Kryptolesson #17

What are NFTs?

A Non-Fungible Token (NFT) is a unique blockchain-based record that identifies pieces of different media. The underlying media can be anything digital such as art, memes, gaming items, music, videos or simply a piece of code. The term Non-Fungible Token is a somewhat clunky, particularly since most people tend to be unaware of the fungibility of certain objects in the physical world. However, this is an important technical distinction when it comes to how an asset is represented on a blockchain. In the context of money, fungibility refers to its mutually interchangeable or indistinguishable nature where holders are typically indifferent between holding one or another (e.g. a $1 dollar bill or another $1 dollar bill, or 1 ounce of gold or another 1 ounce of gold). Likewise, Bitcoin is also a fungible asset since it can be exchanged with one another for the same value. In contrast, non-fungible refers to the fact that no two items are alike and cannot be be replicated.

The token part of the name is derived from the fact that all NFT transactions occur on the blockchain. While NFTs often represent off-chain assets such as digital art that is freely copyable and not provably scarce, each one NFT would still be considered a 1 of 1, because of their unique digital signatures. Since NFTs are traded on public blockchains, they inherit all the advantages offered by these permissionless, borderless, censorship-resistant networks. Hence, they allow anyone to issue, own or freely trade them. Once “minted”, that is, issued on the blockchain, NFTs cannot be edited or deleted and can be viewed and audited publicly. A given NFT issuance may consist of a single token (e.g. artworks) or it may comprise millions of tokens (e.g. gaming items).

There is a common misconception that in the digital world, copies are indistinguishable from originals. While this is true in a broader sense, e.g. when it comes to copying the visuals of an artwork, it no longer holds when taking into account unique on-chain features of NFTs such as smart contracts, age or ownership history.

CryptoKitties ↗, an online game that allowed users to buy, trade and breed cats with desirable traits, was one of the first projects to use NFTs. The unique information of a CryptoKitty NFT was stored in its smart contract and recorded on the Ethereum blockchain as an ERC-721 token ↗ – Ethereum’s token standard for NFTs. In 2021, NFTs first received broad media attention when “Everydays: The First 5,000 Days”, a digital artwork created by Beeple, sold for $69.3 million ↗ at a Christy’s auction. Meanwhile, NFT collectibles such as Axie Infitiy, CryptoPunks and NBATop Shot have generated billions of dollars ↗ in sales. NFTs typically gain value when displayed, used or traded within vibrant and growing communities. The success of the above collectibles cannot belie the fact that as with most art and tokens, there will be a long tail of NFTs that have very little value.

For creators, NFTs offer a range of significant benefits over traditional art and music. For example, smart contracts ensure that the original creator receives perpetual royalties from secondary sales. NFTs also offer much better economics for their creators when they cut out rent-seeking intermediaries. They not only provide artis with the opportunity to monetize directly but to connect directly to their fans.

Enabling digital uniqueness and strong digital property rights, NFTs will also play a key role in creating a true metaverse ↗ which is a persistent virtual space with its own economy where people can be creators, players and fans and engage with each other. Thanks to NFTs, people can own their internet-native and digital items for the first time, with many of them being able to make a living from within virtual environments. For example, NFTs allow gamers to earn money from playing computer games as part of the “play-to-earn” business model.

NFTs open up additional possibilities for creators, collectors and owners thanks to their programmable nature. Among many other things, they support fractionalized ownership ↗ which can make NFTs more accessible for users, particularly with respect to high-value items that otherwise wouldn’t have been affordable for certain collectors. Owners will also be able to earn royalties from lending out their NFTs or be able to use them as collateral and borrow against them. Other appealing use cases include programmable art where a piece of artwork can incorporate on-chain data to dynamically update certain features or characteristics of the work. Elsewhere, there are countless creative possibilities regarding social tokens that offer tokenized programmable access to communities (e.g. Discord channels), newsletters or other exclusive content.

Photo by Pietro De Grandi