How to design the tokenomics for your ICO?- Part 1
Blockchain and ICOs are going through an amazing phase over the past few years. Today, ICOs are one of the most sought-after ways for Blockchain startups to raise capital for their business. Until the first quarter of 2018, the total funds raised through ICOs sums to $6.3 billion, which is 118 percent of total funds raised in 2017. The growth of ICOs is mind-blowing, attracting many entrepreneurs and companies towards it every day.
The most important element for any blockchain based project or an ICO is the token economics or otherwise known as “tokenomics”. In this article, I will explain how to design a tokenomics model for your project.
What are tokens and tokenomics?
Decentralization is one of the inherent properties of a blockchain based project and there will be different types of participants in it. The transfer of value happens between the participants and the factor of trust is established in the system using the crypto tokens and their transactions. Participants can take advantage of the project only when they take part in the turnover of tokens. For example, STORJ is a utility token which is used by the users of Storj platform for using the different functionalities in it.
Let’s say if you want to tokenize your project, you have to define the total number of tokens you will create. The total number of tokens should be defined based on the following rules.
- The total count should not be too high such that the high supply results in a low value for the token
- There should be enough tokens available so that potential customers can purchase it from you
- The value of the token should be optimal based on the utility it serves.
By considering the different aspects of your project like the business plan, potential market, projected market penetration, token utility etc. you can decide on the numbers in your token model. That is what tokenomics is all about. How the token is going to create value through the token movements inside the project. Let us see in detail about tokenomics.
Token functionality
If you want to tokenize your project then you have to give answers to the following questions.
- Who uses the tokens in your project?
- Why should they use the tokens?
- How can they use it in the project?
The answer to the above questions sums up your token functionality. As an example, binance raised their funds using ICO by selling the binance tokens. The traders in the binance exchange use the binance tokens because they can pay the transaction fees using it. Once you have a clear idea of the token functionality, you can define the token distribution.
Token distribution
Token distribution accounts for every ‘in and out’ flow of tokens in the system. Think about the different ways the token can be pushed to the market for circulation and how it will return back to the system. The goal is to hold the in/out flow in optimal volume so that the token can hold the token model in the long run. For example, a token model where users are forced to cash out the tokens will not sustain in a longer run. The utility of the token should persuade the holders to keep the tokens and not to cash out immediately.
Token workflow
Once you have defined the functionalities of the token and the token distribution, you can put it together to build a lower level token workflow model. It depicts the possible flow of tokens between different participants of your system and the potential velocity of the token flow. The utility of tokens for each participant determines how long they are going to keep it or pass it to other participants or cash it out. Once you define the complete token workflow model, you can identify potential dead ends for the token flow. When you have the token workflow defined, you can start working on the ‘numbers’ for your ICO.
Let’s get used with a few terms to appreciate the basic rules in defining tokenomics:
TS: Total circulating token supply — total count of token you create and circulate in the market.
P: Current price per token
HT: Hold time of a token in Ecosystem- average time a participant is holding a token
TV: transaction volume per year
TT: transaction time- the time required for completing a transaction
TMCAP: token market cap = TS * P
R= TV / TMCAP = ratio of transaction volume to transaction market cap.
R1 = R / TT
R2 = R / HT
Following are the rules that you should focus on while designing the tokenomics.
The value of HT should be as high as possible
As stated before, immediate cash out of the token will result in collapsing the value of the token. You have to identify the type of participants who are most probable in cashing out the tokens. Build more utilities for them so as to encourage the hold time. Overall, the high value of hold time can increase the token demand and token value in the market.
The value of R should be as low possible
Suppose your system has an annual turnover of 100 million and there are1000 million dollars in tokens. The lower is the value of R means there is an upward pressure in the token value. We can say R is inversely proportional to token’s value. However, R is not taking account of TT or TH which are also factors affecting the token value.
The value or R1 and R2 should be as low as possible
Transaction time should be optimal and hold time should be as high as possible so that the token value will have an upward pressure to increase in the value. As the hold time increases the value of R2 decreases. Likewise, the higher the transaction time means lower the value of R1. Lower values of R1, R2 brings transaction volume to transaction market cap ration lower and this results in an increase in token value.
Understanding and defining tokenomics of your project can be quite overwhelming. But the good thing is that you don’t have to perfect it in the whitepaper stage of your ICO. Once you have initial tokenomics, you can perfect it over time by close analysis of how your token is performing in the market and how people are accepting it. Then you can strategize your operations to optimize token utilities and value. In the next article, we will see the methods for defining the number for the hard cap and token value for a token model.
