Cryptocurrencies such as Bitcoin are becoming increasingly more mainstream every day, but the terminology that surrounds them can be confusing even to seasoned crypto veterans, let alone newcomers.
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A lot has changed since an unknown person or group of people under the name Satoshi Nakamoto released Bitcoin, the first decentralized cryptocurrency in the world, in 2009. According to CoinMarketCap, there are now almost 1,500 cryptocurrencies, the total market capitalization of the entire crypto market is over $700 billion, and the daily trading volume exceeds $30 billion on a regular basis.
To understand how we got to where we are today, and what the difference between ICO tokens and cryptocurrency coins is, we need to start with the basics.
What Is a Cryptocurrency?
The term “cryptocurrency” consists of two words: crypto and currency.
Even though you may not be able to define it, you already know what a currency is because you use it almost every day as a medium of exchange for goods and services. Investopedia defines a currency as “a generally accepted form of money, including coins and paper notes, which is issued by a government and circulated within an economy.”
The word “crypto” is short for “cryptography,” which is the practice of using various protocols to secure communication in the presence of third parties. Modern cryptography is synonymous with encryption, the process of encoding information in such a way that only authorized parties can access it.
Put together, a cryptocurrency can be defined as a medium of exchange that uses cryptography to secure its transactions.
Cryptocurrency Coins and Tokens
While there were other media of exchange that used cryptography to secure transactions before 2009, Bitcoin was the first one to also be decentralized, meaning that it’s not controlled by any single central authority.
The decentralized nature of Bitcoin comes from its use of the blockchain technology, which is a distributed public ledger that records bitcoin transactions in a growing list of records, called blocks. Each block of transactions is cryptographically linked to the previous block, making blockchains resistant to data modification.
Because the blockchain technology was such a novel concept when Satoshi Nakamoto implemented it as a core Bitcoin component in 2009, many other cryptocurrencies were soon derived from Bitcoin, including Litecoin, Darkcoin, Quark, Yacoin, Novacoin, or BitBlock, just to name a few.
Collectively, these Bitcoin derivatives are sometimes called Bitcoin clones. What they have in common is the fact that they are all derived from Bitcoin and are meant to be used as media of exchange.
Apart from cryptocurrency coins that have been derived directly from Bitcoin, there are also so-called altcoins. An altcoin is an alternative blockchain project that exists in addition to Bitcoin and its blockchain.
By far the best-known altcoin is Ethereum, which is an open-source, public, blockchain-based distributed computing platform featuring smart contract functionality. Because Ethereum’s purpose isn’t to serve as a means of exchange, it doesn’t issue any cryptocurrency coins. Instead, Ethereum issues value tokens called “ether.”
Compared to cryptocurrency coins, tokens offer wider functionality, often being used to access various features of the platform that provides them. In the case of Ethereum, ether is used to pay for transaction fees and computational services on the Ethereum network. But because tokens hold value, they can also be used the same way as single-purpose cryptocurrency coins can: to purchase goods and services.
An ICO is “an unregulated means by which funds are raised for a new cryptocurrency venture. An Initial Coin Offering (ICO) is used by startups to bypass the rigorous and regulated capital-raising process required by venture capitalists or banks,” as explained by Investopedia.
During an ICO, tokens are sold to early backers of the project in exchange for legal tender or other cryptocurrencies, usually Ethereum or Bitcoin.
For example, during its September 2017 token offering, the Filecoin ICO raised over $257 million by selling its FIL tokens in exchange for ether to fund the development of its decentralized network for digital storage through which users can effectively rent out their spare capacity.
Most ICO tokens don’t exist on a separate blockchain. Instead, startups take advantage of the blockchain technology to build their own projects and DAPPS (decentralized applications) through smart contracts on Ethereum’s blockchain.
“Think of Ethereum like the Internet and all the DAPPS as websites that run in it. There is something really interesting about these DAPPS, they are all decentralized and not owned by an individual, they are owned by people. The way that happens is usually by a crowd-sale called the ‘ICO.’ Basically, you buy certain tokens of that DAPP in exchange for your ether,” explains Ameer Rosic.
The main difference between cryptocurrency coins/tokens and ICO tokens is that disruption on the network that hosts ICO tokens doesn’t affect just the network itself, but also the ICO tokens hosted on it. Bitcoin clones and all other altcoins, on the other hand, are completely independent.
Cryptocurrency coins are media of exchange that use cryptography to secure transactions. Value tokens are used by blockchain-based projects that don’t strive to serve as digital currency for a multitude of different purposes. For example, the blockchain-based distributed computing platform Ethereum uses its value token, called ether, to compensate participant nodes for computations performed. ICO tokens are issued during a crowd-sale, and they depend on another platform, such as Ethereum.
In practice, the terms described in this article are often used haphazardly and interchangeably. So, even if you don’t use the most appropriate term, the chances are that you will be understood without any problems.