Token burn is the process by which digital currency miners and developers remove tokens or coins from circulation, thereby reducing the total circulating supply of coins. Once the coins have been mined, it’s virtually impossible to control the flow of tokens. This explains why the removal of coins must begin at the mining level. To remove tokens, miners and developers acquire the tokens and then send the tokens to specialized addresses that have unobtainable private keys. Of course, without access to private keys, the coins become useless. No one can access these tokens to use them for transactions. Thus, the coins become unusable.
Why Token Burn is a Good Thing?
Why would miners want to remove coins from circulation? What is the benefit of reducing the circulating supply? The law of supply and demand teaches us that a good becomes more valuable if the supply is reduced while demand remains constant or increases. If miners can reduce the circulating supply through coin burn, the price of the token will rise as long as demand does not decline.
The cryptocurrency community is certainly not the first to discover coin burning. This concept is fairly similar to the idea of publicly traded companies buying back their own stock. These companies use cash from their balance sheets to buy back shares of common stock, thereby reducing the total shares. Stock buybacks have grown in popularity over the past several years. It has proven to be extremely effective at improving earnings per share and increasing the price of the underlying stock.
Token Burn Does Not Guarantee Increase in Price
In theory, coin burn should eliminate the number of outstanding tokens. However, the burning of cryptocurrencies is no guarantee that the underlying price will increase. It does not even necessarily reduce the total number of tokens outstanding in circulation. Bitcoin is a perfect example of why coin burning may not work. For example, the number of BTC is capped at 21 million tokens. Most analysts believe that this cap helps to contribute to the value of BTC. However, the problem lies in the fact that Bitcoin has created new tokens in several instances because of hard forks. This explains how Bitcoin Cash, Bitcoin Gold, and other spinoffs were introduced. Thus, the idea that Bitcoin is a scarce asset is somewhat debatable.
Even though some members of the crypto community remain skeptical, there is no indication that coin burn will be eliminated at any time soon. Most likely, coin burn is here to stay.
Brief Summary of Token Burn
- Token burn occurs when miners remove tokens and coins from circulation.
- Coin removal occurs when miners send tokens to addresses with no private keys.
- Reducing the token supply decreases the circulating supply.
- The crypto community cannot take credit for introducing coin burn.
- The original concept of coin burn began with corporate buybacks of common stock.
- Burning tokens and coins is no guarantee that prices will rise.
- Hard forks could prevent coin burn from accomplishing its intended purpose.