Whether you’re learning about blockchain, exploring web3, or investing in cryptocurrencies. ERC20 tokens and their standards are often a topic of debate and discussion among web3 enthusiasts.

These assets help in making decentralized applications, i.e. dApps, that interact on different platforms simultaneously. We can buy and sell them on different types of exchanges, and we can store them in wallets without writing any custom code for each token or asset.

If a few of the above words aren’t familiar to you, don’t worry. Because in this article I’m going to briefly cover Ethereum, the ERC20 token development standard, and everything in between.

Ethereum blockchain

At its core, Ethereum is an open peer-to-peer network of nodes or computers. The Ethereum Virtual Machine (EVM) is installed on network nodes to run these small computer programs called contracts. Despite significant differences, the basic ideas behind the Ethereum network and Bitcoin are the same. Similar to Bitcoin, there is no central authority in the network.

Participating individuals facilitate the transfer and recording of transactions. They then mine the blocks to store all critical data in the blockchain. These blocks are protected via cryptographic hashes. Unlocking these blocks requires a lot of computing power.

This constraint and honest nodes control most of the computing power. It in turn ensures safety from potential hackers. This is why blockchains like Ethereum are immutable. Once we write something on the blockchain and hash it, we can’t change it.

The basic structure of blockchain

Ethereum, in contrast to Bitcoin, offers tools to create decentralized applications (dApps). These dApps use the programming language Solidity. These dApps may offer their tokens to those interested in the project as proof of ownership.

Ethereum inherits all the features of the Bitcoin blockchain. It has been developed and improved by incorporating smart contracts. Various network standards such as ERC20, ERC721, and ERC1155 are frequently adopted to make the network more robust.

Token

A token can be defined as a digital item that is valuable to us. They represent some value. The value of a specific token’s suppression depends on the purpose it serves for the project for which it was coded or created.

Tokens and cryptocurrencies are not always similar. Their use cases define whether they are the same. But they are assets that we can hold or use to gain ownership and so on. There are many types of tokens used for different purposes, each of which quantifies something of value.

Token type

utility token

Utility tokens can be thought of as coupons that people can use as a medium of exchange to take advantage of the benefits of a service or purchase a product. These tokens are not investment instruments and may lose value at any time. You can get a service or product with the same value as the utility token, but you don’t own it yourself.

For example, consider going to an adventure park with many rides and games. You buy tokens for the games or any rides you want to play. You buy a ticket with your physical money. In this case, the ticket you purchase is a utility token that you can exchange for time spent in the adventure park.

Security Tokens

Security tokens are secure cryptocurrencies. Their value depends on external assets that we can trade under the supervision of financial authorities. Stocks, bonds, derivatives, etc. are a few examples of such assets regulated by the Securities and Exchange Board of India (SEBI).

They often maintain transparency to ensure equity ownership, dividend income and voting rights. They facilitate instant settlement and division of assets.

Pay Tokens

They represent all cryptocurrencies and most tokens. These tokens help us buy and sell things digitally without any central authority like a bank. Bitcoin (BTC) and Ethereum (ETH) are examples of popular payment tokens.

Redeem tokens

As the name suggests, these tokens can be sold, purchased, and exchanged for tokens on the cryptocurrency exchange market. They serve as a universal standard for exchange or gas payments for all transactions, i.e. payment for the computing power we use.

Exchange tokens include Binance Coin, FTX Coin, Uni Token, and CRO.

Non-Fungible Tokens (NFT)

NFTs allow multiple stakeholders to share assets with unique value. It is comparable to collecting watches, paintings, antiques, or other works of art. But the only difference is that there are more people. The best NFTs are those that have high value due to their uniqueness and belong to a single individual or a small group of people.

Artists can create NFTs for their artwork and sell them digitally through NFT marketplaces OpenSea, DeCentraland, Foundation, and more.

Stablecoin

The value of these coins does not fluctuate and remains stable. This is because these coins are backed by fiat currencies like the U.S. dollar, and euro, and commodities like gold, silver, and oil. The supporting entity behind a stablecoin monitors and controls the exchange rate, or conversion rate, to maintain price stability.

Are standards needed?

ERC20 token

Before we understand what the ERC20 development standard is, we need to know why we need it. Let’s look at what ERC20 assets are and their use cases.

ERC tokens are nothing more than a way to demonstrate the value of something important. Tokens can also serve as incentives and a means to transfer wealth locally. ERC tokens exist on the Ethereum platform. Tokens are interdependent on Ethereum’s infrastructure**. **The native currency on the Ethereum network is Ethereum (ETH). Different tokens on the network serve as a currency, such as loyalty points, company shares, and gold certificates.

ERC20 has been widely used since the launch of initial coin offerings (ICOs) in 2015, which distributed an initial supply of tokens to several interested stakeholders, as well as builders to obtain funds for building projects. This is called tokenization, and it’s a changing face of the world of money and investing. Builders can use their tokens to participate in decision-making, and asset owners can also sell their tokens to express their dissatisfaction with the project if it does not meet their threshold progress.

smart contract

Smart contracts are small computer programs using the Solidity programming language that are used to create tokens. These programs create tokens and manage transactions related to them. They also manage the balances of token holders. To get some tokens, you send ether (ETH) to a smart contract, which then gives you a certain amount of tokens in return.

A smart contract cannot be altered after it has been created. This means that we cannot change the code of the smart contract. If there is a bug in our code that allows people to steal tokens or account balances are not recorded correctly. Well, the problem is unchangeable and we can’t fix it. This is why we must be cautious before deploying smart contracts to avoid any missteps or errors.

Then there’s the issue of interoperability. Each token contract can be different from the others, and if you want your token to be available on every exchange, they will need to write custom code to Engage in contract interaction and permit trades. The same applies to wallet providers. Writing custom code for each new token exchanged can be time and resource-consuming. These are the reasons for adopting this standard.

ERC20 standard

Ethereum has a public forum on Github that allows its participants to submit proposals and request changes to its blockchain to improve it. These proposals are Ethereum Improvement Proposals or EIPs. These proposals are discussed thoroughly by the community and, if adopted, they will be called an Ethereum Request for Comments, or ERC.

ERC20 is the 20th EIP since the forum began. Its origins provide a solution for creating interoperable tokens that can be used on any asset or token exchange and wallet without having to write custom code for each new token on Ethereum.

According to the ERC20 standard, there are 6 mandatory functions and 3 optional functions. Think of the ERC20 standard as a Java interface. If you want your token to be an ERC20 token, then your smart contract must implement these 6 enforcement methods.

Limitations of the ERC20 standard

Although people continue to use the ERC20 token generator on a large scale, it is not perfect. It still lacks a transaction management system.

• If a transaction occurs using the transfer function, the recipient will not be notified that he has received the amount.

• Another issue is that the smart contract can accept tokens even if it does not follow ERC-20. If a user mistakenly sends a token to them, the funds are permanently frozen and cannot be retrieved.

• Web3 developer Dexaran critically highlights the problems with ERC20

in conclusion :

Different kinds of tokens can be used for different purposes. ERC20 aims to improve interoperability by specifying 6 standards and 3 optional features that every token contract must follow so that it can be used on every exchange and wallet.