When a cryptocurrency community decides that they want or need to destroy units of a specific cryptocurrency, they use a process called coin burning. Burning crypto is the process that effectively takes those tokens out of circulation, reducing the total supply of that coin and in some cases increasing demand.
A crypto coin burn is similar to a stock buyback. That’s when the company that issued the stock buys back a number of shares and reduces the total number of shares on the market.
While a coin burn can bump up the value of a certain cryptocurrency, there are no guarantees that this process will increase the price, or (if it does) that the price won’t then decline. In fact there are several other reasons developers might choose to burn coins.
What Is Crypto Burning?
So, what does burning crypto mean exactly, given that all “coins” are digital and exist via blockchain technology?
First, think about how crypto gets bought and sold. Traders can exchange crypto by sending it to and from a crypto wallet, using their private keys. To execute a coin burn, users send their crypto to an “eater address,” or a burn wallet, which is a crypto wallet that only receives tokens, but can’t send them. Thus those coins are effectively locked up, and taken out of circulation.
That transaction, confirmed on the blockchain ledger, makes the coin burn permanent and irrevocable.
6 Reasons for Burning Crypto
There are a few reasons why different cryptocurrencies might want to burn coins. Some projects include this process from the beginning, as part of the protocol itself, while others choose to take it on in some form later down the line.
With the rise of decentralized finance (DeFi) protocols, coin burning has become more common. Here are some cases when coin burning makes sense.
1. As a Consensus Mechanism
Some coins use proof-of-burn (PoB) as a consensus mechanism on the network. This requires both miners and users to burn some of their coins on a regular basis. Proponents of this method consider it an efficient way of verifying transactions because it does not use any real-world resources.
There are several specific methods of using this consensus mechanism, such as:
• In a PoB network, miners have to burn some of their coins to mine new blocks. It sounds counter-intuitive, but miners then receive rewards in the form of new coins, when they verify a new block of transactions.
• Some coins require the burning of a different cryptocurrency in exchange for new tokens on the new network. Miners might have to burn Bitcoin, for example, to earn another coin.
• Some blockchains use more complex forms of PoB, such as burning native tokens in exchange for credits. Holders can then use those credits to perform a function on the blockchain. Sometimes this involves constant minting of new coins and burning of a portion of the coins.
2. To Protect Against Spam
Coin burning can help protect a network from Distributed Denial-of-Service Attacks (DDoS), and stop spam transactions from slowing down the network. Here’s how: Just as Bitcoin users pay a small fee for sending transactions, or Ethereum users pay a gas fee for smart contract computations, some networks require that miners/validators burn the fees they get for transactions.
This mechanism can automatically burn a part of each transaction that gets sent. Ripple (XRP), for example, uses this method.
3. To Increase a Coin’s Value
The basic economic law of supply and demand dictates that if the supply of something decreases, then the price will have to rise, assuming demand remains constant. This is part of the reason that Satoshi Nakamoto (the pseudonym used by the person or people who created Bitcoin) programmed the Bitcoin protocol to “halve” every four years, which reduces the block reward for miners by 50%. Thus, fewer bitcoins enter circulation.
The destruction of coins can serve a similar purpose. Burning coins reduces the supply.
While fiat currencies are inflationary in nature and central banks can print them in unlimited amounts, some cryptocurrencies are deflationary in nature and have fixed supply limits. Bitcoin has a supply limit of 21 million coins.
The more people who want to buy, hold, or use Bitcoin, the faster the price will tend to rise because there are only so many coins to go around. As long as the demand stays constant and the supply remains limited, the price of Bitcoin may keep rising compared to any fiat currency. Past performance, of course, being no guarantee of future results.
For other cryptocurrencies, engaging in coin burning can sometimes be an effort to manage supply in a way that increases scarcity and tries to mimic Bitcoin’s supply and demand dynamics.
4. To Keep Stablecoins Stable
Coin burns can be necessary in the case of stablecoins, because burning a certain portion of the supply can help the stablecoin stay pegged to its fiat currency (like the dollar).
For example, if demand for a stablecoin rises and the price goes above its dollar peg, the protocol’s smart contract will automatically issue new tokens to bring the price down — or burn coins to drive the price up so its dollar peg remains constant.
5. As a Sign of Long-Term Commitment
The owners of a crypto project sometimes burn coins on their network as a show of commitment toward scarcity. Maintaining a certain degree of scarcity (see Bitcoin, with its 21 million cap) makes everyone holding those coins a little richer. Owners may accomplish this through a burn mechanism, providing periodic burn schedules, or as a one-off event.
Some investors view this strategy as a way to keep a coin’s value growing, and thus it may help investors feel more confident about staying invested over the long term.
6. To Promote Mining Balance
In some cases, the PoB system can establish the burning of crypto on a regular cadence that helps maintain a balance between new users and early arrivals — e.g. the first and sometimes the biggest investors on that platform.
That’s because the PoB consensus mechanism, which requires burning coins to validate transactions, helps to stimulate the mining of new coins. So this permits a balance between the new users and the old guard.
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Pros and Cons of Burning Crypto
Obviously, crypto burning has some upsides for the platform and for certain users, but as more projects embark on coin burnings, it pays to keep the downside in mind as well.
Pros of Burning Crypto
• Coin burning may enhance a crypto’s value by limiting the supply. An uptick in price isn’t guaranteed from a coin burn, but it has happened — although a drop can also follow.
• Burning coins can help control inflation for a particular crypto, e.g. stablecoins.
