Have you ever heard of coin burn or token burn? I think you should hear it, as it is the most common event by many professional crypto companies and miners around the world.
But! Why do they burn coins or tokens? What happens when they burn cryptos? Moreover, what is coin burn or token burn? Let’s find answers to these questions in this post.
What is coin burn or token burn?
Coins and tokens of some cryptocurrencies are burnt regularly. During burning, a predefined portion of coins or tokens, are removed from circulation.
In simple words, some coins or tokens are taken back from circulation during coin burning or token burning respectively.
How are coins and tokens burnt?
During the process of burning, the coins or tokens are sent to a wallet address whose private key is unknown. The wallet’s address is called “The burn address”.
In simple words, during burning, the coins or tokens are sent to an unidentified wallet address whose private key is unattainable.
The coins or tokens stored in the so-called “Frozen wallet address” are unattainable and cannot be recovered or used for any transactions further. As a result, these coins and tokens become useless and are indirectly removed from circulation.
One classic example is Ethereum’s “the dead wallet address”, or “0X0 address” ( Address: 0x000000000000000000000000000000000000dEaD). Any ether sent to the above address is lost and cannot be reversed. This is one way how Ethereum burns its ERC tokens.
Usually, the parent company will burn the reserve coins or tokens they hold. In some cases, the company may buy back the coins from exchanges and may burn them.
Why do they burn coins or tokens?
Coin burning or token burning has many advantages and functions in the cryptosystem.
Some companies do coin burning as an event while others burn them at regular intervals. For example. Binance has been burning its tokens regularly.
Here are the reasons why coins or tokens are burnt.
Returns for the investors
Why do we buy crypto assets, so that they would appreciate, with time, right? One way of appreciating a crypto asset’s value is by burning.
When a company burns its coins or tokens, the number of coins or tokens in circulation will decrease. As a result, the demand will increase. This in turn will appreciate the price. Hence the investors would get decent returns in the long term due to an increase in demand and decrease in supply.
To maintain a stable coin’s peg with fiat currency
Coins are often burnt to maintain their peg with the fiat currency. For example, the Tether (USDT) stable coin is pegged with the American dollar. Let us think that due to huge demand the price of the coin has increased. This may result in an imbalance between the total value of coins present and the total amount of fiat currency pegged as a reserve.
To balance them again, the USDT officials will burn a few coins. This helps in stabilizing the coins to the pegged currency.
Usually, the Tether tokens are burnt at the Tether treasury. In 2018, Tether has burnt 500 million stable coins in the Tether treasury.
Similarly, in reverse condition, new coins will be minted, if the value of USDT decreases by a major proportion.
Proof of burn mechanism
Proof of burn is an effective consensus mechanism where the miner will get mining rights by burning their coins or tokens.
It is thought to be an energy-efficient mechanism and much better than proof of work.
In simple words, in this mechanism, the miners will burn their coins or tokens to get mining rights.
Burning coins or tokens do appreciate its value with time. They work on supply and demand theory. Hope you understood why coins and tokens are burnt regularly. In case of any doubt or question, do comment below, we are happy to help you out. If you like the post, do share it with your friends.
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