is set to have a transformative effect on the very foundations of how our economies function, the study of this new form of distributed economy may be called token economics or also termed crypto-economics. In this video, we will give a overview to what we mean by these terms. The primary factor to appreciate in understanding the significance of token economics is that the most basic way in which economic data is recorded is changing; with the advent of blockchain technology, the information layer upon which economies are built is changing and therefore everything upwards of that layer will change, which is essentially everything we know about how our economies work.1
Economics is before anything based on information, it is base on records of ownership that define who owns what and what is exchanged – what we call ledgers – everything that exists within an advanced economy exists because it is recorded somewhere in a ledger. Because these ledgers define who has what we have to trust whoever it is that maintains those records. Those ledgers are currently maintain by the thing we trust the most which is the government and legal system. That legal system determines who gets to make entries into those databases and it grants that power to various institutions that prove their trustworthiness to the legal system, banks, insurance companies, hospitals, enterprises, institutional investors etc. These centralized authorities manage this complex set of records or databases and thus control how value is represented and flows within the economy – which is, of course, the foundations of their power and influence within society. This centralized approach can have many advantages in terms of simplicity, speed, and efficiency, but it also means that we have to trust those institutions and in this way we hand over massive amounts of power to these centralized institutions and have to continuously work to constrain their powers.
Throughout the latter half of the 20th century, we converted that information into a digital format, but the structure of the system remained unchanged; centralized organizations just got fast and more efficient at doing what they do. But today everything that we turned into digital data we can now move onto blockchain records, which can be understood as a form of distributed database.1 With this system, people can now connect to the database directly and we can automate the maintenance and updating of that data, likewise we can build ever more sophisticated algorithms on top of it, thus replacing more and more of the functions that were previously only achievable through centralized management structures. The trust required to maintain societies records of value is thus displaced from formal centralized institutions and now placed in the mathematics of cryptography, computer code and the design of networks. This means, that at least theoretically, we do not need these centralized institutions to manage the data now in the way that we did in the past.
The profound implication of this is that society and economy no longer need to be architectured around centralized institutions. The consequences of redirecting all of these flows of information, value, and power within society away from centralized channels and into distributed networks are almost unimaginable; the ramifications are so profound that none could predict the outcomes. The surprising thing though is that this is not the dream of some radical anarchist group, but simply the consequences of a revolution in information technology. Such an extraordinary transformation happens very rarely in human civilization as it signals the true coming of age of the information age. The blockchain is unlike other new technologies because it taps into a deep structural transformation brought about with the move into the information age – that is to say, the rise of distributed networks as a new organizational paradigm for society, economy, and technology infrastructure.1 The blockchain is not magic – as it might appear – but simply builds upon existing information and communication technologies that are enabling this deep restructuring process of change that will take us into the network society.
The implications of this change are many fold, but the first we can note is that we are now no longer dependent upon centralized organizations to define value within society. Because the maintenance of these databases where value is recorded has shifted to information networks and it is increasingly becoming possible for anyone or any group of people to set up one of those networks, it means that individuals and groups can define what they value, instead of that being defined for them – and of course who gets to define value within society is of critical importance. Previously only large centralized institutions got to define units of value, the largest of those institutions, the nation-state, got to define widely accepted currencies. But those tokens were always relative to a centralized entity and they only really defined what that centralized entity valued. A Starbucks gift card is a form of token, the RMB is a form of token, a share in Microsoft is a form of token, but all of those units of value are defined, created and managed by centralized entities according to their interest and needs. What is changing now is that anyone, any group, can now define any form of value through the creation of a digital token on a blockchain. That token doesn’t have to have value for some external centralized entity, it can simply represent the inherent value within a network of peers.
Tokens are generic units of value that can be used to quantify any form of valued resource, but more importantly, they can be used to define specific and distinct forms of value. This is why in a blockchain economy we have so many tokens, energy tokens, food tokens, transport tokens, social tokens and the list is ever expanding. In such a way the token economy offers the potential to incorporate more and different kinds of value, thus giving value representation to what was previously excluded from economic activity. The potential of this is that we may for the first time start to move towards an economic system based upon full cost accounting. In recent years with the environmental sustainability crisis unfolding the idea of a full cost accounting economy has been presented as a solution, but to date the complexity of realizing that has been overwhelming and the tools for implementing it have remained limited. Rapid advances in big data, complex analytics, and blockchain technology are starting to provide the technical infrastructure for an economy that may, in fact, incorporate all relevant event information and value sources, thus bring many areas of social and economic organization into token markets of change.
