Blockchain industry observers know the cycle all too well: a new innovation or chain emerges onto the scene; early adopters embrace it in a trickle; then the masses adopt it in a flood fueled by countless media headlines characterizing the trend as a “craze,” or “fad,” surely to die off as suddenly as it arrived. We’ve seen this cycle play out with bitcoin, smart contract blockchains, and DeFi. And now, you are >here< again—with NFTs (non-fungible tokens).
It’s easy to see how NFTs are getting a fair amount of media attention and a dose of skepticism. To date, the focus has been primarily on adorable digital kittens you can trade and breed, artwork, sports highlights, even tweets being sold for amounts almost unimaginable to most of us.
But, the current focus and hype is missing the fundamental, and possibly future-changing value of NFTs and the decentralized processes and standards that fuel them. Let’s take a step back, understand what NFTs are, and take a look at what they can possibly enable for music, gaming, DeFi, and the average consumer today and in the future.
NFTs: Decentralizing Commerce as Crypto Is Decentralized Finance
NFTs can be defined as cryptographic assets with unique identification codes that are stored on a blockchain. Each is unique and cannot be exchanged equivalently, unlike bitcoins, which can be exchanged one for one since each is the same (and hence bitcoins are “fungible”). Most NFTs are based on the ERC-721 standard of the Ethereum blockchain, which tracks tokens’ unique identifiers to owners; whereas Ethereum-based tokens are based on the ERC-20 standard, where a ledger records balances, addresses, and transactions.
Most typically, NFTs are digital art, collectibles, music, land in digital worlds (the “metaverse”) and tokens with utility in gaming (such as shields, swords, etc. that have powers in the game). They can be virtually anything in digital form. They can have both flexibility and multi-utility: for example, an NFT can have a function within a game, but it can also enable players to earn through winning in the game or staking their NFTs into the liquidity pool. Animoca Brands’ F1 Delta Time provides a great example—their digital race car game enables users to compete for NFTs as well as REVV tokens, their main utility token and in-game currency. Users can also “stake” their tokens, or, temporarily transfer ownership of their NFT car to the game to earn passive REVV. The cars have varying levels of rarity, and the more rare the car, the more they can earn through staking.
NFTs can also be interoperable across different gaming platforms. Sorare, for example, has an NFT football trading card and fantasy football tournament platform. Recently, Ubisoft released a new game, One Shot League, based on the unique and scarce Sorare cards, making the cards interoperable between the platforms.
NFTs are “minted” (the process of taking a digital asset and representing it on the blockchain in tokenized form) and can be sold on a number of specialized NFT marketplaces (for example, sports-based NFT sites) or online auction houses. Their guaranteed uniqueness/scarcity is one element that drives higher prices (along with speculation, or the hope of considerable gain in value); this market-based dynamic is as old as economics itself.
Much like cryptocurrency, this mechanism for selling digital goods removes a central authority or middleman from the sales process as well as ensuring immutability of the record of sale, establishing the uniqueness and ownership of the item in question and ensuring the privacy of the buyer and seller. Royalties for the resale of the NFT are baked into the smart contract—while different marketplaces have differing terms, artists or owners can often select the royalties structure to earn a percentage each time their NFT is resold.
So, we see that NFTs hold much the same promise of immutability, decentralization, and privacy within commerce as cryptocurrency holds within finance. It brings sellers and buyers together, without middlemen, mega-retailers, or power brokers in control of digital rights taking a cut along the way or cornering specific markets. Through NFTs, DeFi projects are able to monetize their DApp tokens and create sustainable business models.
Today, NFTs are primarily used for selling digital assets and for building liquidity within specific blockchains. But, where might this capability lead in the future?
NFTs as Divisible, Broader in Scope
While NFTs are minted and sold primarily for digital assets, the same value proposition can be applied, though use cases are limited, to real-world assets, such as real estate, jewelry, real-world art—almost anything that can be bought and sold. Blockchains have the underlying capability to forever and immutably imprint ownership rights and providence, proving that a product is authentic, unique, and that is what it purports to be based on its ID on the blockchain. Products must be imprinted with digital identification, via QR codes, microscopic laser IDs, or unremovable near-field communications (NFC) tags, enabling them to participate in the digital marketplace.
If and when the underlying principles of blockchain-based commerce moves more aggressively into the realm of real-world objects, this could enable buyers and sellers to reduce overhead costs in the process, such as supply chain markups, agent fees, lawyers (since the contract terms are built into the smart contract), and reduce the constant surveillance of the consumer’s purchasing behaviors for marketing analytics typically done by large shopping portals. This is little different from hype around NFTs of today in many ways—while the digital art (or song, etc.) being sold is minted as an NFT, it was still created in some other system. Thus, the original still exists elsewhere, though the selling of it creates a provenance and ownership rights for the minted NFT. It is not a far leap to begin using the blockchain-based commerce system we see in use today for digital goods in the three-dimensional realm.
We should also expect to see the concept of interoperability continue to expand within gaming and DeFi. Through expanding partnerships, projects can increase the utility of their NFTs, and hence, value, expanding the users’ experience and broadening the reach of the NFTs created.
A new concept, “RFTs,” or, “re-fungible tokens,” was introduced in 2018 with the ERC-1633 standard (or, EIP-1633). The standard, which was merged into the official Ethereum EIPs within the past couple of weeks, can enable joint ownership and division of NFT assets. Using simple queries, it gives marketplaces like Opensea the ability to confirm whether an ERC-721 NFT asset was owned by an individual or group while preserving the integrity of the ERC-721 and ERC-20 standards. Though still new and with much to be resolved around whether/how it will be implemented by marketplaces and the ERC-20 community, as well as copyright questions, the possibilities of this are significant. In the realm of real-world objects, such as intellectual property, real estate, or very costly assets of any type, people would have the option to co-invest, divide assets, and share royalty rewards as the property is resold over time. The definition of NFTs often includes “cannot be divided into smaller units”; this newest standard addition may be cause for a change in how NFTs are defined.
The Value of Cats
It’s always difficult to predict whether any particular trend will continue, gain steam, or lose ground. We aren’t investment advisors, and aren’t recommending or dissuading readers from jumping into the NFT rush. We do, however, see the fundamental promise NFTs can bring to the decentralization of commerce. The mainstream media’s focus on NFTs is often centered on the dollar amounts and the collectibles that are drawing them. While the stories may not all include a deeper review of NFT value, these digital collectibles and their coverage are fortunate: they draw more mainstream users into the Ethereum ecosystem, moving us to a fuller embrace of decentralized finance and cryptocurrency. And, we think the kitties are pretty cute, too.