• Using proof-of-burn as a consensus mechanism is a low-energy way to validate transactions and create new coins, while keeping the supply in balance.
• Related to the above, proof-of-burn can help protect the network from being hacked.
Cons of Burning Crypto
• A coin burning may have little or no impact on long-term price.
• Sometimes a coin burning can be faked, and developers use the “burn” to send coins to their own address.
• Rather than decreasing supply and increasing demand, sometimes burning coins can turn investors off if they feel manipulated or lose confidence in the project.
|May increase demand for a coin, and the price may increase.||The burn may have little or no impact on the price.|
|Can help curb inflation for a particular crypto.||A coin burn can be faked.|
|PoB is a low-energy consensus mechanism.||Investors may lose confidence in the crypto after one or more coin burnings.|
|May prevent fraud in the network.|
Different Types of Coin Burning
Coin burning typically falls into one of three categories:
1. Coin Burning at the Protocol Level
The proof-of-burn consensus algorithm discussed earlier falls into the first category. Blockchains that use PoB have coin burning built into their protocols. This means burning is an intrinsic part of the network and takes place consistently so long as the coin continues to function.
Using coin burning as a spam-protection mechanism can also occur at the protocol level. As mentioned earlier, transactions must have a cost to prevent the network from being spammed with fake transactions. One way to accomplish this is to automatically burn a portion of each transaction fee.
2. Coin Burning as Economic Policy
The second category involves developers who might decide to burn coins in order to control the supply of coins in order to manage inflation.
One example might be the deliberate destruction of unsold ICO tokens. The creators of a new project might have created X number of coins hoping to sell them all, but failed to meet this objective. In such a scenario, the developers could choose to burn the excess coins to maintain a specific level of supply.
3. Coin Burning in Lieu of Dividends
Some projects might also use coin burning as a sort of dividend payment to coin holders. If the owners of a token have a business that generates cash flows, like a crypto exchange for example, token holders could receive rewards through coin burning.
In a boon to those who’ve chosen a HODL strategy, the owners could buy back tokens from holders and burn those coins, thereby increasing the value of everyone’s crypto. This might occur in lieu of traditional dividends which might trigger securities regulations. The burn process could occur as a one-time event or a regularly scheduled one.
History of Crypto Burns
As noted above, it’s likely that the process of burning coins to limit the supply and increase demand comes from the long-standing Wall Street tradition of stock buybacks to improve share price and reward shareholders. In the case of crypto coin burns, though, the reasons can be more complex.
Different Reasons for Burning Crypto
These days there’s nothing unusual about a coin burn. And there have been several well-known coin burns, generally starting in 2017. Some of them were at the protocol level (meaning, the burn or burns were built into the project itself), and some burns were executed in order to limit supply and raise cash — or in lieu of dividends (as noted above).
• In 2017, for example, Binance Coin (BNB) began its series of quarterly burns. BNB launched with 200,000,000 total supply, and will continue on its burn schedule until 100,000,000 coins are burned — or 50% of all BNB in circulation. BNB’s 20th burn occurred on July 13, 2022.
• By contrast, Bitcoin Cash (BCH) had a coin burn in 2018 that drove up the price temporarily. And Stellar (XLM) held a one-time burn of 50% of its supply in November of 2019. This was with the express intent of limiting the number of coins and increasing demand.
• More recently, Ethereum made headlines when the platform burned more than 2 million of its Ether tokens in March 2022: The burn was worth nearly $5.8 billion. This burn was automated, however, as part of an earlier fork of the Ethereum blockchain that laid the stage for this coin burn: EIP-1559.
The Increase in Coin Burning
While some view burnings with a skeptical eye, there’s no arguing that this strategy has become more popular — particularly for new crypto that launch with a big supply.
One tactic investors will note is that a new crypto might launch with upwards of a billion or even a trillion coins, typically worth a fraction of a penny, with the intention of later burning some of that excess supply in order to drive up prices.
Shiba Inu Coin Burn
The case of Shiba Inu’s burn strategy, or burn controversy, is a good example of how some platforms try to manage a vast circulating supply, a very low price, and investors eager for profit.
Shiba Inu (SHIB) is worth $0.000019 as of August 3, 2022, with a total supply of about 549 trillion SHIB. The coin burn conducted at the end of July 2022 only burned about $13,500 worth of SHIB, or 0.0002% of its supply.
While SHIB has a loyal cadre of investors, some question the merits of the SHIB coin burning.
Cryptocurrency Investing Today
Burning coins involves taking them out of circulation and destroying them forever, permanently reducing the available supply of that token. The exact reasons for doing this can vary, from platforms that essentially program coin burns into their protocol, to crypto developers that simply want to see a price bump.
Although the crypto community generally views coin burns as more positive than negative, there is still a great deal of skepticism about coin burns. Different types of cryptocurrency use coin burning in different ways, and it’s important to understand the approach of any crypto in which you’re considering investing.
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What are crypto burns?
Crypto burns, also known as coin burnings, are when a project decides to take a certain number of coins out of circulation.
Why do crypto burns take place?
There are several reasons. Two common ones: The coin burn is part of the platform’s overall protocol and is predetermined. In another case, developers burn coins to limit supply and potentially increase demand. It’s a good idea to look into why a coin burn is happening to understand the impact on the crypto overall.
Can burning crypto increase its value?
Burning crypto might increase its value, but it’s not guaranteed that it will. One thing that’s clear from looking at the performance of different coins after a burn: even if the price bumps up, there’s no guarantee it will stay there.
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