Tokenizing is the process of converting some asset into a token unit that is recorded on a blockchain. Anything of economic value can be tokenized and thus broad into the blockchain economy. Today we are starting on a long journey of migrating our entire global economy to blockchain networks; real estate, commodities, supply chains, energy markets, accounting, mortgages, loans, insurance, special purpose vehicles and all kinds of derivatives are all going to migrate one block at a time into this new information-based economy. As the venture capitalist Bradley Rotter Rivetz has noted “everything that can be tokenized will be tokenized the Empire State Building will someday be tokenized, I’ll buy 1% of the Empire State Building, I’ll get every day credited to my wallet 1% of the rents minus expenses, I can borrow against my Empire State Building holding and if I want to sell the Empire State Building I hit a button and I instantly have the money.”
With this new technology not only existing forms of valued assets will get tokenized but with advances in information technology we are quantifying and assigning value units to more and more aspects of our world and our social interactions; token economics will be used to support these new forms of economies, whether we are talking about the emerging natural capital economy or social capital. It will be a number of years before we really have the underlining blockchain technology to do that on a large scale but it is coming and the implications are enormous. The point is that tokens aren’t simply extensions of existing financial and monetary systems but they are something really different, they allow us to define, quantify and exchange a new set of values that emerger in a post-industrial economy. In so doing they allow us to expand market systems and economies as a disturbed manage system to coordinate more and more spheres of human activity in a decentralized fashion through peer-to-peer exchanges within digital market.
Blockchain technology builds upon previous changes in how people work together to produce value in advanced economies. With the rise of the platform economy information technology has already, within just a decade or so, changed the model for the production and consumption of value within advanced economies, but these newly forming token networks greatly extend those previous trends, with some major alterations. Online platforms and blockchain are changing how we collaborate and work together across organizations and across society at large. Token economics is set to change the very structure of the Industrial Age enterprise as it now offers the potential to align the interests of stakeholders in new ways. What is happening today builds upon the recent development of the so-called collaborative economy; online platforms that function as two-sided markets matching producers and consumers. The collaborative economy is defined as initiatives based on horizontal networks and the participation of a community; blurring the lines between producer and consumer, they connect individuals into large peer-networks of exchange.2
However, these large platform organizations that have arisen with the development of the internet are still centralized around the platform providers, creating many issues of security, data privacy, control, misalignment of incentives, concentration of wealth and power. Blockchains let us design protocols that provide the same capacities for people to collaborate within large peer networks but this time without needing the centralized entity. Through the use of tokens, the network is converted into a token market, with the market mechanism used to coordinate it in a decentralized fashion. By removing the centralized component this works to align the incentives of members better and turns businesses into something more like communities or ecosystems. By removing the centralized component that is controlling the overall network and operating it for a profit, the individuals in the network become much more aligned with the whole. This alignment between the individuals and the whole network is realized through the token, because as the value of the whole organization increases this increase in the value of the platform does not get sucked up by management and shareholders but in fact gets distributed across the network itself by accruing to all of those that hold the token.3
This is how and why in a token economy the traditional business of the Industrial Age – that was primarily designed to create a profit for its owners – is greatly reduce and replaced by these token networks which are more like public utilities as profit does not get taken out by the shareholders but instead is continuously reinvested and redistributed to the users of the network through the utility token. Thus unlike the centralizing forces of the Industrial Age where value was always getting pulled inwards and suck upwards, with these distributed networks – if designed properly – they can work to inherently push the value that accrues downwards to the infrastructure layer and outwards to the members of the network who hold the token.3
With token economies, we now have the capacity to directly program incentive structures through tokens and this shifts the success of economies from the realm of policy and management into the realm of design and technology. Today well designed token networks hold out the possibility to build new forms of incentive structures that really improve the alignment between the agents in the network and the whole system; potentially working to avoid a rich get richer effects and reduce the gap between owners and users of the economy. We no longer have to place our hopes on the promises of politicians or protest against neoliberal economic policies but the future of advanced economies is now largely about designing token economies, programing blockchains and building communities.
