Many believe that the next iteration of the internet will be a single, shared, immersive 3D virtual space where life is experienced in ways not possible in the physical world. But what are its components?
In the next few lines, we will dive deeper into NFTs and tokens, DeFi and DeFi protocols, and the Metaverse.
tokens and NFTs
A token generally means “something that can represent something else”. For example, we speak of a token of gratitude, such as a bouquet of flowers, offered to show that someone is grateful. Or think of a concert ticket that represents attending a specific event in the future. Another example of a token is money. These represent an amount of value. Tokens can also describe fungible tokens. Fungible tokens are tokens that are the same because they represent the same thing. Money is a good example: a euro coin represents the same value. So, both money and cryptocurrencies are types of tokens that are fungible.
An NFT is a token, where the “N” stands for “non” and means that this type of token is NOT fungible; it is not similar to any other token; it is a unique token and one is not the same as the other.
In the financial world, tokens are a form of value represented and traded on a blockchain. Because of blockchain technology, we can create tokens, which are digital representations that are not fungible. This makes it possible for everything in the real world to be represented by an NFT on the blockchain, be it our home, the clothes we wear, or the piece of land we own. Everything can be represented digitally, including art. However, the most critical part of this process is the transition from physical to digital. Someone has to vouch that a token really represents the property, for example. This needs to be backed up (demonstrably) by legal reality. So here we see that there is counterparty risk. Digital art doesn’t have this problem because there is no physical component. Most of us started hearing about NFTs in 2021, especially those representing (digital) art. Digital art was one of the first NFT use cases — perhaps because before blockchain, anyone could copy and claim digital artwork. However, due to their uniqueness, they can be used as a means of identity verification (decentralized identifiers or DIDs) or as medical records (doctors can issue NFT birth certificates at birth, and these NFT would constitute the lifetime identity they could use for all their medical records) . However, the common case for NFTs is in the gaming industry (digital collectibles like those in play-to-earn games like Axie Infinity are a common use case). The supply chains can also benefit from these developments – many goods and articles, especially in the food sector, have problems verifying their origin, the packaging content and the source of supply. NFTs can be tied to a product via the blockchain, giving it a tamper-proof NFT identity.
The Metaverse
Cryptocurrencies, tokens, NFTs and anything that is created and stored digitally, is identifiable and trackable, and has or offers value is considered a digital asset.
These (along with a user’s digital identity) play an important role in supporting the metaverse. At the outset of its development, the Metaverse is a seamless convergence of our physical and digital lives, creating a unified, virtual community where we can work, play, relax, do business, and socialize.
A key point is that there is not just one virtual world, but many worlds taking shape to enable people to digitally deepen and expand social interactions. It does this by adding an immersive, three-dimensional layer to the web, creating more authentic and natural experiences across shared virtual worlds accessible through technologies such as virtual reality (VR), extended reality (XR), and augmented reality (AR).
Based on interoperability, these spaces aim to become a large and connected ecosystem where people can move freely (using their digital identity) and take their digital assets with them. To move tokens and digital assets in the virtual world, we need some protocols that are part of decentralized finance (DeFi). Digital assets and DeFi together are loosely referred to as Web 3.0. According to the 11:FS Web 3.0 report, Web 3.0 builds on the primitives of crypto but speaks more about the business models and economic opportunities.
DeFi
Decentralized Finance (DeFi) refers to a range of emerging financial products and services that operate on decentralized platforms and use blockchains to record and share data. These products and services are conducted without a trusted central intermediary such as a bank and include payments, lending and borrowing, trading and investing, raising capital (crowdfunding) and insurance.
In the last two years, the DeFi landscape has evolved into a large network with integrated financial instruments and protocols. According to The Block, cumulative revenue from DeFi protocols surpasses $4.5 billion as of March 2022, making it one of the most promising developments in finance. Protocol is defined as rules or standards that govern a specific task or activity. DeFi protocols are specialized autonomous programs designed to address issues related to the traditional financial industry and they aim to introduce more financial instruments. So far, DeFi protocols are an integral part of a complex ecosystem with numerous notable tokens and projects, and due to the significant increase in value of DeFi protocols, many startups see many opportunities in this space.
