Ethereum has become the base layer of blockchain infrastructure for many protocols and decentralised apps. ERC-20 tokens have played a key role in this development, so it’s worth learning about what ERC-20 tokens are, how they work, and why we need them.
What are ERC-20 tokens?
ERC-20 tokens are standardised tokens on the Ethereum blockchain. The ERC-20 standard defines tokens as fungible, meaning they can be exchanged for one another without an issue, the same way you’d be able to exchange dollar bills. ERC-20 tokens adhere to a standardised set of rules about the token itself, such as how tokens are transferred, how transactions are approved, how users can access data about a token, and the total supply of tokens. That makes ERC-20 tokens interoperable and simple to use.
New crypto projects use ERC-20 tokens to represent the value of their project and fulfil certain utilities within their ecosystem. Each token has its specific utility that is defined by the project.
How do ERC-20 tokens work?
ERC-20 tokens are assets on the Ethereum blockchain, and you can send and receive them with an Ethereum address. They’re different from Ether, the native coin of the Ethereum blockchain, since Ether is used to pay for the transaction to transfer ERC-20 tokens. That makes them also different from other assets, such as bitcoin, which are running on the Bitcoin blockchain.
Essentially, ERC-20 tokens are a standardized representation of value on Ethereum.
Why do we need ERC-20 tokens?
First and foremost, the ERC-20 standard makes the creation of new coins easy. Before the introduction of a token standard, each token would have its own code. This would make it incredibly hard to compare tokens and limit interoperability. For instance, exchanges and wallets would need to accept different standards since each project was free to have its own token code.
Think of a world where not all companies use Visa or Mastercard as credit card standard, but there are many different credit cards, each with its own specific technical attributes. That would force shops and websites to accommodate many different standards and make credit cards incredibly unattractive.
ERC-20 paved the way for interoperability between tokens and boosted the popularity of Ethereum in a big way. When ICOs (initial coin offerings) became popular in 2017, most projects would use the ERC-20 standard to issue tokens in an effort to raise money. This boosted the value of Ethereum, which traded around $8 in January 2017 and has since exploded to over $3,500 in September 2021. ERC-20 was also a boon for mainstream acceptance of cryptocurrencies, since companies finally had a way to offer features to users or claim revenue from their projects. For instance, the DeFi industry is built on ERC-20 tokes and was able to build DApps (decentralised apps) that are piggybacking off the underlying technology. Without a single token standard, it would have proved impossible to have the type of “money lego” architecture, where different projects build on top of each other and interoperate with each other seamlessly.