The blockchain is a new modality for organizing society and economy as such it is often referred to as an institutional technology. Professor Jason Potts talks about this as such5 “this isn’t a story about how the economy grows because of this new technology, it’s a story about how we can now create new economies in ways that we could never create new economies. It used to be that you have to have a government and a nation-state and a money system and laws and legislation and all of these things, and there’s 193 economies in the world or however many nations there are. We’re about to enter a world where the number of economies in the world will change hourly, it may well be measured in the billions not the small hundreds and these things will be largely built on technologies like the blockchain. I think once you see that it’s a governance technology, an institutional technological revolution, that’s the interesting thing that I think has largely been missed.”
What is different about this institutional technology is that it is distributed by design, that means that unlike centralized systems that work to improve closed organizations, it instead improves opens systems of organization. This is a paradigm shift in that it runs very much contrary to the centralizing forces prevalent in the industrial age; it is something that we are not used to and that is why it is difficult for us to understand. Blockchain networks are inherently designed for coordinating open systems, their innate distributed design is in fact inherently resistant to closure. Though private blockchains may deliver short-term efficiency gains for existing centralized organizations, the fact is that private blockchains remove most of the valuable benefits of using a distributed system and as soon as someone figures out how to develop a public blockchain for the same purpose it will harness more resources to grow faster and eventually replace it. As Toni Lane Casserly, Co-Founder of Cointelegraph states it6 “if you’re going to create a blockchain project, if you’re not creating a public utility you are fundamentally not creating a blockchain and you’re fundamentally not creating a new form, a new economic asset in a new series of token classes, because the entire point of blockchain technology is that we are creating new forms of economy as an open-source public utility.”
Blockchains are distributed systems with extreme network effects. They are designed to push outwards, the more people and organizations they bring into common systems of coordination the stronger they are. They are designed to network the inter-organizational space, greatly facilitating coordination within large ecosystems, across whole industries and economies. This is how they really create value and this is how they are going to disrupt existing systems. Existing organizations won’t be disrupted by one of their competitors, they will be disrupted by protocols that network across whole industries to build ecosystems that are greater than the sum of any of their parts – just as Amazon, Uber, and YouTube did in the past, but this time these networks will be larger, distributed and increasingly automated.
Indeed the long-term vision of these token networks is as the infrastructure for a new form of global services economy. We think we know what globalization is about, we think we know what the services economy is, but the blockchain as an infrastructure is set to realize the convergence of these in new, unexpected and powerful ways. In the past decades, we have wrapped layers of communication networks around our planet. We first started communicating and exchanging media along this new infrastructure as social media went global, forming networks composed of hundreds of millions of people. We then started to build service applications on top of this shared IT infrastructure; services like car sharing, accommodation, and e-commerce, but that services layer is still quite fractured and very much dependent upon traditional centralized structures. Blockchain provides this global communication network with the protocols to exchange units of value securely and with limited friction.7
As the protocols mature and the blockchain becomes this globally distributed cloud computer that it promises to be, it will become extremely easy to build secure automated services on top of it that amass micropayments in a frictionless fashion. Those services will be borderless as they are running on a global distributed computer. Likewise, it is important to note they will not be limited to just the traditional offerings of the private sector but will also now include public services. For the first time in centuries, nation states will find that they are having to compete with global token markets when it comes to the provisioning of public services. It will be very difficult for individual organizations to compete with these global public utility networks that support whole ecosystems of users, particularly those that manage to align incentives in more productive ways and are able to harness the productive capacities of the many instead of the few along more dimensions. Similar to the rise of Google and Facebook, these token networks will be very formidable actors in the global economy, and that will happen just as fast in not faster this time.
The past year has seen the rise of a new model for the funding of technology companies called initial coin offerings. In 2017 the amount of money raised by startups via ICOs surpassed early-stage venture capital funding for internet companies.8 This is the first example of these new token networks already replacing one area of the traditional financial system in a substantial way and we can note the speed with which that happened. Within the space of just a few months, ICOs went from almost nowhere to today where new blockchain projects are able to attract hundreds of millions of dollars by offering tokens directly for anyone with an internet connection to purchase.