DeFi protocols are primarily designed for borrowing and lending applications in the financial sector.
An example of DeFi protocols are decentralized exchanges (DEXs), which offer traders an easier way to complete crypto transactions. Because DeFi protocols run on a series of smart contracts, these exchanges can attract large amounts of liquidity, which often brings returns to investors. Metrics such as Total Locked Value (TVL) have been created to evaluate decentralized finance (DeFi) protocols. In a DEX, experts can measure the Total Locked Value (TVL) by adding up all the assets deposited in the exchange. Many of today’s traders use this measure to understand the strength and potential of a system. By counting all coins currently staked within a protocol, TVL shows the total supply underlying the system.
DEXs often replace traditional exchange order books with liquidity pools and automated market makers (AMMs – a special algorithm encoded in a smart contract that calculates the exchange price for each swap) that match buyers and sellers based on order price and volume. These are pools of cryptocurrency assets that remain beneath the surface of the exchange, waiting for a buy or sell order to clear. Funds in the pool come from investors who deposit funds to benefit from transaction costs to be paid to pool users.
The most common financial activity across the DeFi ecosystem is lending. Similar to traditional lending institutions, some holders deposit their funds in a log in order to turn a profit, while others are required to borrow money from the fund pool on a short-term basis while posting their blocked assets as collateral. As a result, the system increases fluidity within the crypto markets and creates new opportunities for all parties involved.
Another increasingly common phenomenon within the DeFi ecosystem is derivatives. These products give experienced traders the ability to manage synthetic assets, create futures contracts and increase total returns from their complex investment portfolios.
Liquidity pools are the cryptocurrencies locked into a DeFi protocol through smart contracts. They are created by deposits, giving investors the latitude within a protocol to draw from a pool of accessible funds. Because they involve direct and instantaneous asset locking within a protocol, they can be measured within the parameters of crypto TVL.
In order to participate in DeFi protocols, traders need to stake a certain amount of their crypto assets. Yield farming, once these assets are deployed, allows investors to generate profits through returns.
This article concludes our three-part series explaining the crypto space. If you want to test your crypto payment knowledge, check out Part 2 of this series.
As we have tried to be concise and to pique your curiosity about the crypto industry, please remember that the information we have provided is a synthesis of the key concepts surrounding this industry. For a fuller understanding of these topics, we encourage you to read on. Below are some links with resources:
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The Cryptocurrency Revolution: Finance in the Age of Bitcoin, Blockchains, and Tokens, by Rhian Lewis
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Layered Money: From Gold and Dollars to Bitcoin and Central Bank Digital Currencies, by Nik Bhatia
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Digital Gold: Bitcoin and the Inside Story of the Misfits and Millionaires Trying to Reinvent Money, by Nathaniel Popper
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Binance Academy
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Chain Analysis Academy
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Ethereum portal
This editorial was originally published in our Crypto Payments and Web 3.0 for Banks, Merchants and PSPs report. The first edition of our report aims to provide a one-stop shop for crypto terms and concepts for those interested in understanding the basics of crypto payments and their long-term implications. In addition, practical examples of cryptocurrency-based e-commerce and banking services will be presented and the latest developments in the regulatory landscape will be presented. Also, it shows which are the most innovative companies in this field that are building the crypto rails.
Feel free to download your copy here.
About Mirela Ciobanu
Mirela Ciobanu is Lead Editor of Banking and Fintech at The Paypers. She is actively involved in creating industry reports, conducting interviews and writing about the digital asset industry, the regtech space, digital identity, fraud prevention and payments innovation. Mirela is passionate about finding the latest news on crypto, blockchain, DeFi and fincrime investigations and advocates the need to protect our online data/presence. As a writer, she always strives to obtain the best available version of the truth. She can be reached at [email protected] or via LinkedIn.
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