Cryptocurrencies continue to gain popularity, despite the fact that the price of Bitcoin crashed in March. That’s not a big surprise. People see a lot of potentials in the emerging cryptocurrency market, not to mention the chance to get rich overnight. It’s very unlikely that these digital currencies are going to disappear.
It’s much more likely that they will continue to develop and evolve and replace fiat money in the future. However, it’s understandable why some people are skeptical. Cryptocurrency terminology is not beginner-friendly, and there are tons of complicated terms and explanations that sound too sophisticated for the average user.
It’s no wonder that people are getting confused when they hear somebody talking about “coins,” “tokens,” or “currency.” What’s more, for a lot of people, these three words are interchangeable, which is not true.
So, today I’m going to explain some cryptocurrency terms you might have a hard time figuring out on your own. I’m talking about the difference between coin, token, and protocol and what exactly is the blockchain. Keep on reading!
What are cryptocurrencies?
Before we delve into complicated matters, let start at the beginning and explain what cryptocurrencies are and why the name “cryptocurrency” doesn’t capture all the nuances.
I’m sure that by now you know that cryptocurrencies are digital/virtual money. But do you interpret this phrases correctly? In a sense, your money in the bank also could be called “digital” because they exist as a sum in your bank account. But whenever you feel like it, you can go to the nearest machine and withdraw them.
In addition to this, in case someone deceives you, or you pay for something you don’t receive, you can file a complaint, and you’ll probably get part of your money back.
Cryptocurrencies are virtual because they don’t exist as material objects. You can’t touch them, withdraw them, or store them under your mattress. People get cofounded because everybody talks about “coins.” But these coins are not like the one you’ll find in your purse. They are just a string of data, which you transfer from one account to the other and store in cryptocurrency wallets.
No one but you has control over these digital currencies, which is great on the one hand. But on the other, it also means that you’re the only one responsible for keeping your investments safe, and you can’t complain to anyone if someone cheats you.
We call them cryptocurrencies because cryptography is used to secure and validate the transactions and to make sure that no one can create thousands of “coins” easily. By this point, some of you might be wondering how something that doesn’t exist can be worth something.
But have you actually thought what money is? Economically speaking, money functions as:
If we go back in the centuries, we’ll see that people used many goods as currency – metals, pelts, corn, and so on. Banknotes became valuable because they represented gold – a metal, which people deemed precious and rare, and they wanted to have it.
The same is happening with cryptocurrencies. They are valuable because people want to own them. If no one were interested in buying bitcoins or Litecoins, they would be useless and worthless, and you wouldn’t be reading this article.
Cryptocurrencies like Bitcoin try to be like fiat money and fill all three money functions. There are some debates on the matter how successful they are as “money.” Critics point out that the value of cryptocurrencies can go up and down very quickly and their price is not tethered to anything. Nevertheless, people use them to buy and sell goods, which makes them “money.”
That’s the side of the question. Today, when people hear “cryptocurrency,” they immediately think Bitcoin. Bitcoin is the first among many. There are “coins” and “tokens” which are regarded as cryptocurrencies, but they don’t have the same functions. What’s more, people don’t use them as a medium of exchange, e.g., to buy and sell things.
That’s why some say that the name cryptocurrency is a misnomer.
What’s a blockchain?
Before Bitcoin, there were other attempts at creating cryptocurrencies, which unfortunately didn’t fare very well because they relied on third parties to verify the transactions. What made Bitcoin the winner and open the road to others is the blockchain.
No wonder people use “Bitcoin” and “blockchain” interchangeable. However, they are two very different things. Bitcoin is a cryptocurrency, a digital asset that you can use to buy things or sent to someone else. What allows you to do so, the technology which facilitates transactions is the blockchain.
For a decade people have been sending files or digital assets to one another through the peer-to-peer system. Why would you need the blockchain then? The simple answer is to avoid frauds.
When you pay for goods with your credit card, your bank plays the role of intermediary and makes sure that you’re not spending money you don’t have.
But what happens when you use cryptocurrencies? Let’s imagine that you want to buy a TV and a laptop. If there were no blockchain, you'd be able to buy the TV and the computer with the same “coin.” That’s called double-spending. But the blockchain doesn’t allow such a thing.
Here is how it works. You make a payment. It’s bundled in a block with other similar transactions. The function of the blockchain is to validate the block – e.g., that the payments are real and possible. If you’re trying to spend “coins” you don’t have your transaction will be rejected. Once validated, the block is included in the blockchain and can’t be edited or deleted. It’s permanent.
Thanks to the blockchain, you don’t need an intermediary, for example, a bank. A public ledger keeps track of every transaction ever made, which is visible to everyone interested. It also means that cryptocurrencies are not as anonymous as you’ve come to think.
What’s a protocol?
So, if the blockchain is the idea, the protocols are the sets of rules, which define the idea. I know that it’s hard to comprehend, so let me give you an example.
Think about the blockchain as language itself – the concept of communicating with other people with words/signs. But not everybody speaks the same language. So protocols would be all those individual languages that exist – like English, French, Spanish, which have their own sets of grammar rules. They are all based on the same idea – to communicate – but execute it differently.