The rise of ICOs as a new model for growing economic networks is no accident or random event, it taps into a new capacity of information technology – first seen with crowdfunding – for people to fund their own projects directly out of the future value the project is expected to deliver. The centralized third-party investor is removed from the equation which takes away the need to organize the project around investor profits – and to remove value from the network for shareholders – instead, the network funds itself out of selling access to the future service that it will deliver, thus retaining value within the network.
Indeed this illustrates one of the important aspects to note, which is that these networks are very autonomous. A network can fund its own initial development through an ICO, but not only that, it can then fund its own future growth through simply increasing the number of tokens and given those to members who present initiatives, projects or other forms of work that will be of benefit to the future success of the ecosystem. The network inflates its own token, gives those new tokens to projects that will increase its future service delivery and thus will work to deflate the token in the future when more people demand that added future service. In this way, no external profit-seeking third party, such as a bank or other financial institution, is needed. By removing that third party you have the potential to also remove a massive amount of overhead costs and regulation, likewise, you stop the value being taken out of the network and you align incentives between members better.
ICOs and prediction markets will be a central part of long-term economic development on token networks, but these will also be combined with advanced analytics as a primary mechanism for coordinating the network in the short term. The convergence of advanced analytics and blockchain networks will be a major part of the workings of these token networks. Like with the existing digital platforms of the current internet, these blockchain networks are going to datafy everything, they are going to create massive amounts of data and will be highly amenable to complex analytics. With the use of this big data, business and economics will move from the realm of speculation and intuition to becoming more of an actual science where data can be gained, theories tested, and new systems engineered in an iterative process with a much more complete and effective feedback loop.
Unlike our traditional economy which existed historically outside of information systems, these economic networks exist by default within information systems, they are well defined in terms of software and they automatically create data. This means as soon as these networks are up and running we are going to start applying analytics to them, using that data to adjust the incentive structures, gain feedback and iterate on that in a fast pace learning process. Likewise, being open source projects anyone can see how the system is designed and coded and they will have the data to see how any changes perform. The functionality of these systems will shift to the software layer and if that is open source anyone may contribute and earn tokens if their contribution is successful as measured by the feedback loop and analytics. Today businesses have been largely secretive by default, run by a few with decisions ultimately made by the highest paid person in the room. Economies have been directed by whoever managed to get elected and abstract economic theories that have never been really tested on real data with direct feedback to see how they work in practice.
Scott Nelson CEO of Sweetbridge describes some of this well when he says9 “what we do need in addition is to understand that we are dealing with the actual invention of something extraordinarily new and very powerful and that is the ability to build economic games that actually are businesses and which are controlled by a community who’s vested in the game, and the countries that master this are going to be the railroad baron company countries of this century. I mean we are dealing with a sea change here that cannot be underestimated because the power of economic engines to be tuned and now measured, we can actually see the economic activity of the customer what they’re doing and get very direct feedback loops about how the customer is using the system and when the transparency is extremely high in the environment, this changes everything.”
We have almost zero experience with the design of large-scale decentralized economic networks. Added to this is the fact that we can’t just shut down existing systems while we migrate them to the new model; as an analogy, we can say that this is like rebuilding an airplane while it is flying with all of the passengers inside. The only thing we can say for sure is that this is going to be a rocky journey. Nothing is promised and written in stone in this new emerging economic paradigm. There are always possibilities for resources and power to be re-concentrated in new ways, for potential to go unrealized or misdirected. The only thing that can ensure the desired outcomes is really understanding the dynamics of these systems and using that to design and develop economic networks that truly enable people. Systems that work by default to push capabilities and resources out to the edges of the network and engage everyone, providing them with the tools to participate in a level playing field.
