We already live in the era when most assets are digitized. Steadily, we’re moving towards the digitization of, basically, any value. On top of it, tendencies set by blockchain technology imply that little by little, we will be foregoing intermediacy and move towards individual control and management of our assets. In order to understand how to work with them, we should know how they should be classified. The article will also be helpful for those who are interested in fintech.
Digital asset is a digitized right of ownership of any value. That’s the most precise definition, though it doesn’t say a lot, so let’s delve deeper. Generally, digital assets can be categorized by the two basic groups:
A cryptographic token is an accounting unit used to represent digital balance in a certain value, whilst the ownership of a token is evidenced by the aid of certain cryptographic mechanisms, for example — digital signature.
On the back of the above information, you can come to quite an unexpected conclusion — digital assets are basically defined by the accounting system in which they ‘exist’. Because it’s the accounting system that has properties that determine the way you manage assets and the difference between them.
Blockchain is the technology that grants the accounting system with certain properties. Let’s examine them.
As you can see, properties provided by the blockchain vary depending on the environment where it’s being applied. Permissionless — universally accessible (no permission is required to interact within the accounting) Permissioned — permission is essential in order to participate in the accounting.
Obviously, the supremely decentralized environment in combination with blockchain technology allows for the utmost of features that an accounting system can eventually achieve. It’s especially in this case, you can almost certainly guarantee that collusion of validators (those who mutually participate in decision-making of the system) is impossible. Agreeably, you don’t need to trust the validators.
Though, even in a centralized permissioned environment, where transactions are confirmed by a single party, blockchain still enables certain benefits:
In order to know the difference between various digital assets, one should understand how certain processes in their accounting systems are provided. This creates criteria by which assets can be classified. The combination of various states of these criteria distinguishes their accounting systems.
The chart is detailed and may seem laborious, but you’ll get the main idea if compare just the two most distinctive assets:
Now, basing on the criteria of the above chart, we’ll consider the particular kinds of assets and put everything in place (Euler diagram).
So again, there are two major groups: tokens and digital currencies with a permissioned audit.
Along with Paypal’s Digital USD, this group includes national digital currencies, where all the accounting processes are managed by Central Bank. Whereas, the price is always linked to that of the national currency.
Token, in itself, is simply an internal unit in a certain digital accounting system. The interesting thing, though, is that depending on the situation, token can be attributed with various properties (be backed by):
Tokens may be issued in both: centralized (under control of a certain organization) and decentralized (according to the pre-defined algorithm) manner. In this way, token is quite an abstract category of digital assets, that acquires specific features depending on the context.
Evidently, these are tokens backed by any commodity :) The accounting (management, storing, issuance, etc) is accomplished on a centralized basis by the service provider or the organization that keeps the actual goods.
One token is backed by a fixed quantity of the commodity. It is to be guaranteed by a custodian. Referring to the chart (properties that blockchain may give), this can either be the case of a decentralized or centralized permissioned environment. It is principally impossible to make the accounting permissionless if tokens in it are backed by the commodity of a certain organization. It wouldn’t be an organization elsewise.
In this case, equity is a share in the business or any financial flow. The accounting is usually carried out by a centralized organ. One token represents a specific amount of shares or any percent of the money flow. The processing of such accountings can be done in both ways: centralized (by the depositary) or decentralized (by the community of independent validators). DAO is (or was :) ) a good example of a decentralized accounting of the equity tokens.
A digital collector’s item. Note: not digitized, but initially digital. So, it’s not about the digitized proprietary right for a physical collector’s item. It is something unique in the digital field. The main difference with other types of tokens is that these are never interchangeable. This kind of idea is realized in the CryptoKitties project.
This type of tokens is reasonable when you need to keep count of anything, at that, don’t have a necessity to transfer it. For example, digital identity — it is unique and never transferred because belongs to each individual, such as identity or reputation. Most commonly, the processes in the accounting are centralized: managing, issuance, storing and audit.
These are also cryptographic tokens, but what distinguishes them from those that we’ve just reviewed is that they have attributes of currencies. On top of it, they can be audited easily. One of the representatives of this category is cryptocurrency.
Cryptocurrency is an independent digital currency. Independence is the main point here and is achieved by virtue of decentralization of the following processes:
Needless to say, that the initial code and specification of a cryptocurrency should be in the open source. Eventually, all the properties we have just considered can only be possible in case of a sufficiently big and open community.
Even if you copy the initial code of Bitcoin, which is kind of designed for a decentralized digital currency, and create a fork that only you control — it won’t be a cryptocurrency.
This is about digital currencies that’s not yet cryptocurrency because some of the processes are not decentralized, though the database can be audited by any or some external parties (which significantly distinguishes it from non-auditable digital currency, where it’s all based on trust and confidence). That’s where many people get frequently confused because they think that it’s a cryptocurrency, but it’s actually not.
Ripple and Stellar are good examples. The issuance and distribution of coins are centralized, though everyone can audit the whole database and verify the accuracy of the transaction history.
Finally, we would like to share the comparative chart we’ve made. It demonstrates the properties that various accounting systems possess. It’s quite massive actually and requires a separate article in order to review it to the full extent. On the other hand, it wouldn’t be inappropriate here, because having it analyzed you will be able to have an objective opinion about specific accounting systems, basing on the actual properties they give.
Digital assets are at the very beginning of a long and advanced path. Yet, it’s hard to make a universal classification of various kinds of them. Here, we’ve tried to come up with the essential criteria that may help people understand the difference between the digital assets and don’t fall into a “buy the new improved cryptocurrency” trap.