Wait a minute. Don’t all cryptocurrencies use the same protocol developed by the creators of Bitcoin? No, the Bitcoin protocol was the first one, but other cryptocurrencies have their independent protocols, their own rules of communicating between the different nodes in the chain.
Take Bitcoin and Ethereum – one of the most popular cryptocurrencies – for example. Bitcoin transactions require 10-15 minutes to confirm, while Ethereum ones get validated in seconds. Bitcoin uses a hash algorithm to encrypt, while Ethereum uses ethash. Bitcoin strives to be an alternative to fiat currencies, while Ethereum aims to facilitate peer-to-peer contracts.
As you start to grasp, all the important rules are defined by the protocols – consensus, validation, and participation in the network. That’s why every cryptocurrency is different and unique, even those based on Bitcoin.
If you think about it, you’ll realize that you’re already using one protocol without even knowing it. I’m talking about BitTorrent, which allows us to send files through a torrent application, which runs the BitTorrent protocol.
What is the difference between coins and tokens?
Now when we know what blockchain and protocols are, we can explain the difference between coins and tokens. We said already that most people often use them interchangeably. As you would see, there is a difference between the two, even though it’s not as blaring as between Bitcoin and the blockchain.
If we have to divide cryptocurrencies into groups, we would have:
- Bitcoin and Altcoins/coin
- Tokens
The name “altcoin” comes from alternative coins. All cryptocurrencies created after Bitcoin are altcoins. For example, Ripple, Cardano, Monero, or Litecoin. Sometimes they are simply called “coins” for short.
Most altcoin cryptocurrencies are build using the original Bitcoin protocol. That doesn’t mean that they are identical with Bitcoin. The developers have made changes in the code, which results in a new coin with new features, which bears a similarity to Bitcoin. Examples of such coins are Litecoin, Bitcoin Cash, and Namecoin.
Others, like Ethereum, have their unique blockchain and protocol, which doesn’t have anything to do with Bitcoin. They also offer some additional features, which we are going to discuss later.
What are coins?
So, coins are the native digital assets of their blockchain. In simple words, Bitcoin operates on the Bitcoin blockchain following the Bitcoin protocol. It can’t function or operate on another blockchain like Ethereum. That’s why, if you want to buy something with bitcoins, you can’t do it on Ethereum. You’ll have to convert the bitcoin into Ether.
Since most altcoins follow the steps of Bitcoin, they have the same goals as Bitcoin – to function as money. In other words, they are a unit of account, a store of value, and a medium of exchange. You can store them if you like and wait for their price to go up and then sell. You can use them to buy goods, or you can exchange them for other digital currencies.
However, some altcoins like Ethereum doesn’t function simply as currencies. And here is where tokens come into the picture, and things get complicated.
What are tokens?
Tokens exist on top of another blockchain, so they are not a separate currency with its own blockchain. While “coins” are used to purchase goods or pay for services, tokens can represent anything tradable – a utility, an asset or both. Also, coins can exist independently, but tokens can’t.
Usually, people create tokens on the Ethereum platform, but you can also use NEO or Waves. Unlike “coins” like Bitcoin, which require significant processing power to mine, tokens are easy to create by following the provided template on the platform. Even someone with little programming experience can do it, as long as he is ready to try.
However, to build tokens, you need “coins.” Did you get confused already? Let’s illustrate. If you want to make a token on Ethereum, you’ll have to spend some Ethers (the native digital asset of the Ethereum blockchain) to validate the creation. You’ll also have to pay fees if you want to send the token to someone else.
But why would someone go through all the trouble of creating tokens? Well, most tokens are used in decentralized apps and smart contract. We’re going to talk about them shortly. But first, let’s answer another question.
Types of tokens
As we said, tokens can represent almost anything that can be traded. We can distinguish the following types of tokens:
DAPPs and smart contracts
We all know what apps are. You probably have tons on your computer and mobile. Decentralized apps are similar, but they run on a decentralized network, rather than a single computer, and they are connected with the blockchain.
For one app to be called decentralized, it must have the following qualities:
An example of DAPP is Augur, a prediction market built on top of Ethereum. You can learn more about it here.
A smart contract can help you transparently exchange almost anything valuable without the need of an intermediary. Think of them as vending machines, which execute the instructions (terms), written in the code.
They are similar to ordinary contract because they define the terms of the contract and penalties in case of infringement. But unlike tradition contracts, obligations are enforced automatically. Keep in mind that whatever deals you made with smart contracts, they will be tractable and irreversible.
Let’s summarize. Protocols are the rules that define a blockchain. Coins are cryptocurrencies, which shares similarities with fiat money, while tokens give users certain privileges and are used in smart contracts and DAPPs.
While it might seem a little complicated at the beginning, it’s easy to figure out which cryptocurrency is a coin and which a token. Go to coinmarketcap.com and click on the coin you want. In tags, you’ll see if it’s a “coin” or a “token.”
Did you understand the difference between coin, token, and protocol? What do you think about cryptocurrencies and their future? Your opinion is important to us, so don’t be shy. And don’t forget to like and share the article with your friends.