As Shermin Voshmgir of the Crypto Economics Institute notes10 “[Blockchain] is a very powerful technology and it will spawn further technologies, we can use it as a machine to promote universal freedom, to create a better decentralized society, with less bureaucracy which will be better suited to a globalized world, [but] if we don’t do it right the very same technology can become a machine for universal control, to prevent that we have to take all aspects into account.” It is in the combination of advanced analytics, blockchain networks, and IoT that the Information Age comes of age, as information based networks gain their autonomy and break free from the supporting industrial age model. It is important to note these networks aren’t going to be contained and confined within the box of our existing model; we will increasingly find that all of these newly formed technology-based networks converge and work synergistically to provide a coherent and integrated set of new solutions that take us into a new paradigm.
With the blockchain, it is critical that we think outside the box of the established parameters that have defined our industrial economies for centuries now. This is a new stage in the information revolution, these networks won’t be like the networks of yesterday or today, the Facebooks and the Amazons that are limited in capacity and very dependent upon existing structures. For sure some aspect of this new model will initially be open to confinement within existing models but much won’t and over time it will be difficult to contain that. These new forms of decentralized organization will be greatly strengthened and gain much greater autonomy, within a decade or so these networks won’t be confined to operating within the model of the past and it is important to keep that in mind; both the potential and risks that it offers. This is not just another technology that you adopt this is a fundamental re-architecture of how things work. Those who don’t grasp that and try too fit it into the box will get left behind surprisingly fast, as innovation is currently being unleashed at a staggering pace, fueled by large amounts of capital, already billions of dollars are starting to flow into these new emerging networks. As a recent paper on the subject notes11 “This process is going to be extremely disruptive. The global economy faces (what we expect will be) a lengthy period of uncertainty about how the facts that underpin it will be restructured, dismantled, and reorganised.”
1. YouTube. (2018). Digital Insights Breakfast #4 – The Smarter Digital World. [online] Available at: https://www.youtube.com/watch?v=rMDKTpZZOyA&t=5s [Accessed 27 Mar. 2018].
2. Wiki.p2pfoundation.net. (2018). Collaborative Economy – P2P Foundation. [online] Available at: http://wiki.p2pfoundation.net/Collaborative_Economy [Accessed 27 Mar. 2018].
3. YouTube. (2018). Decentralized Funding and the New Corporate Structure. [online] Available at: https://www.youtube.com/watch?v=ZiimIJnVXxU&t=1024s [Accessed 27 Mar. 2018].
4. YouTube. (2018). Digital Insights Breakfast #4 – The Smarter Digital World. [online] Available at: https://www.youtube.com/watch?v=rMDKTpZZOyA&t=5s [Accessed 27 Mar. 2018].
5. YouTube. (2018). Panel: Alternative Economies and Reputation-Based Systems – COALA’s Blockchain Workshops. [online] Available at: https://www.youtube.com/watch?v=aM57WEl0cDI&t=1064s [Accessed 27 Mar. 2018].
6. YouTube. (2018). BEF2018: “Governments on Blockchain”. [online] Available at: https://www.youtube.com/watch?v=0BbceRp08eg [Accessed 27 Mar. 2018].
7. YouTube. (2018). Vinay Gupta on Smart Contracts and Mattereum. [online] Available at: https://www.youtube.com/watch?time_continue=1&v=chIw_uj9twg [Accessed 27 Mar. 2018].
8. Kharpal, A. (2017). Initial coin offerings have raised $1.2 billion this year and now surpass early stage VC funding. [online] CNBC. Available at: https://www.cnbc.com/2017/08/09/initial-coin-offerings-surpass-early-stage-venture-capital-funding.html [Accessed 27 Mar. 2018].
9. YouTube. (2018). Sweetbridge SweetTalk #1: Vinay & Scott: A Liquid Economic OS of Supply Chain on Blockchain (BIG). [online] Available at: https://www.youtube.com/watch?v=dla42bY7k90&t=870s [Accessed 27 Mar. 2018].
10. YouTube. (2018). Shermin Voshmgir – the blockchain queen | DW English. [online] Available at: https://www.youtube.com/watch?v=lZgcW6b0oL4&t=2s [Accessed 27 Mar. 2018].
11. Medium. (2017). The Blockchain Economy: A beginner’s guide to institutional cryptoeconomics. [online] Available at: https://medium.com/@cryptoeconomics/the-blockchain-economy-a-beginners-guide-to-institutional-cryptoeconomics-64bf2f2beec4 [Accessed 27 Mar. 2018].